Cabot Pick “Like Tesla in 2011” from the “Switzerland of Asia”

What's the "Blue Ocean Growth" Stock teased as a current pick of Cabot Stock of the Week?

By Travis Johnson, Stock Gumshoe, November 4, 2020

The folks at Cabot are so often enthusiastic about great growth companies, often picking them and re-picking them as they soar higher, that they sometimes remind me of David Gardner and his Motley Fool Rule Breakers… and given their yen for growth, I imagine both are probably doing great this year with the explosion in cloud, SaaS and “pandemic” tech stocks.

The latest Cabot pitch is for that Cabot Stock of the Week service ($997/yr), which is kind of a “greatest hits” newsletter — publisher Timothy Lutts picks his favorite idea from among Cabot’s stock advisory services each week, so they’re presumably mostly “growth” ideas, given Cabot’s quantitative bent, but they do also have a few dividend and value-focused newsletters… so there ought be some variety.

This time, though, it’s all growth on the docket — they say that this “blue ocean growth stock” is already up 708% and has “plenty of room to grow.” So what is it? Can we get you an answer for something a bit more free-ish than $997?

Here are our clues from the email:

“One secret to this New-York-Stock-Exchange-listed company’s stunning success in becoming the most valuable company listed in high-quality Singapore is the background of its three founders.

“They are all now billionaires.

“Two of the three founders came to Singapore for an elite education, and two also hold degrees from prestigious American universities.

“These young entrepreneurs were also lucky to focus on and then dominate three key high growth markets in Southeast Asia – a market with 650 million people.

“The company’s stock has tripled in 2020, after surging 255% in 2019.”

OK, so if it’s had growth like that we’ll probably at least have heard of it, no? What other clues do we get? More from the pitch…

“There are three powerful engines propelling this company and stock.

“One market is gaming, another is digital payments, and the third is an E-commerce platform that is growing revenue much faster than Amazon with orders of more than 2 million a day.

“Revenue is growing at a rate of more than 100% because it is targeting some of the fastest-growing markets in the world. It’s ecommerce sales have grown exponentially from $47 million in sales in 2017 to $823 million last year.”

Ah, so now that’s starting to sound a bit more familiar. You might be ready with some guesses now, too, I imagine… but let’s check one or two other clues just to be sure:

“A leading conglomerate owns 30% of and has a strategic partnership with this company.”

Mmm hmmm, that tracks too. More?

“It has $2.6 billion is cash and only $1.3 billion of long-term debt.

“The company is expanding into India, which has a population of 1.3 billion people but only 10% of this company’s customers are from India.”

OK, fine, we can’t put off our answer any longer — this is indeed Sea Ltd. (SE), the wild growth story that’s trying to become the MercadoLibre/Tencent/Shopify/Paypal of Southeast Asia. And, of course, most growth or technology investors will probably have heard of this one by now, it has emerged from almost nowhere to become an $80 billion company this year, riding the same gaming and e-commerce waves that have propelled so many tech stocks during the coronavirus… but with a little rocket fuel added in because they’re also a leader in one of the fastest growing parts of the world. And yes, thanks to that surging stock price, Sea is now the largest company in Singapore by market capitalization… though it doesn’t have a listing on the Singapore Stock Exchange (it only trades in NY).

And they report their earnings in a couple weeks, on November 17, so things could get shaken up in a hurry if that report is suprisingly good or bad, but this is a stock I’ve been following pretty closely all year, particularly after buying shares for the first time back in May, so I can at least share with you the last update I noted for the Irregulars:

Here’s what I wrote after their last earnings report, on August 21 (the stock was in the $140-150 range at the time):

8/21: Sea Ltd. (SE) posted another of the wild COVID-fueled earnings reports that we’re now all quite accustomed to seeing — online activity soared in Southeast Asia just like it did in the rest of the world, and their revenue grew by more than 100%, year over year, with strength from both their profitable gaming business and their unprofitable e-commerce platform Shopee, which you might think of as sort of like Shopify for that region of the world.

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The gaming division, Garena, is their cash-flow generator, thanks mostly to their Free Fire game, which is wildly popular in Latin America and Southeast Asia… and Free Fire keeps growing, as it did before the pandemic — they set new records for usage and paid users in July, after being the most-downloaded game of its kind last year and setting new records for mobile use, YouTube views, and other metrics.

Shopee is in a competitive business, with Alibaba’s partner Lazada a strong competitor — the two are in a bit of a market share war, which is probably a big reason why Sea is losing so much money on that business. And it’s not just Lazada, others are also quite aware that ecommerce and fintech offer big potential in that part of the world… but Shopee has a strong partner, too, in Tencent, and they continue to lead the market share battle in a lot of the biggest markets (like Indonesia and Taiwan).

The company overall remains extremely unprofitable because of the cost of pushing Shopee’s growth, but they’re in huge markets and the consistently ludicrous revenue growth remains very tempting — and while it has been boosted by COVID shutdowns, I’m sure, that growth has also been in place for a long time — they’ve grown revenue by more than 100% year over year almost every quarter for the past two years. At that pace, even a free-spending company can grow into their valuation pretty quickly.

I would expect them to keep raising equity as the valuation gets richer, much like other fast-growing companies have done (Shopify, etc.), since they clearly see plenty of growth potential in the future and don’t want to take their foot off the gas — but they don’t actually have a need for cash just yet, so I don’t know when that might come. Right now, their profitable business, Garena (gaming and esports) is growing dramatically enough that their cash flow, mostly from Free Fire, is making up for most of the investments they’re making in Shopee.

The overriding risk right now is not really Shopee, which is doing great but costing them a lot as they invest in expansion, the risk is that Free Fire could lose popularity and the Garena division could stop gushing cash, which would make spending on Shopee and other ventures harder. They still have plenty of cash for now, but hit-driven businesses that are overwhelmingly dependent on a single hit, whether that’s a video game or a pharmaceutical product or a sitcom series, are riskier than those whose cash flow is more diversified.

My SE position is still quite small, I’ve added to it a couple times, mostly fueled by taking profits on my options speculations in this same stock, but I have not been willing to chase it here, up well over $100, and that’s been a mistake. As, of course, almost every decision to “not buy” a growth stock in the past six months has been a mistake, at least for now. It hit yet another all-time high this week, trading at well over 20X sales now, so who knows what the future holds.

Bloomberg has been covering the crazy surge SE shares have shown, and they sum up the unease many investors feel right now about the valuation:

“The robust topline numbers underscore how Sea became the world’s best-performing large-cap stock over the 18 months to August, stoking debate over whether the gaming, e-commerce and payments company is the next internet colossus or Exhibit A in a tech bubble destined to burst. Swelling optimism the loss-making company may one day become both the Tencent and Alibaba of Southeast Asia boosted its New York shares by more than 880% during that period.”

I didn’t start buying until March, and even then, at $60 a share, the valuation was challenging — but sometimes you just have to hold on tight when great companies get an investor tailwind, and count on position sizing and perhaps a stop loss order to protect yourself if that enthusiasm turns into a bubble that ends up popping. Sea is a real company, with huge scale and amazing growth, and it’s still markedly cheaper than Shopify and some other competitors… though it’s also very dependent on Free Fire, and analysts are all over the map with their forecasts (none expect profitability over the next couple years, and in fact the company has routinely lost more than predicted thanks to their massive spending on growth, but the revenue predictions vary widely — for 2021, the high forecast is $9.25 billion and the low is $5 billion… obviously either represents rapid growth, but the difference is abnormally huge).

I don’t know if they can continue to justify this valuation as they spend money to build themselves into the next great tech giant outside of the US and China — but with revenue almost doubling every year, and plenty of profits already taken on options positions with SE, I’m willing to continue to give them plenty of leash to try. What I can’t convince myself to do is buy more at these prices.

The stock has risen another 15% or so since I penned those words 10 weeks ago, with plenty of ups and downs, but my thinking hasn’t really changed. I think the long-term potential remains impressive, and that they have a pretty clear path to growing into their valuation more easily than a lot of similarly-valued stocks, but the risk remains quite real. If I exercise my remaining LEAP options, as is likely if the stock holds up reasonably well over the next year, this could quite easily be a top-ten holding in my Real Money Portfolio… which will be a little stressful, given the valuation, but it’s hard to overstate just how massive the Southeast Asia market is and what that might mean if Sea really takes a “Tencent Like” leadership position into the future (and yes, Tencent is the teased global conglomerate that owns about 30% of Sea shares).

Their revenue doubled last quarter on the strength of booming e-commerce sales everywhere, and like most of the world my assumption would be that once you try e-commerce, you don’t go back… these gains, to at least some degree, will probably be permanent and they’re unlikely to see a drop in revenue just because the pandemic gets under control.

On the flip side, of course, is the somewhat horrifying valuation. They’re not as absurdly valued as Shopify or some other hot names that are showing this kind of growth, but they’re sure expensive… and thanks to the hyper-competitive e-commerce market in most of their target countries, with Shopee mostly taking prime market share but fighting off well-funded competitors (like their neck-and-neck battle in Indonesia with Alibaba’s Lazada), they probably won’t be making money anytime soon.

So I’m still holding SE, both equity and long-term options, and wouldn’t talk anyone out of buying a nibble-sized position even at these prices, since I’m impressed enough with the current and potential growth to want to own it even if it’s expensive… but I haven’t been able to convince myself to add more shares to my holdings since July, when it was already above $120. Maybe I’m just too emotionally anchored on my entry price, and Sea Ltd. will keep soaring higher as the revenue lines keeps doubling, but certainly a lot of future good news is baked in at this price. Two weeks seem an eternity at this point, given the exhaustion the whole world is feeling as a result of the US elections and the pandemic response, but I won’t be doing anything to my SE position before earnings.

One other note, from September, since the tease also mentioned their presence in India: Sea’s (SE) Garena game Free Fire received a welcome bit of news a couple months ago — one of their biggest competitors in India, PUBG Mobile (published in partnership with Tencent, incidentally), was blocked by the Indian government, along with a bunch of other Chinese video games. The decisionmaking on this wasn’t entirely clear, it seems quite tied in with other China-India disputes but is mostly about security concerns, and PUBG tried to distance itself from partner Tencent to get back in India’s good graces, but I haven’t heard anything new on that front recently.

That opens the door a crack wider for Free Fire, which is the most popular (and highest grossing) mobile game in much of the developing world, to take an even larger chunk of the market in India. Garena has been focused on building that Indian gaming audience anyway, but the latest China-India dispute is giving them extra leverage, since most of the other popular games in India are also owned by Chinese companies — they even boosted their presence by including an Indian character in Free Fire for the first time… the new character, Jai, is based on Hrithik Roshan, one of the hottest film stars in India.

India is not really part of the core local market where they’re focusing their Shopee (ecommerce) and ShopeePay (fintech/payments) businesses, those locally-optimized businesses, with lots of payment and fulfillment partners, are still really concentrated just in the dozen or so meaningful markets in Southeast Asia… but the potential for growth outside of the region is there. India and Brazil already help with Sea’s cash flow by being major hotbeds of Free Fire popularity, so that could give a foothold for future games and, perhaps, payment or ecommerce advances in those gigantic markets.

So yes, if Sea is going to be the dominant technology company in Southeast Asia, the Tencent or Alibaba of that massive region, then it’s still an opportunity… and if they can expand outside that region a little more, perhaps it’s an even larger opportunity. I’m not sure where the future lies, though I like the path the company is on, so I’m just holding on at the moment. I’ll be sure to post an update for the Irregulars once Sea reports in a couple weeks.

That’s just my thinking, though, and what I’m doing with my money — with your money, it’s your decision that matters. Think Sea has potential? Think the growth is too pricey here? Like Free Fire and Shopee, or think they’re facing too much competition? Let us know with a comment below.

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Al razzi
Al razzi
November 4, 2020 12:03 pm

It might be a great hit. However,in India ramps corruption and under hsnd dealings are the name of the game.. The Prime Minister thee Modi ,when he was first elected was humble honest and appreciative, but now in his second term gotten out of control and involved into hi tech and world’s prime businesses like telecom. The telecom giant in India who support Modi’s every decision is the greatest contributor to Modi’s reelection.”The story is You scratch my back and I’ll scratch yours.”

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