Sea Limited fell 29% after results to reach a 52-week low. Is it a bargain now?

What happened?

If you have purchased a product online using Shopee or played online games such as Arena or Valor, Free Fire, or Call of Duty, then you have been using the services of a company called Sea Limited. 

Sea Limited has just announced its latest 2023 second quarter (2Q 2023) results and booked its third consecutive quarter of profits.

Yet, its share price fell sharply by 28.7% in a single day as investors sold down the stock sharply after its results were announced.

Sea Limited’s share price is now languishing close to its 52-week low of US$34.87 and is down around a third year-to-date.

The company has, however, remarked that it will boost investments (i.e. spend more) for its e-commerce division which could lead to losses down the road.

Investors are justifiably worried as to whether Sea Limited can stay profitable if it does not invest in growth.

What you need to know about Sea Limited’s share price 

If you are not familiar with Sea Limited, it is a technology company with three main divisions.

Its Digital Entertainment (DE) division, called Garena, develops online games while its e-commerce arm, Shopee, operates a platform for the buying and selling of merchandise.

The company also has a digital financial services division called SeaMoney that provides mobile wallets and payment processing.

Sea Limited used to be one of the best-performing stocks on the US stock exchange when it soared 300% in 2020, giving it a market capitalisation of S$92.7 billion back then.

At its lofty perch, the company was worth even more than DBS Group whose market capitalisation stands at S$85 billion.

But the tech company’s journey has been nothing short of rocky as its share price hit stratospheric levels and then crashed spectacularly.

From its peak of more than US$350 back in November 2021, the stock has lost more than 90% of its value.

Call it the bursting of the pandemic tech bubble if you will, but Sea Limited’s CEO Forrest Li admitted in September 2022 that the company had chased a “growth at all cost” model that was unsustainable in the long term.

His candid admission also meant that the company’s focus would shift from investing for growth to gunning for profitability.

In a 1,000-word memo circulated to staff, he outlined drastic cost-cutting measures that included expense restrictions, layoffs, and the capping of all flights to economy class.

These moves are not to be taken lightly and came about after Sea Limited encountered various obstacles as it attempted to pursue more growth.

#1 - India banned Garena’s popular Free Fire game

Back in February last year, India banned a total of 54 apps of Chinese origin, including Garena’s Free Fire.

Free Fire is one of Garena’s most popular games with more than a billion downloads on Google Play.

According to App Annie, an industry tracker, this game was the highest-grossing mobile game in India for the third quarter of 2021 (3Q 2021).

Although it was reported that Singapore raised concerns with India over this move, the ban is still in force as at the time of writing.

This move has no doubt dealt a massive body blow to Sea Limited as its most popular game has now lost a ton of users.

#2 - Garena began losing paying customers

Even before Free Fire’s woes, Garena was already seeing its active and paying users plateau in 3Q 2021.

4Q 2021 saw the company’s first quarter-on-quarter fall in quarterly active users (QAU) and quarterly paying users (QPU), with the latter metric being the more important one that brings in the dough for Sea Limited.

That quarter, QAU and QPU fell by 10.3% and 17.2% quarter on quarter, respectively, to 654 million and 77.2 million.

By 1Q 2022, Garena was witnessing a 5% year on year fall in QAU while QPU plunged by 23% year on year to 61.4 million.

And in 2Q 2022, this drop became sharper with QAU and QPU falling by 15% and 39% year on year, respectively.

For its recent 2Q 2023 result, Garena has continued seeing user attrition.

QAU fell a further 12.1% year on year to 544.4 million with QPU sliding 23.7% year on year to 43 million.

QPU is now nearly 54% below its peak of 93.2 million back in 3Q 2021.

Unsurprisingly, Sea Limited’s latest financial results show that operating profit for Garena has plunged by 35.1% year on year to US$296.5 million.

#3 - Shopee laid off staff and pulled out of several countries

Shopee’s rapid expansion came at a heavy price.

As demand for e-commerce slowed, the division began laying off staff to cut costs.

A total of 7,000 employees lost their jobs from May through November 2022.

Shopee also pulled out of countries such as Argentina, Mexico, Columbia, Chile, and France.

The swift withdrawal is a tacit admission that the division had tried to grow too fast and was now forced to pull back as losses mounted.

With the pullback, Sea's revenue growth has also slowed. Sea Limited's revenue grew by just 5% in the second quarter compared to the previous year. This is in sharp contrast to the 127% revenue growth the company reported in 2021 during the Covid-19 pandemic

What would Beansprout do?

Although Sea Limited’s share price has plunged sharply from its pandemic high, its valuation may still be high because its digital entertainment and e-commerce divisions are under pressure.

In other words, revenue growth could continue to be weak as competition heats up for Garena while other e-commerce players muscle in to compete with Shopee.

A glance at Sea Limited’s price-to-sales (P/S) ratio shows that it is trading at its lowest level in the past five years.

Yet, utilising this metric may mislead investors as sale growth is slowing down and no one knows when it will stabilise.

For Garena, there is no visibility as to whether Free Fire will be reinstated in India.

Although Shopee reported an operating profit for 2Q 2023, management will resume spending to boost its competitiveness and the division is likely to fall back into a loss again.

Hence, despite the shares trading at a 52-week low, investors should continue to monitor Sea Limited’s operating metrics and financials.

We’d be looking for a stabilisation in its user numbers and wait for Sea to demonstrate an ability to generate consistent free cash flow before putting the stock on our investment watch list. 

In contrast to Sea, Southeast Asian tech giant Grab reported better than earnings in the second quarter, and brought forward its profitability guidance. Find out what we think of the stock after its share price jump. 

If you are looking for exposure to Southeast Asian tech stocks but prefer not to pick individual stocks, check out this ETF which offers diversified exposure to ASEAN tech giants.

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