AMZN - Sea Limited: Dead Money At Best - Time To Move On (Rating Downgrade)

2023-11-12 08:30:00 ET

Summary

• Sea Limited's upcoming earnings conference will scrutinize how the company intends to fend off TikTok's significant competitive threat.
• Analysts will also assess Shopee's Singles' Day sales momentum as Southeast Asia's growth continues to slow.
• Notwithstanding the recent respite as TikTok's ambitions stalled in Indonesia, the battle is still ongoing in other markets. Shopee could find it increasingly challenging to fend off TikTok's threat.
• SE is still valued at a premium, notwithstanding its spectacular collapse. However, investors likely aren't keen on unsustainable spending as the "free" money era is over.
• I argue why savvy investors must know when it's time to fold, as TikTok's threat is likely here to stay. SE could be dead money at best for a long time.

TikTok's Threat Not Fully Extinguished

Sea Limited ( SE ) is scheduled to report its third-quarter or FQ3 earnings release on November 14. Keen investors should recall the " historic tumble " following the company's stunning FQ2 release as SE re-tested a critical support level.

I'm pleased to highlight to holders that SE sellers have failed to regain sufficient momentum to compel it down further. Despite that, the lack of sustained buying momentum from dip buyers suggests investors are likely expecting more assurances from management at its upcoming earnings conference.

Analysts will also be keen to assess Shopee's (e-commerce unit) Singles' Day sales momentum as the critical shopping festival comes to an end. Chinese e-commerce retailers have focused on value-conscious consumers to drive volume this year, highlighting the ongoing challenges of bolstering consumer spending in China's economy.

I believe Sea Limited and its Southeast Asian peers (Shopee's most crucial e-commerce market) aren't immune to the macroeconomic and inflation headwinds. Accordingly, it was reported recently that " Southeast Asia's internet economy is experiencing its slowest growth on record in 2023." As such, the region's e-commerce spending growth estimates have been reduced to 13% from last year's 20% growth. The reduction in estimates has raised fears of more intense competition and potentially lower structural growth in the medium term.

As such, investors must be wary of the previous fast-growth internet companies like Sea Limited, which relied on unsustainable consumer subsidies to gain market share rapidly. On that matter of sustainability, investors' hugely negative reaction in Q2 largely resulted from the company's return to potentially unsustainable spending it embarked on in the years when money was cheap.

However, that era is expected to be well and truly over as interest rates surge, possibly normalizing at much higher levels. Notwithstanding its market share leadership, Shopee was threatened by TikTok's ( BDNCE ) attempt to disrupt its business model with its social commerce-driven e-commerce strategy.

Sea Limited investors received a respite from the Indonesian government in early October, as Indonesia swiftly banned the ability of TikTok and their social media peers to combine direct e-commerce payments on their platforms. The move was intended to protect Indonesia's micro, small, and medium enterprises, or MSMEs, as they dealt with the disruption from TikTok's merchants.

Analysts lauded the move as helping to lower the impetus for TikTok to chip away at the market leadership of Sea Limited and its e-commerce peers. As a result, the need for sustained shipping subsidies in Shopee's most crucial market could be reduced. However, it's critical to note that the Indonesian market represented about 25% of its total GMV. Excluding Indonesia, the region likely accounted for 40% of Shopee's total GMV, suggesting investors shouldn't rejoice just yet.

TikTok's growing ambitions in the US suggest that the company isn't afraid to tackle e-commerce behemoth Amazon ( AMZN ) in its most important market. Its ability to drive e-commerce spending through its social media network moat is a significant competitive advantage that Shoppe could find very hard to defend against. I must recognize that TikTok is a formidable competitor supported by a profitable parent, ByteDance, who seems determined to disrupt what used to be the disruptor in the region: Shopee.

Is SE Stock A Buy?

Sea Limited investors could point out that the company is not just about Shopee. Its gaming arm and its fintech segment are also crucial growth drivers. However, it's essential to recognize that Shopee is expected to remain the company's most important growth driver in the short- and medium-term. With SE valued as a growth stock (assigned an "A-" growth grade and a "D" valuation grade by Seeking Alpha Quant), the company needs a coherent and sustainable strategy to fend off TikTok's threat.

However, I'm not sure what Sea Limited could muster as it's clear that investors no longer fancy massive spending to justify its market share gains. In other words, investors want Sea Limited to move away from those subsidies. However, TikTok's network effect moat has been built up with such ferocity and determination that it has a sustainable advantage that Sea Limited could find incredibly challenging to defend against.

While I'm assured that SE wasn't battered below the $35 level decisively after its August re-test, I've much less confidence in the company's ability to recover SE's malaise from here. In a high-interest rate environment, with a determined and capable competitor like TikTok, Shopee is looking increasingly more like the disrupted in time to come. With SE still valued at a premium, it could be dead money at best (in a consolidation zone). I am looking to cut my exposure substantially as I intend to rotate my funds to higher-quality moaty stocks.

Remember, we aren't likely heading back to the era of "free" money, which was the foundation of Shopee's unsustainable spending.

Rating: Downgraded to Hold.

Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Please always apply independent thinking and note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified.

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