Equity Analysis /

Sea Ltd: Cornering cash in Southeast Asia; upgrade to Buy

  • Robust growth from the digital entertainment segment mitigating the cash burn

  • The digital financial services (payments) segment is undervalued

  • We upgrade our recommendation to Buy and raise our target price to US$295, implying a 16% upside

Nirgunan Tiruchelvam
Nirgunan Tiruchelvam

Head of Consumers Equity Research

Tellimer Research
9 April 2021
Published byTellimer Research

We upgrade our recommendation to Buy from Sell and raise our target price to US$295, implying a 16% upside. We have adopted the DCF valuation methodology in recognition of the increased cash flow positivity. Other metrics such as SOTP and EV/user support our valuation.

Sea Ltd: FCFF valuation

We raise our revenue earnings forecast for 2021-24 by 42%, where we expect profitability from FY 23. In Q4 20, adjusted EBITDA from the digital entertainment (gaming) segment grew 149% yoy to US$664mn. We expect Q1 21 results to show growth in all three segments.

Earnings revision table

Comparative valuation table

We expect gaming revenue to rise at a CAGR of 34% in FY 21-24 as Free Fire has a vice-like grip. Free Fire is ranked the most downloaded mobile game in 2020 and we now feel that its day in the sun will be an extended one. For instance, Free Fire was the highest-grossing mobile game in India for Q4 and FY 20. But Free Fire is not the only game in Sea's town – Dauntless is also popular across several platforms and is in the top 10 of the Epic Games store.

Expansion in paying user base is leading the growth. In Q4 20, the company's quarterly active user base grew by 72% yoy while paying users increased by 120% yoy, increasing the paying user ratio versus active users to 12% (compared to 9% in Q4 19).

Sea's e-commerce boost may be fading, but the pandemic has transformed consumer spending in ASEAN. Sea's GMV grew by 17% qoq in Q4 20 versus 16% in Q3 20. Revenue grew by 36% qoq in Q4 20, compared with 40% qoq in Q3 20. We expect a step function change going forward.

The cash burn will ease. Despite the growth in revenue and GMV, the company continued to burn cash as EBITDA losses grew by 42% qoq in Q4 20. EBITDA losses from e-commerce and digital financial services cumulatively clocked in at US$599mn. But we expect the cash burn to ease from FY 21-24.

SE US raised US$3bn in a 3% equity issue in December, which will give it enough ammunition to fund its cash burn, as well as acquisitions. SE US has moved higher on our proprietary Cash Sustainability Index (CSI) with the revised forecasts and recent fundraising.

Cash Sustainability Index

The digital financial services (payments) segment is undervalued. EBIDTA losses for digital financial services grew by 15% qoq in Q4 20 to settle at US$171mn. In Q4 20, SeaMoney’s mobile wallets posted a total payment volume of US$2.9bn, with quarterly paying users exceeding 23mn (mainly driven by an increase in paid users in Indonesia). Taking mobile wallet into account, the total payment volume came in at US$7.8bn for FY 20.