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REA Group: Buying Opportunity Or Fully Valued?

Australia | Feb 08 2016

This story features REA GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: REA

-Strong depth sales, margins in H1
-But costs to rise in H2
-Acquistions, expansions key to upside


By Eva Brocklehurst

REA Group ((REA)) delivered a firm set of numbers in the first half but the market was not overly impressed, which Morgans blames on management avoiding commentary on a planned May price rise, amid a warning that second half margins would be lower.

Neither issue bothers the broker, as depth advertising volumes are up 28% on the prior year and telegraphing price increases to competitors in advance would be ill advised.

The results were driven by Premier Property listings, with record sales of depth advertising. Most Premiere All subscribers were not loaded onto the system until the December quarter so the revenue uplift will be stronger in the second half, Morgans calculates.

The subsequent sell-off in the share price provides an opportunity to buy a long-term growth story at a discount to intrinsic value, the broker asserts, and upgrades to Add from Hold. Despite an increase in spending in the second half the company is on track to deliver earnings growth of 28% or better, Morgans contends.

Ord Minnett also considers the reaction in the share price overdone, slightly. The broker likes the online real estate industry but, given REA Group trades on a FY16 price earnings multiple around 28x, prefers to stick with a Hold rating.

Credit Suisse takes a similar view to Morgans, in that the dip in the share price is an opportunity to buy. The broker considers the online property sector offers significant scope for longer term revenue growth and upgrades Outperform from Neutral.

Credit Suisse does not believe that a further mild slowing in property market conditions would materially impact on the numbers. The main risk is a major cyclical slowdown which affects vendor willingness to spend on advertising.

When adjusting the result for timing differences in costs, Morgan Stanley considers the results in line, but current growth rates need to be maintained at around 25% in the second half to fulfill expectations.

The core Australian business drove the results with earnings margins rising to an all-time high of 66% versus 61% previously. International division contributions were small and not drivers of the share price, in Morgan Stanley's view. In aggregate these earnings declined because of investment in new regions.

The company did not provide an outlook, in line with usual practice. Macquarie envisages earnings growth of 19.3% in the second half and believes the company is well positioned. The broker estimates the Premiere business accounts for well over half of the depth revenues, with the majority under the Premiere All contracts.

The broker likes the business with its multi-year growth prospects but suggests the price is full. Macquarie finds the growth-value trade off is better at Seek ((SEK)) or, to a lesser extent, Carsales ((CAR)).

As margin expansion was the main reason the first half beat estimates, and with management indicating cost growth will be much higher in the second half, Deutsche Bank is reluctant to expect higher revenue growth at this stage.

Management suggests the start to 2016 has been slow from a listings perspective, which appears at odds with Deutsche Bank’s analysis that signals listings were strong in January. Nevertheless, as this is usually a slower month and a minor movement in the number can influence the growth rate, the broker looks for February's data to provide a more reliable indicator of market trends.

In Deutsche Bank's view, price increases are unlikely until the start of FY17, with the take-up of Premiere All to support growth in FY16. The company emphasised the significant opportunity in South East Asia and the US, with the iProperty acquisition expected to be completed mid February. Deutsche Bank expects this transaction, yet to be incorporated into estimates, to be 3-4% dilutive to earnings on a pro-forma basis.

Unlocking value from recent acquisitions is one of the key catalysts for upside, UBS maintains. The broker believes stock is fairly valued and, while growth prospects are positive, further catalysts such as new products and unlocking value in Italy and Europe are needed as well.

FNArena's database contains four Buy ratings and four Hold. The consensus target is $51.24, suggesting 1.8% upside to the last share price.

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