Seek (ASX: SEK) Stock Analysis - April 2015

Overview
Seek (ASX:SEK) was founded in 1997 and is a dominant player (virtual monopoly) in the Australian job seeking market. It is estimated that approximately 90% of total time spent online searching for jobs in Australia is spent on seek.com.au. Online data estimations suggest that Seek (ASX:SEK) attracts more than 30 million site visits per month, which is eight times its nearest competitor.

The business can be broadly divided into three segments:
  • Domestic job sites: Despite management's efforts to diversify the business, seek.com.au remains the core earnings driver for the organisation, generating 50% of the total reported earnings and 35% of total revenue in 2014
  • Education: This segment generated 15% of total reported earnings in 2014
  • Overseas job sites: This segment generated remainder of the reported earnings in 2014
Competitive advantages
Within Australia, Seek enjoys the benefits of what is known as 'network effect'. Network effect is a phenomenon whereby a good or service becomes more valuable when more people use it. This certainly seems to be the case with Seek.

Revenue
The following graph outlines the revenue growth of Seek in the last 10 years.
As can be seen from the graph above, revenue has grown more than 10 fold in the last ten years from AUD 70 million to AUD 713 million in 2014. Seek (ASX:SEK) recorded a phenomenal growth in revenue with 3 year, 5 year and 9 year growth rate (CAGR) at 28%, 28% and 30% respectively. Even during the GFC in 2009, the worst thing that happened was that the revenue remained flat.

Australia is a small market, with the total population of 22-24 million. The days of organic growth for Seek are behind it. Instead, Seek is growing its business through acquisitions in overseas market.

Seek has interest in online job sites in Brazil, Mexico, Indonesia, Thailand, Malaysia, Philippines and China (Zhaopin). Last year, Zhaopin listed on the NYSE and is valued at over USD 750 million.

Seek is also trying to grow its business through investments in the education division. The idea is to provide educational services to job seekers looking to advance their skills through vocational training. The results have been mixed so far.

Earnings
In order to arrive at the owner's earnings, the cash based 'R&D' expenses and non-cash 'Depreciation, Depletion and Amortisation' expenses have been added to the reported Net Income.

The graph below shows the reported earnings, owners earnings and cashflow in the last 10 years. 
In the last ten years, the owner's earnings have grown more than 12 fold from AUD 22 million to AUD 287 million in the year 2014. Seek recorded phenomenal growth in earnings with 3 year, 5 year and 9 year growth rate (CAGR) at 26%, 26% and 29% respectively. During the GFC (2009) Seek's owner's earnings fell by 30% from AUD 112 million to AUD 78 million as is evident in the graph.

Note that Seek reported an earnings of AUD 300 million for the fiscal 2013, of which AUD 160 million was non-cash earnings as result of acquistion. In my calculations, I have not taken the non-cash based earnings into account.

Despite management's efforts to diversify its business, seek.com.au remains the core earnings driver for the organisation, generating 50% of the total earnings and 35% of total revenue in 2014.

Expense vs. Income
In the last 10 years, Seek has spent an average of 83% of its owners earnings on 'R&D', 'Property, Plant and Equipment' and 'Purchase of business'.

I would like to explain my rational behind treating 'R&D' as an expenditure. As a general rule of thumb, the accounting standards dictate that companies aren't allowed to capitalise their research and development cost and is instead treated as an expense which is in contrast to how the cost on 'Property, Plant and Equipment' is treated. The main reason behind it is that there's no way to reliably measure the future economic benefits of R&D costs.

However, companies invest in R&D for the same reason as they invest in other capital expenditure - to grow/expand the business and remain profitable. Hence, in my analysis I add the 'R&D' expenses and other capital expenditure to arrive at owners earnings. Subsequently, I deduct any cost spent on 'R&D', 'Property, Plant and Equipment' and 'Purchase of business' as capital expenditure.

The graph below outlines the 'Earnings vs Expense' ratio in the last 10 years.
During the last 10 years, Seek spent a sum total of AUD 760 million on acquisitions, which comes to 60% of total owners earnings during the same period.

Debt to Equity
The graph below shows the debt-to-equity ratio trend in the last 10 years.  
As a result of spending on acquistions, Seek has gone from no-debt to AUD 788 million debt in 2014. The debt-to-equity ratio has also increased and currently sits at 70%.

PE Ratio
The graph below shows the PE ratio trend in the last 10 years.  
Since the GFC, Seek's PE ratio (based on owner's earning) has ranged from a low of 12.78 to a high of 19.89. Seek's PE ratio (based on reported earnings) has ranged from a low of 16.30 to a high of 27.59.

Return on Equity 
The graph below outlines the ROE trend in the last 10 years. 
Seek's return on equity is above industry average. As can be seen, the ROE has been quite stable since the GFC and has ranged between 27% to 44%.   

Dividend and Free cashflow
The graph below outlines the dividend and free cashflow per share trend in the last 10 years. 

Yield
The graph below outlines the buyback, shareholder and dividend yield trend in the last 10 years. 
In the last 10 years, the dividends have increase at a fantastic CAGR of 23%. Seek has returned a total of AUD 465 million to its shareholder through dividends. Currently, Seek has a dividend yield of 2.6%. I expect that in future, the dividends are more likely to grow at a CAGR of 8-12%.

On the other hand though, Seek has added a total of 63 million additional shares. This in turn, has resulted share dilution of massive 22% over last ten years. Taking the effect of share dilution into consideration, Seek has returned a total of AUD 200 million to its shareholders.

In total, Seek has been able to return 16% of its total owner's earnings to shareholders through dividends and share dilution.

Risks
Looking forward, professional (social) network site LinkedIn poses a threat to Seek's dominance in the marketplace. Employers and recruitment agencies alike are increasingly advertising the jobs on LinkedIn. LinkedIn also enables employers to seek interest from employees even if they are not actively seeking new job opportunities. 

Other risk is the growth path (acquisitions) that Seek has chosen, acquisitions often (two-thirds) fail to deliver the financial benefits that are envisaged.

Long term outlook
The online employment seeking sector is marked by a constantly changing arena, Seek will need to adapt to changes in addition to fighting competition.

In the near future, The slowdown in the resources and commodity sector is expected to weaken the employment conditions in the Australian (domestic) market.

Valuation

3 comments :

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