2023-03-29 20:05:43 ET
Summary
- Grab is a leading ride-hailing and food delivery platform in the vastly growing SEA region.
- The reported GMV numbers could be misleading, and GMV attributable toward shareholders is materially lower.
- Grab's stock-based compensation plan is one of the most dilutive I've ever seen.
- Even if they are successful, the business model may not be sustainable over the long term.
- Due to the abovementioned factors, Grab's stock is a sell for me.
Thesis
At first glance, Grab Holdings ( GRAB ) looks like a great buying opportunity at the current subdued valuation. Losses are narrowing year after year, and they are on track to adjusted EBITDA breakeven by the end of 2023.
However, after doing research, I found out that reported GMV numbers are inflated. Additionally, the founder was granted a majority voting power in the company with special voting shares, and a massive stock-based compensation plan hurts shareholders.
Overview
Grab is South-East Asian leading ride-hailing and food delivery platform . Its stock price has fallen 80% since 2021 crazy valuations, so I decided to take a look if it offers value at the current market cap.
For its entire history, Grab has been burning cash to sell services below market prices in order to boost demand and gain market share. As interest rates were low and investors were lining up to throw money for any promising growth companies, it was easy for Grab to constantly keep raising new capital while burning cash year after year.
Revenues were even negative in 2019. That's because they paid higher consumer and partner incentive fees than the total commissions collected. Incentive fees are deducted from the revenue line leading to a negative balance.
However, Grab has been steadily narrowing losses and is on the way to adjusted EBITDA breakeven by the end of 2023 .
Valuation method
Due to the customer and driver incentives, the revenue line doesn't make much sense, so it's better to value Grab based on GMV (GMV stands for gross merchandise value. It represents the sum of the total dollar value of transactions from Grab's services, including any applicable taxes, tips, tolls, and fees. )
Deliveries GMV in Q4 2022 was down 4% Y-o-Y (up 5% in constant currency) even though the region tourism recovered and monthly transacting users were up by 14%. After the pandemic boost, the delivery market seems to be saturated and will likely see only subdued growth going forward. 2022 GMV was just under $10 billion, so 2023 GMV will probably be under $11 billion.
The mobility segment benefited significantly more from tourism recovery, and 2022 GMV was $4.1 billion, up 47% (54% in constant currency) from 2021. In 2019 they used to make $5.7 billion in mobility GMV, so as tourism fully recovers, I expect around $6 billion GMV in 2023. However, after 2023, mobility growth rates should also slow down.
Additionally, Grab is building financial services on top of the mobile platform. However, it is still insignificant, and the financial services GMV will be money-losing for several years ahead. Eventually, when the financial services reach profitability, the margins will be lower than in mobility and delivery, so it doesn't make sense to SUM financial services GMV on top of other GMV.
I can't tell how big or profitable the financial services business will be or why it will win the market instead of some of its dozens of competitors. So, I exclude the financial services from the valuation and leave it as a free potential upside. However, if successful, it may be a significant part of Grab's value in the next decade.
The competition is tough in this industry, and so far, non of the major companies have been able to make profits. Ride-hailing and delivery companies have been drowning in cash raised from exuberant investors over the past decade. As a result, all focus has been on growth and stealing competition market share. However, when growth slows down, interest rates go up, and cheap capital is no longer available, these companies will likely rationalize and stop the price wars.
When reaching profitability, I believe margins will be thin. My belief is based on the fact that retailers' and restaurants' profit margins are already slim. Additionally, Grab must pay for the drivers and corporate overhead costs while simultaneously aiming to keep the delivery prices competitive. Nobody knows the future profitability, but my best guesstimate is that the long-term average net income margin is around 3% of GMV. If Grab reaches adjusted EBITDA breakeven by the end of 2023, it will likely reach profitability around 2026.
So far, it all sounds good; however, there are serious problems which is why I advocate avoiding the stock.
Problems
There are two red flags, stock-based compensation, and GMV reporting. Let's start with the compensation.
The founder was granted special voting shares to control the majority of the voting power, while he only holds 3.6% of the total shares. It isn't necessarily bad itself. It just means that you are at the mercy of the founder, and if shareholders don't like the decisions that he is making, there is nothing they can do about it.
Where the problem arrives is the stock-based compensation plan.
The 2021 equity incentive and stock purchase plans allow the board to issue share-based compensation for up to 6% annual dilution over the next 10 years. As a result, the total share count will increase by 80% over the next decade if the plan is fully executed.
The second problem is that reported GMV numbers might be misleading because Grab doesn't fully own all of their operating entities, but they still keep reporting the part of GMV that is going toward non-controlling interest.
Author's excel sourced from 20-F
Grab doesn't disclose how much of GMV is from each country, but based on their ownership stakes in foreign entities, the portion of GMV going toward Grab's shareholders should be only around 55% of the reported GMV numbers. So instead of using mobility and delivery GMV of $17.5 billion for 2023, the GMV portion for Grab's shareholders is only around $9.5 billion.
I tried to contact investor relations multiple times to confirm the GMV number reporting and to get more information about the management compensation performance requirements, but they ignored me.
In 2022 share-based compensation was $412 million compared to the current market cap of $10 billion. So the dilution from share-based compensation was only 4% instead of the authorized amount of 6%. Seems "reasonable" to pay out "only" $412 million in a year where $20 billion of shareholders' wealth was destroyed.
The founder is even on the compensation committee board deciding other board members' salaries. In theory, compensation committee directors should be independent, but you can make up your own mind if they are or are not.
Compensation committee charter
Valuation model
There is $3,721 million of net cash on the balance sheet.
Currently, annualized cash flow burn rate is around $600 million. There should still be some cash burn in 2023, but by 2024 Grab should be close to cash flow breakeven. After reaching profitability, the net cash will be around $3 billion.
If the $17.5 billion GMV estimate for 2023 was accurate and there were no crazy stock compensation plans, the net present value with a 10% discount rate would be $16.5 billion, making it a solid buy.
However, the GMV estimate attributable to shareholders is only $9.5 billion, and I also have to lower the annual growth rates by 6% to adjust for annual expected dilution, which lowers the net present value below $6.5 billion.
Long-term risk factors
I usually don't like to write about fairy tales or science fiction. However, if you are a fundamental investor and invest in Grab, you must have a very long-term vision because even if they are successful, it will likely take at least 15 years to generate an equal amount of free cash flows to cover the current market cap.
So, if Tesla or some other company figures out how to make self-driving cars work, Grab's business model will be obsolete. It shouldn't be a short-term threat, but I would be surprised if nobody figured out how to make self-driving cars over the next two decades. I hope it's needless to say why self-driving cars would destroy their business model, as the cost per drive would be at least 50% lower. I'm sure these ride-hailing companies' CEOs would say that self-driving cars can operate in their networks; however, whoever figures the self-driving vehicles can create a new app and instantly take the entire market share. There is no economic incentive to share profits with existing ride-hailing platforms.
Conclusion
Given that the GMV numbers attributable to shareholders are materially lower than shown on investor presentations and stock-based compensation plans dilute investors aggressively, creating a valuation scenario that would lead to high shareholder returns is very difficult. On top of that, there are uncertainties about Grab's business model sustainability over the long term. While the net cash balance could bring some margin of safety, it is still 66% below the market cap and will also be subject to dilution. Additionally, if management misallocates these funds, then the margin of safety level will be gone. Due to these facts, Grab's stock is a sell for me.
For further details see:
Grab Holdings Grabs Away Shareholders' Profits