DBS Group Research on Thursday upgraded Singapore-based Sea Limited by three notches to “buy” from “sell” previously, citing structural strength in the consumer Internet firm’s gaming arm Garena and e-commerce business Shopee.
Analyst Sachin Mittal also more than doubled his target price on the New York-listed stock to US$183, from US$72.50.
Shares of Sea gained 1.4 per cent or US$2.05 to close at US$152.65 on Thursday in the US.
“The market has good reason to cheer, as Sea achieved an earlier-than-expected adjusted earnings before interest, tax, depreciation and amortisation (Ebitda) breakeven in Q2 2020 on the back of a sharp rise in a profitable gaming business,” Mr Mittal wrote.
The main boost came from the rising popularity of Garena’s self-developed game Free Fire in Latin America and South-east Asia. The jump in Ebitda from digital entertainment helped offset the rising loss in e-commerce.
“Mounting free cash flow from gaming is Sea’s big competitive edge in the e-commerce business as many competitors face funding pressure,” the analyst added.
DBS now projects that Sea’s revenue compound annual growth rate (CAGR) for FY19-22 will be 103 per cent for e-commerce and 40 per cent for gaming, thanks to strong tailwinds from the coronavirus pandemic-related lockdowns.
Mr Mittal expects FY20 and FY21 revenue to rise sharply as his revised projections for the two years are 30 per cent and 40 per cent above consensus respectively.
Sea can afford to burn more cash in the e-commerce arm to raise its market share, given the cushion of higher profits from the gaming segment, he noted.
The group’s e-commerce and digital financial services arms are likely to continue to report adjusted Ebitda losses for another two years due to “intense competition”, according to DBS.
Earlier this week, Sea reported that its total adjusted revenue doubled to US$1.29 billion for the second quarter this year, from US$665.4 million a year ago. The company’s results beat DBS’s above-consensus estimates “comprehensively”, Mr Mittal said.
Garena, the digital entertainment segment, posted adjusted revenue of US$716.2 million, which exceeded DBS’s estimate by 21 per cent, while the segment’s adjusted Ebitda was 26 per cent ahead of the research team’s estimate.
As for the revised target price of US$183, the research team now values the e-commerce business at US$87 per share after raising its adjusted revenue estimates by 39 per cent for FY20 and by 53 per cent for FY21 and switching to nine times FY21 adjusted revenue.
DBS values the gaming business at US$90 per share, after increasing the segment’s earnings estimates by 50 per cent for FY20 and by 57 per cent for FY21 and switching to 24 times 12-month price-to-earnings ratio.
Meanwhile, Sea’s management has indicated that there has been strong uptake of Free Fire over July and August, “which is a good sign for Q3 FY20”, Mr Mittal wrote.
On July 2, the analyst had downgraded Sea by one notch to “sell” from “fully valued”, given the company’s slower-than-expected e-commerce sales, higher losses in the e-wallet business, and rich valuations at the time.
