Broker's take: DBS downgrades Sea to 'sell' on e-wallet drag, rich valuations

INTERNET company Sea Ltd, which owns e-commerce platform Shopee and game developer Garena, now carries a "sell" rating from DBS Group Research, down from "fully valued", given its slower-than-expected e-commerce sales, higher losses in the e-wallet business, and rich valuations.

In a report on Thursday, DBS kept its target price unchanged at US$72.50 for the Singapore-based, New York-listed company. Sea had closed at US$114.46 on Wednesday, up US$7.11 or 6.6 per cent.

Analyst Sachin Mittal wrote: "We like Sea's gaming and e-commerce business, although we are less optimistic on the prospects of the hyper-competitive e-wallet business."

DBS values Shopee at US$32.70 based on enterprise value to FY21 forecast adjusted revenue of 4.5 times, Garena at US$33.90 per share based on enterprise value to 12-month forward adjusted earnings before interest and taxes of 12 times, and SeaMoney at US$2.60 per share based on enterprise value to FY21 forecast adjusted revenue of 15 times.

SeaMoney is the company's digital financial services network in South-east Asia, and its offerings include e-wallet services, payment processing and micro-lending.

DBS said its bull-case fair value for Sea is US$90. For the stock to rise to this level, the gaming arm's adjusted operating profit needs to grow by 50 per cent in FY20, higher than DBS's estimate of 30 per cent, while the e-commerce adjusted revenue has to register a 100 per cent compound annual growth rate, above DBS's estimate of 80 per cent.

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Mr Mittal said that the Internet company's potential speed breakers could be the revised Indonesian tax regulations for cross-border sales from Jan 30, 2020, as well as a big exposure to fashion products which rely on discretionary spending.

DBS's forecasts for the gaming unit's adjusted earnings before interest, taxes, depreciation, and amortisation (Ebitda) exceed consensus by 10 per cent for FY20 and by 9 per cent for FY21. Mr Mittal expects Sea's popular mobile game Free Fire to continue to grow over FY20/21 before stabilising in FY22 after four "stellar" years of growth.

However, DBS's predictions for the combined Ebitda of e-commerce and digital financial services are 11 per cent below consensus for FY20 and 40 per cent lower than consensus for FY21.

"We expect the digital financial services segment to be a big drag due to increasing customer acquisition cost for the e-wallet platform," Mr Mittal said.

"As for e-commerce, there are further downside risks to consensus' adjusted revenue estimates due to revised tax regulation on cross-border transactions."