My Thoughts on Sea Limited’s Q2 2022 Earnings $SE

I’m not gonna lie, Sea Limited’s (SE) recent Q2 2022 earnings was pretty disappointing. SE fell 14% the day after earnings and has yet to stop sliding, now down ~25% since earnings day. So far this year, SE is down a whooping 70% YTD. After huge stock price decline and lousy earnings, is SE still worth holding or is it time to sell?

What I didn’t like

Slowing revenue growth. Total revenue was up 29% to $2.9B, a far cry from the 100+% increases during the pandemic. Although the slowdown was not unexpected as the economy reopens and people are no longer stuck at home, the speed of the decline especially in gaming (DE) user base is alarming. Since gaming is the only profitable segment used to fund expansion in e-commerce (EC) and fintech (DFS), shrinking gaming user base, revenue, profits, and cash flow is worrying.

Goodwill impairment & stock-based compensation (SBC). There was a goodwill impairment of $177M, due to lower valuations of prior acquisitions. SBC also continues to be high at $184M vs $112M last year. Even adjusting for these items, Sea’s net loss was still -$571M vs -$321 last year. Hopefully, the market stabilises somewhat and Sea can keep SBC under control.

What I liked

Prioritising profitability and cash flow management. Sea’s EC arm Shopee decided to pull out of France and India (after the latter’s ban on Garena’s self-developed game Free Fire). Sea’s focus now seems to be to reduce losses in Southeast Asia, Taiwan and Brazil, and to bring those markets into profitability on an adjusted EBITDA basis before allocation HQ costs. In terms of cash, Sea still has $7.8B after their massive fund-raising around the time the stock peaked, so they still have plenty of cash to burn.

Adjusted EBITDA (non-GAAP) for EC and DFS stable. Sea’s preferred operational profitability metric is the adjusted EBITDA, which fell mainly due to lower EBITDA for DE (~$400M). EBITDA for EC only fell by ~$70M which is small compared to EC revenues of $1.7B. EBITDA for DFS actually improved slightly by ~$36M while DFS revenue grew +214%, which suggests that DFS might have operating leverage although it is still early days.

Attractive valuation. Probably the biggest reason to stay in or even average down to existing SE position is the valuation. SE is trading at only 3.7x P/S, the lowest it has been in the past 5 years at least and a far cry from the 30-40x P/S during the pandemic heydays.

Conclusion

Sea is facing strong headwinds as expected of a pandemic beneficiary. The question is how much will growth slow before normalising.

On the bright side, management seems to be keenly aware on the need to pull back on growth at all costs and shift focus to profitability.

The extent to which SE stock price has fallen might also mean that risks could already be priced in at current multiples.

Personally, I’m somewhat neutral on SE at the moment but I’m willing to nibble at these prices to add to my position in bite sizes. My cost basis is pretty high ~$171 so every little bit helps.

However, if the gaming business continues to slide, and the e-commerce and fintech segments lose traction or don’t progress faster towards profitability, I might have to seriously consider selling out.

Disclosure: I’m long SE

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