Trade Me (TME)

Fat Prophets

Thursday 6th March 2014

What’s new
The interim results of New Zealand’s leading online company show a set of numbers weighed down by the current reinvestment strategy. While revenues increased 7 per cent to NZ$86m, reported net profit edged up just 2 per cent to NZ$38 million, as management intensified investment spending.

At the operating level, the online Classifieds division enjoyed a 17 per cent revenue jump to NZ$39 million, as higher premium product sell-through and yield increases contributed to the performance. However, the General Items business saw a 2 per cent drop in first-half revenues to NZ$33 million, primarily on the back of a weak wider environment and customer-fatigue with the service. As for the “Other” segment, revenues grew just 2 per cent in the December-half to NZ$14 million.

Earnings before Interest, Tax, Depreciation and Amortisation (EBITDA) increased just 2 per cent in the reported half to NZ$60 million. The muted growth was mainly driven by a 19 per cent jump in expenses, as management ramped up investment spending across product development, marketing and technology headcount.

Outlook
Management reiterated that fiscal 2014 will be a year of reinvestment. We remain comfortable with the company’s efforts to fortify its business and to expand its technology and product development capabilities. We believe this strategy will firmly establish a foundation for a stronger long term growth profile.

In the meantime, earnings will be dampened. Indeed, the company’s cost base in the current June-half is likely to increase at a level even higher than the 19 percent rate reported in the December-half.
However, the payoffs from this reinvestment phase are likely emerge from fiscal 2015, as new products roll out, supported by improved website functionality. The reinvestments will also provide the foundation for yield improvements (price increases).

Furthermore, with an 80 percent payout ratio, shareholders will be compensated with a solid yield while waiting for earnings growth to reaccelerate from fiscal 2015. And Trade Me certainly has the balance sheet and the free cash generating power to more than comfortably fund any investment initiatives while maintaining its high payout ratio.
Price

Shares in Trade Me have been largely stagnant in recent periods, down just 2 and 6 per cent over the past 6 and 12 months, respectively. We believe the lacklustre performance on the bourse reflects the apathy of investors towards a company which is sacrificing near term earnings for sustainably stronger long term future.

Worth Buying?
Trade Me is currently in the midst of a reinvestment phase. While the price to pay for this is a much dampened earnings outlook in fiscal 2014, patient investors will be compensated in the meantime with a solid 4.5 percent-plus yield.

The stock is trading at 19 times consensus fiscal 2014 earnings estimates and 17 times the year after. We do not see these multiples as demanding, as they fail to capture the likely strengthening of the company’s dominant positioning in New Zealand once the current reinvestment phase is completed.

Consequently, we believe the stock is worth buying at current levels.
Greg Smith is the Head of Research at Fat Prophets.

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