Why Has Sea Limited Dropped In 2022?
I wrote in mid-December on Sea Limited$Sea Ltd(SE)$ warning readers against investing based on the “illusions of growth.” Some commented that I was late as its share price had already lost 42% from a recent peak. However, SE stock was shaved by more than half thereafter. Year-to-date alone, it has declined 48%.
Nonetheless, at the closing price of $116.12 on March 27, 2022, Sea Limited remains a profitable investment for early shareholders, including those who bought as late as mid-2020. After its IPO in 2017, SE stock had traded in the double-digit price range up until May 2020. Whether an investor has used dollar-cost-averaging [DCA] or simple averaging, he will be in a positive position as the share price of SE is currently above its all-time average of $103.61. SE stock is up six-fold since its IPO.
Traders who had adopted the buy-the-dip strategy before the fourth quarter of 2021 did well too, as SE stock rebounded each time even from dips of more than 25%. However, those who had expected to repeat the same strategy when SE lost more than 25% in December 2021 learned the hard way that “this time is different.”
The current trying period for SE shareholders can be mainly attributed to the aversion towards non-profitable and weak profitability growth stocks, especially those deemed to have enjoyed pull-forward growth thanks to the pandemic. The peer group of Sea Ltd. suffered in the past months.
MercadoLibre, Inc. , the e-commerce giant of Latin America, declined 18.6% over the past year. Coupang (CPNG), dubbed the Amazon.com, Inc. of South Korea, plunged a whopping 59.3%. JD.com Inc. and Pinduoduo Inc. were dragged down further by China-related woes, losing 27.0% and 66.3% respectively.
Company-specific weaknesses also played a major role in the downturn in SE stock. The Digital Entertainment division of Sea Limited has long been the sole profitable business enabling the company to invest in new growth but loss-making areas. Unfortunately, the cash cow gaming unit has experienced a significant quarterly decline in both the number of active users and paying users, spooking analysts and investors alike.
There were 654 million quarterly active users at the end of 2021, a mere 5.2 million more than the first quarter of the same year. The number of quarterly paying users at the end of 2021 was lower than the end of the first quarter of the same year.
Even as losses on an adjusted EBITDA basis at the e-commerce unit mounted ($877.7 million in Q4 2021 versus $683.8 million in Q3 2021), the profitability at the gaming side shrunk to $602.6 million in Q4 2021 from $715.1 million in the previous quarter. Consequently, the net adjusted EBITDA loss ballooned to $492.1 million in Q4 2021 from $165.5 million in Q3 2021. This brought the full year 2021 adjusted EBITDA loss to a record loss of $593.6 million.
The ongoing progress in the post-pandemic reopening globally will continue to negatively impact the availability of gamers as they have many more options to spend their time. This makes it hard to anticipate a rebound in the number of active users and paying users in the near term.
Sea Limited’s India ambition thwarted by Free Fire ban
Furthermore, Garena Free Fire, the flagship game of Sea Limited, has also been hit by a ban by the Indian government in mid-February for being “of Chinese origin.” Shareholders comforted themselves believing that the impact would be limited due to the small revenue contribution from India for Free Fire and that the newer Free Fire Max remained accessible. Market players and analysts had other thoughts, with SE stock tumbling 16% on the day of the news and J.P. Morgan cut its target on Sea to $250 from $420.
When I detailed in December last year how Sea Limited was regarded as Chinese, several readers vehemently protested. This came despite my acknowledgment that Sea Limited is Singapore-based and registered, and that the China-born co-founders became naturalized Singaporeans.
I cited in the article an exposé by a local media outlet describing Shopee Singapore as a "Chinese majority company," where the managers reportedly insisted on Chinese (Mandarin) as the language of communication. The phenomenon was similarly covered by other publications subsequently. This is where the distinction with Zoom Video is obvious. While Zoom Video’s founder, Eric Yuan, is also born in China, his management team was never filled with Chinese and the default language was not Mandarin.
Although the media attention was about the dominance of Chinese in terms of operations at Sea Limited’s Shopee, I highlighted that the Confederation of All India Traders, an Indian trade body, was more concerned that the “complex structuring of entities is nothing but an attempt to hoodwink the Indian government and infuse Chinese funds into India.”
Apparently, the complaint by CAIT on Shopee has led the Indian government to believe Sea Limited’s gaming unit Garena to be similarly structured. The significant SE stake held by Chinese social media and gaming giant Tencent Holdings could have played a part in the misconception.
The paring of SE stake by Tencent and the relinquishing of special voting rights in January could have the opposite effect of reminding India of Sea Limited’s Chinese heritage. Tencent’s intention to hold onto the majority of its remaining stake may have assuaged shareholders but that kept the Indian government unnerved.
Furthermore, the Indian government may not appreciate the supposed changes in the “Chinese-ness” of Sea Limited with the increase in the total voting power held by Chairman/CEO and founder Forrest Li to 57% while Tencent’s voting power was reduced to less than 10%. Indian officials may be unconvinced that the China-born co-founders would not be beholden to Beijing, especially with their parents and relatives (possibly including their spouses) remaining Chinese nationals.
The media attention surrounding Eileen Gu, the American-born freestyle skier who competed for China in the recently concluded Beijing Winter Olympics, may have reinforced the thinking among Indian officials. Even though Gu was born, grew up, and still lives in California. Yet, she chose to represent China at the Olympics. Her story was widely reported in Asia, making it hard to miss.
Where Will Sea Limited Stock Be In 5 Years?
Sea Limited continues to invest in its businesses even as its profitable gaming unit slows down. Its EBITDA reached a new low of $1.58 billion on a twelve-month-trailing basis. Nonetheless, Sea Ltd has proven to be capable of growing its revenue exponentially, increasing to nearly $10 billion in 2021.
At the same time, the management of Sea Ltd shrewdly raised capital by selling shares at opportune times, helping to boost its net cash (reflected as negative net financial debt in the following chart). In the last exercise in September 2021, the company placed 11 million American Depositary Shares, each representing one Class A ordinary share, at $318/ADS, raising $3.5 billion.
Underwriters' over-allotment was an additional 1.65 million ADSs. Sea Ltd also issued $2.5 billion of its 0.25% convertible senior unsecured notes due September 15, 2026, with over-allotment for an additional $375 million of notes. This provides the company with plenty of ammunition to last through more quarters of continued hemorrhaging amid a funding winter.
Source:seekingalpha
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