Approximately every decade or so, the market trades the best businesses to own long term down the most and in quite violent fashion.
Over roughly the last century of American capitalism, the market has demonstrated an especial penchant for doing so to commerce platforms.
It did so to Walmart in 1973-74. It did so to Lowe's in the 1980s. It did so to Amazon in the 2000s. It did so to MercadoLibre in 2008-2009.
And, today, once again, the market has curiously traded down one of the best commerce platforms on earth in something akin to a fevered, depressive panic.
Today, I will quantitatively demonstrate for you the irrationality behind this price action, and, in short, I believe Sea could prove to be a 10-bagger in the decade ahead.
Indonesia map
It's Easy: Concisely Articulating $Sea Ltd(SE)$ Thesis
Shopee remains the #1 ecommerce platform in SE Asia. It is the only profitable one. Lazada is the #2, and this is a Rocket Internet Startup that existed before Shopee but has since been surpassed by Shopee by a very long shot. Shopee is indisputably the best ecommerce platform in the region, and, again, it's the only profitable platform.
In the U.S., $Wal-Mart(WMT)$ $Amazon.com(AMZN)$ $Target(TGT)$ $Lowe's(LOW)$ $Home Depot(HD)$ $Dollar General(DG)$ grocery stores, and department stores have all co-existed and created trillions in equity value over the last 75 years.
In Latin America, $MercadoLibre(MELI)$ has co-existed with a host of rivals, including Amazon quite formidably in Latin America, and it has still done very well profitably. Notably, MercadoLibre only has 35% market share of total ecommerce GMV in Latin America, while Sea has 50% in SE Asia; yet there's no fevered panic over MercadoLibre's market share.
Sea has $7.7B in cash & equivalents; $3.3B in convertible debt. This is a massive amount of resources with which it can further dominate the aforementioned unprofitable and historically stagnant/inferior competition. Sea also generates robust free cash flow quarterly now alongside its giant liquidity position on its balance sheet.
Sea owns Garena, which is now returning to growth. This is like Sea's AWS (AMZN) in a sense, giving it an advantage over rivals. Garena could also experience sales growth in the future, especially in light of Free Fire being unbanned in India recently. Garena produces about $1B in annualized cash flows for the conglomerate.
Sea has a FinTech business (Sea Money) with about 60M users on the platform. This alone could be worth $20B to $30B, and Sea currently trades at ~$18B in enterprise value (preposterous in my opinion). This is a rapidly growing, free cash flow generative business that provides core financial infrastructure to SE Asia's digital economy alongside a couple other rivals, including GoPay (GOTO) and OVO (GRAB).
SE Asia has a very, very long runway for growth demographically. The region is still in the very early innings of economic growth and development.
Sea has demonstrated an ability to successfully and organically (meaning without acquiring) build new products and scale them rapidly. While it's built three incredibly successful franchises over the last decade or so, i.e., Garena (500M+ users and highly profitable), Shopee (#1 ecom platform in SE Asia and only profitable one), and Sea Money (~60M users and profitable), it's highly likely that it creates new and compelling products in the future as well, adding to the 20-30% annualized growth I believe the conglomerate will achieve in the decade ahead, once we emerge from the current rate hiking cycle and Asian economic woes broadly, both of which have served to, on some level, halt the growth of SE Asia's tech sector momentarily.
Lastly, SE Asia's demographics are very favorable for sustained, elevated growth for Sea in the decades ahead (depicted below).
I believe a 10 bagger over the next 10 years will be seen as base case for the business.
SE Asia Ecommerce Has Plateaued But Will Resume Growth In The Future
SE Asia ecommerce growth
We will discuss this last chart, which I believe to be central to the thesis (i.e., the slowing of SE Asian ecommerce is a near term headwind that will disappear in the future), later in this note.
SE Asia Has A Long Runway For Growth And Development Still Ahead
I understand that the data below is from 2017, but it's worth noting the total digital consumer TAM, as well as the projections for ecommerce growth, validation of which we can see in the ecommerce GMV chart shared just above.
se asia demographics
Over the last 5-7 years, Shopee's market share has grown within a rapidly growing ecommerce GMV TAM.
In a very worst case scenario, Shopee's market share may shrink, but, in light of the growth of SE Asia's ecommerce TAM, Shopee could very well continue to grow at elevated rates for decades to come.
Understanding The Share Price Dynamics For Sea Ltd.
I would say there's a number of approaches I could take to illustrate why Sea went from trading at $350/share to nearly $35/share as of today.
The same number of approaches could be taken in understanding why its retail predecessors, e.g., Walmart, Lowe's, or Amazon, likewise experienced fairly stunning share price declines early in their lifecycles.
Today, I will share with you data that, in my estimation, definitively delineates why Sea and many of the former market darlings have experienced such breathtaking declines over the last 18 months or so.
Let's start with the underlying market mechanisms that are not idiosyncratic to Sea. These mechanisms that we will review have created the declines we've seen from businesses like $Tesla Motors(TSLA)$ $Affirm Holdings, Inc.(AFRM)$ $Meta Platforms, Inc.(META)$ $Airbnb, Inc.(ABNB)$ over the last 12 months.
I've shared the following chart often, but it certainly bears re-sharing and repeating:
The Prices Of Equities Overshoot To The Upside And Overshoot To The Downside
intrinsic value vs share price
This chart is so ubiquitously shared and repeated on the internet for a reason:
It represents genuine reality of what you will experience in owning a given business/stock.
And we can see these precise dynamics playing out for Sea, as well as $Adyen N.V.(ADYEY)$ and many, many other businesses in the market today.
Roughly Depicting The True Intrinsic Value Of Sea Based On My Estimation Of The Growth Of Free Cash Flow Per Share
sea's intrinsic value
Roughly Depicting The True Intrinsic Value Of Adyen Based On My Estimation Of The Growth Of Free Cash Flow Per Share
Adyen's intrinsic value
The charts align almost perfectly identically with the "ubiquitously shared teaching chart," and this is no coincidence. This is perfectly how the market operates and prices equities.
"As it was in the beginning, is now, and ever shall be, world without end. Amen."
The market's pricing of equities overshoots to the upside (too much exuberance) and overshoots to the downside (too much despair), and it has done this since the dawn of asset markets. The Great Warren Buffett has the market's behavior in this respect as the behavior of a "drunken psycho," and we can certainly see and, for those that own Sea and Adyen, feel why.
Interest Rates & Growth Rates
To delve deeper into the underlying mechanisms driving the, as Mr. Buffett would call them, "drunken, psychotic" pricing dynamics of the market, we should consider how interest rates and individual company growth rates have impacted the valuations of Sea and Adyen.
When interest rates rise (i.e., the cost of credit in the economy rise), valuations decline, all else being equal (we will consider growth rates and their impact on valuations in a moment).
When interest rates decline (i.e., the cost of credit in the economy declines), valuations rise, all else being equal.
Below, we can see how a dramatic decline in interest rates created something akin to a "zero gravity environment" for the valuation of Sea (I will include Adyen as well to provide further context for this exercise).
Sea's Valuation And The 10 Year Treasury Rate
Sea's valuation
As interest rates have risen at the fastest rate in the history of America, the precise inverse has occurred:
Instead of a zero gravity environment for Sea, it has experienced 2x gravity for its valuation and correspondingly its stock price.
interest rate hiking cycle
Visual Capitalist
If we couple this dynamic with the natural tendency of humans in crowds to panic and flee (sell), thereby creating market crashes, we can better understand why Sea's share price has been in free fall, despite reporting a fantastic Q2, in which it generated very healthy free cash flow and GAAP net income, grew sales, remained the #1 and only profitable ecommerce platform in SE Asia, grew its profitable FinTech business, and stabilized/grew its gaming business' users.
We will explore Sea's quarter in following sections, but it certainly is worth noting in this valuation exercise that Sea reported an objectively fantastic Q2 2023 earnings. It could not have done better in my eyes.
Turning to Adyen, we can see precisely the same valuation dynamics, precipitated by higher interest rates, playing out.
Adyen's Valuation And The 10 Year Treasury Rate
adyen's valuation
In addition to the "next best alternative" math associated with higher rates and valuations, meaning that with a higher risk free rate, I require more yield on my equity investment, which suggests I need a lower valuation to buy, higher interest rates slow economic and individual business growth.
Because we've experienced the fastest rate hiking cycle in American history and because SE Asia reopened recently, after being locked down for years, ecommerce growth in SE Asia has been tepid relative to the last few years.
SE Asia Ecommerce Has Plateaued But Will Resume Growth In The Future
se asia ecommerce gmv
We will discuss this last chart, which I believe to be central to the thesis (i.e., the slowing of SE Asian ecommerce is a near term headwind that will disappear in the future), later in this note.
Growth Rates & Valuations
On my recent podcast, I noted that the market should not have priced Sea at $350/share based on 150%+ growth because that growth was unsustainable.
That is, in the same way it was improper for the market to price Sea at $350/share based on unsustainably high growth of 150%+, it's now highly likely that it's improper for the market to price Sea at nearly $35/share based on unsustainably low growth of 5%.
I would ask the market, "Do you think, perhaps, after hundreds of percent of ecommerce growth in the span of 24 months, there will be a receding of this demand? Might difficult year over year comps have something to do with the slowing growth? Might the fastest interest rate hiking cycle ever have something to do with slowing growth? Might the China recession have something to do with slowing growth?"
SE Asia Ecommerce Has Plateaued But Will Resume Growth In The Future
se asia ecommerce gmv
I mean this stuff is not rocket science.
Sea Experienced Unsustainably High Growth And Now Unsustainably Low Growth
sea valuation
The reality for Sea is that its long term growth rate will land somewhere in the middle, and, as such, its intrinsic value is somewhere in the middle of these two utterly insane extremes.
Amazon experienced the identical valuation and growth dynamics in the early 2000s.
Amazon Experienced Unsustainably High Growth And Unsustainably Low Growth (Bottoming At 13% in 2001)
Amazon revenue growth 2000s
To assign data to the claim that growth will find itself somewhere in the middle, below, we can see that the growth of SE Asia's ecommerce market has plateaued. The growth dynamics presented below align virtually 1 to 1 with Sea's astronomical growth in 2020/2021 and rather depressed growth in 2022 and 2023.
SE Asia Ecommerce Sales Annually (Note The Deceleration & Plateau)
se asia ecommerce growth
The above data answers my previously posed question,
Do you think, perhaps, after hundreds of percent of ecommerce growth in the span of 24 months, there will be a receding of this demand? Might difficult year over year comps have something to do with the slowing growth?
More than anything, this is why Sea has experienced such rapidly slowing growth in recent quarters and specifically in Q2 2023.
Eventually, SE Asia's ecommerce market and Sea will accelerate revenue growth, and the current panic will look highly misguided, just as pricing the business as if it would grow at 150% annualized for 10 years was highly misguided.
Reviewing Sea's Q2 2023 & The Business Broadly
In our review of Monday's Q2 2023 earnings, I shared the four principle frameworks via which I select businesses to own.
I would certainly encourage you to read that review of Monday via the link below:
And, indeed, we've employed one of those frameworks in ultimately deciding to own Sea Ltd. Specifically, we used the following framework:
Quality cultures that breed innovation within the larger conglomerate: We've often explored the Spawner framework (I'm working on a different name), which entails a company's ability to launch, or spawn, new successful business/product after new successful business/product, creating a nucleus of explosive, compounding sales growth. This is the idea that a business creates a culture in which its employees create new products successfully. With multiple products growing rapidly simultaneously, the business overall grows more rapidly and more durably. Some of my favorite examples that fit within this framework are Axon, Monday, Adyen , Sea, Tesla, Amazon, and MercadoLibre. Indeed, many of our businesses possess this incredible cultural structure, and that is why we've chosen to own them.
Sea began as a gaming studio/platform, i.e., Garena, which has produced the globally popular game Free Fire, from which Sea principally generates its ~$1B in cash flows annually.
Sea's Garena Platform Key Performance Metrics
Garena revenue
After successfully building this gaming studio, Sea launched Shopee in 2015.
Notably, a major ecommerce platform already existed at the time: Lazada, a former Rocket Internet startup, into which Alibaba (BABA) has poured billions of dollars.
Despite Lazada having a head start, Shopee quickly surpassed Lazada and became the undisputed, most dominant ecommerce platform in SE Asia.
SE Asia Ecommerce Market Share Data 2022
Ecommerce in Southeast Asia 2023 | Momentum Works
Notably, Sea is the only profitable ecommerce platform in the region, which I believe demonstrates the differentiated nature of the business and the execution thereof.
There are many different service points we can touch and also continue to improve. And there are also many cost points that we will continue to improve upon and these are the key competencies, I think that brought us here to the current position of strong market leadership with the lowest cost to serve a platform that allows us to be both market leader, but also profitable and one and only in Southeast Asia so far. I think we will not give up that competitive moat and we'll continue to strengthen that.
Yanjun Wang, Chief Corporate Officer, Q2 2023 Sea Earnings Call
Notably, Shopee grew ecommerce orders and grew sales at healthy rates in the quarter.
Shopee Grew At 28% Year Over Year, Which Is Exceptional
Shopee ecommerce growth rate
Sea Q2 2023 Investor Presentation
Gross orders increased by more than 10% quarter-on-quarter as a result of growth in both active buyers and buyer purchase frequency.
[I do think it could be argued that Brazil contributed to this gross order growth, and Shopee's GMV/gross orders are something to monitor in the years ahead, but the current pricing of the business suggests ecommerce growth will halt in perpetuity, but it is illogical to believe the Shopee would suddenly stop growing when we consider the WMT/HD/COST/WMT analogy and the fact that Shopee has dominated for nearly a decade. It's the strongest it's ever been and its domination will likely persist.]
Following the creation of Shopee, in order to enable SE Asian folks to pay via the internet, Sea launched Sea Money (formerly Airpay), which has grown into one of the largest FinTech platforms on earth, with ~60M users.
Sea DFS
Sea Q2 2023 Investor Presentation
Notably, all of these business segments are now fundamentally profitable.
EC = Ecommerce; DE = Garena; DFS = Sea Money
Sea ebitda
Sea Q2 2023 Investor Presentation
Even accounting for interest, taxes, and depreciation and amortization, Sea generated robust free cash flow in Q2 2023.
Notably, Sea has done all of this in 10 years.
In only 10 years, Sea has built three exceptionally dominant, platforms that nearly 700M to 1B total people use!
And these platforms serve these 700M to 1B people profitably!
I mean how much logic and intuition does it require to foresee that Sea is just getting started?
I do not believe it requires much.
And I do believe Sea is just getting started, atop robust free cash flow, $7.7B in cash & equivalents; $3.3B in convertible debt, and a very long runway for growth still ahead.
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