Is Sea's 17% plunge offering a buy opportunity?
On May 16th before the market opened, $Sea Ltd(SE)$ released its Q1 financial report for 2023. Due to the positive response from the previous quarter's report, expectations were naturally raised for this period. Although revenue barely met expectations, profit levels fell significantly short of predictions and caused a 17% drop in stock prices.
Sea's three business segments performed differently
Garena's GAAP revenue was $540 million USD, a YoY decrease of 43%, which was lower than expected ($647 million USD). This is due to FreeFire entering a decline phase and withdrawing from operating League of Legends in Taiwan. Adjusted EBITDA was $230 million USD, slightly higher than market expectations ($222 million USD), as overall game operations are more mature and profit margins are well-controlled.
Shopee's overall GMV continued to grow YoY while remaining stable MoM at $18 billion USD - slightly higher than market expectations ($17.3 billion USD). Revenue reached $2.06 billion USD - on par with market predictions - while adjusted EBITDA was $201 million USD - higher than expected ($178 million USD). Core income related to product transactions and advertising increased by 53% YoY.
Sea Money saw revenues increase by 75% YoY to reach $413 million USD; continuing its high-speed growth trend that exceeded market expectations ($372 million US dollars). Adjusted EBITDA was also higher than predicted at $99million US dollars compared to an estimated figure of only$68million US dollars.The total amount receivable loans amounted up to$2billion US dollars but bad debt losses worth$281million US dollarshave affected overall profitability.
Overall company revenue reached$3.04billionUSdollars,aYoYincreaseof4.9%, meetingexpectations.AdjustedEPSwas0.43USDper share- lower than expected ($0.63 USD per share).
Investment highlights
1. The e-commerce business has strengthened its monetization capabilities in a more competitive environment. Since achieving profitability in Q4 2022, the company has been focused on improving profit margins and cost control measures. Shopee currently operates only in Southeast Asia and Brazil, where single order losses have decreased by 77% this quarter. Overall, the e-commerce business achieved an EBITDA of $276 million USD - compared to a loss of $408 million USD during the same period last year - with marketing expenses playing a key role.
2.Logistics services have improved significantly, enhancing user stickiness.The additional value-added revenue from e-commerce businesses reached$700millionUSDinQ1,aYoYincreaseof32.6%,mainly due to logistics-related businesses.The company cooperates with more third-party logistics providers and launched Shopee Express while also piloting face-to-face return services in some markets.
3.Financial services are growing rapidly as they are an inevitable result of tightening credit cycles. Revenue growth for financial services remained high at 75% YoY; driven by rapid growth in payment-related businesses related to e-commerce and lending activities.However,bad debts increased due to rising default rates which affected overall profitability.
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Why investors panicked?
Firstly,the gaming business is not performing and probably won’t perform well. FreeFire's decline phase coupled with new games that failed to reach similar heights means that Sea's active users and revenue from gaming have both declined.Company focus now lies on maintaining game business profit margins instead.
Secondly, potential higher default rate. High-speed growth may be unsustainable if bad debts continue increasing.In addition, since there is close integration between Shopee and SeaMoney (the two main segments), tightening credit conditions could affect cash flow for the former segment.This was one point that market participants considered more carefully.
Lastly,e-commerce faces fierce competition.TikTok's competition is unavoidable, and although most sellers only entered the platform at the end of 2022 with low-priced products, Shopee's high-priced items are also gradually being impacted. In addition, Lazada from Alibaba (BABA) continues to leverage its parent company's support to enhance overseas advantages.
Valuation and outlook
We conducted a simple valuation for Sea during Q4 2022 earnings season when market expectations were that the company would achieve profitability ahead of schedule while strengthening monetization capabilities and continuing growth in e-commerce and financial services.
However, why did the market feedback turn worse after Q1 financial report?
It is mainly due to concerns about monetization ability and profit margin falling short of expectations.
If the game continues to decline without open sourcing, although e-commerce business has increased its profit margin, it is difficult to recover growth. Meanwhile, financial business generates more bad debts that erode profits. Therefore, previously expected revenue and EBITDA levels will either decrease or corresponding valuation multiples need to be lowered (the company needs more time to achieve its goals). If valued at $80 per share, the current performance market is also more likely to give a discount.
Therefore, there are reasons for the stock price decline in the secondary market.
After all, according to the recently released 13F of Q1 this year, funds holding SEA increased by 9.6%, with newly opened positions increasing by 55%, indicating that everyone is optimistic about the prospects shown in Q4 22Q4 financial report. The low opening and low trend on May 16th are not good news for institutional investors.
Given today's risk-free return rate and increasing uncertainties of these companies, investors' choice of avoiding risks may be their best option.
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Somewhat surprisingly, Sea had a good performance in the first quarter.
It is not great anymore. Better don jump into it.