SEA Ltd Has Already Won
Does the Amazon of Southeast Asia (1/2 of China's population) actually have a Moat??
I am stunned by the rise of SEA Ltd’s (NYSE:SE) e-commerce arm, Shopee.
On several past occasions, I have written about Shopee as it has captivated my attention. As the largest e-commerce player in a region with 4-6% GDP growth with an e-commerce TAM encompassing almost 700M people (and a fortress balance sheet to boot), it puzzled me how Mr Market could’ve at one point valued it at a mere 12.5x normalized multiple. I voiced my doubts in the article below, shortly after SE’s share price crashed by -36% overnight to a low of $36 following its dismal Q2 results:
Well, apparently everyone has since gotten the memo, with its share price having risen by +150% YTD.
The first time I really sat up and took notice of SE was during the 2021 Tech bubble, when everyone and their dog was talking about it. However, its meteoric rise was punctuated by the bursting of said bubble in late-2021, when its share price collapsed by 90% — from a peak of $360 to a trough of just below $36.
At this point, the jury was still out for who would end up conquering Southeast Asia’s burgeoning e-commerce market. While SE was fortuitous enough to have issued $6B of equity and $2.5B of convertibles just two months before the bubble’s peak1, it still had to contend with multiple hefty competitors for the industry throne. This included household names like the Alibaba-backed Lazada, Indonesian champion GoTo (now backed by Tiktok), Softbank-backed Grab, and a smattering of smaller regional efforts like the Salim family-backed Bukalapak (Indomie), AirAsia’s entry into Digital, and more recently Pinduoduo-backed Temu’s entry into the region. For the record, Shopee itself is also backed by Tencent.
Nearly three years have passed since then, and the competitive environment has consolidated dramatically. As I’ve noted in a previous SE article, E-commerce is fundamentally just an evolution of Retail, and its business model is ultimately commoditized. This means that the competitive factor in the industry boils down to giving customers the lowest Price, with few moats existing in the industry. As veterans of the Retail sector are familiar with, such a phenomenon incentivizes sector consolidation by industry participants in order to develop economies of scale — where any savings from incremental margins can be passed on to the consumer and turned into a structural low-cost moat.
“What we're trying to find is a business that, for one reason or another -- it can be because it's the low-cost producer in some area…” — Warren Buffett
I perfectly understood that such an industry consolidation would happen one day — what caught me off guard was the speed at which it took place. In just 3 short years (half a market cycle), multiple former giants in the regional e-commerce scene have visibly expressed fatigue.
Alibaba-backed Lazada, once considered Shopee’s equal in a 4-5 player regional oligopoly, has more or less retired from its attempt to claim the throne, with recent layoffs in February signaling cash constraints. Softbank-backed Grab has scaled back its e-commerce ambitions and refocused around lower-hanging fruit, after a monumental attempt to replicate Amazon’s acquisition of Whole Foods with its acquisition of Jaya Grocer in 2022. Pinduoduo-backed Temu’s recent entrance into the regional e-commerce market is too little too late, with little hope of ever challenging Shopee’s dominant economies of scale (assuming profit is a priority). Tiktok-backed GoTo still remains a contender, but only on its home turf of Indonesia — it has a negligible presence in all other Southeast Asian (SEA) member countries.
This leaves Shopee the indisputable leader of the SEA e-commerce industry, with its tentacles deeply rooted in the majority of the regional bloc’s 11 member nations. It holds the top spot in Singapore, Thailand, Malaysia, Philippines and Vietnam, representing half of the bloc’s nearly 700M population (i.e. 1/4 of China’s). While competitors do have a lead over Shopee in some of the smaller markets (Laos88 in Laos, Shop.mm in Myanmar, Lazada in Brunei & Cambodia), it only seems like a matter of time before Shopee bulldozes them from the top spot Walmart-style, with an orthodox retail promotion war subsidized by its subsidiaries in neighboring countries.
If I had to draw a comic-book analogy, this development resembles The Flash or Sonic speed-blitzing the entire industry by mowing down several of Dr. Robotnik’s contraptions in quick succession. The reasons behind this development are easily understood — Shopee’s competitors ran out of cash in an expensive drawn-out promotion war amidst a fundraising winter, with Shopee being the only one able to raise >10% of its (current) market cap in equity funding literally right before the Tech bubble popped.
If you have been scuttlebutting the industry over the past few years, you’ll know that Shopee has been very strategic about timing its retail promotions in tune with both: 1) where it hurts most for Lazada (e.g. the latter being forced to splash cash on better but more expensive free shipping vouchers to stay competitive, since it can’t offer much else); as well as 2) responding to Tiktok’s and Temu’s relatively new entrances to the scene, with counters in the form of a deluge of seemingly wanton promotional activity. Astute industry observers will recognize that Tiktok and Temu have practically no chance of unseating Shopee’s regional dominance (outside of maybe Indonesia, which remains a Wild West) short of a change in the status quo. Which to be fair still remains possible, however unlikely.
Those who are familiar with the dance of dragons in Big Retail competition and how Amazon dominated Walmart in e-commerce (remember Jet.com?) will be unable to miss the parallels in Shopee’s recent moveset. Basically, the overarching strategy for achieving total victory in the industry is to develop superior economies of scale in order to drive unit costs down, whereupon incremental savings can be passed onto the customer in order to develop a lowest-cost moat. At the same time, tactical applications such as well-timed promotional activity during industry/macro winters can be implemented to impose pain on disadvantaged competition, by drawing away customers in order to deprive them of the necessary revenue required to carry out prohibitively expensive promotional wars of attrition.
All this and other orthodox strategies taken straight out of the B&M Retail playbook are being visibly executed by Shopee, impossible to miss by anyone paying attention. Just download all of the apps of the respective e-commerce players, and pay attention to the timing of heavy promotional activity by Shopee coinciding with big industry developments. This is not something that one can infer from gawking at the quarterly trajectory of their Sales & Marketing expense line item — actually see how they’re courting customers, and figure out the when and the why.
With $6B of cash & cash equivalents sitting pretty on SE’s balance sheet while most of their competitors are tapped dry, I just don’t see how the status quo changes — short of perhaps something otherworldly like Will Smith saving the world from aliens. Even titanic but unrelated developments like Fed interest rate trajectory will affect all regional players equally.
And if the status quo doesn’t change, this war is Shopee’s to lose.
As aforementioned, SE can sit pretty on its fortress balance sheet and simply dish out excruciatingly painful promotions whenever its cash-starved competitors attempt to advance their competitive positions. Given the hyper-commoditized nature of the Retail industry, there just aren’t a lot of ways for the latter to respond to total costs being cheaper on Shopee’s marketplace.
But wait, there’s more…! — we haven’t even gotten to The Amazon Parallel yet.
The Amazon Parallel: Moat??
As I’ve discussed in my previous article dissecting early Amazon’s success, Logistics is the fulcrum of margin accretion in the e-commerce industry. Last-mile delivery is a painfully expensive affair, hence reducing costs in Logistics delivers the greatest gains when attempting to drive down unit costs in the industry.
The standard approach is to gain economies of scale via increasing operating leverage — specifically by reducing reliance on 3PL and bringing logistics in-house. This has the benefit of cutting out the middleman and gaining greater control over last-mile delivery, which helps reduce operational risk and increase average margins. E.g. Amazon was able to partially circumvent the supply chain bottlenecks of 2021 because it had chartered privileged access to obscure shipping ports2.
As far as I have observed3, Shopee is the only e-commerce player in the region which has managed to successfully develop some semblance of an in-house Logistics operation which truly spans nationwide in the various SEA member countries in which it operates in. The likes of Lazada, Grab, and Temu are still relying heavily on 3PL to fulfill much of their orders — simply because they haven’t had the FCF (or any balance sheet to speak of) to develop local last-mile delivery solutions. I guess GoTo does have the ability to tap on the distribution channels of its local B&M Retail partners, but its presence is largely confined to Indonesia. Notably, Shopee has confined its Indonesian operations to just Tier-1 Cities, perhaps recognizing the futility of trying to compete with unique local patriarchal competitive dynamics in the area.
This leaves Shopee dominating in almost every other Southeast Asian market, as far as e-commerce logistics and last-mile delivery economics is concerned. And it’s not standing still, hence more or less guaranteeing that it will continue leaving its competitors in the dust.
There’s another advantage to owning your own last-mile logistics in-house — being able to offer customers free 15-day returns for any reason, similar to Amazon’s policy. Shopee is currently experimenting with allowing such generous perks to customers in Malaysia, with plans to roll it out in other SEA countries later. None of Shopee’s competitors are currently offering this perk, and the reason is simple — it is simply not economical to do so unless you have quasi-monopoly power over suppliers.
Shopee’s terms & conditions states that it requires sellers to allow customers to return eligible items4 for any reason, and to bear the shipping cost of the return trip. This is on top of any incremental working capital costs that come with holding an extra 2 weeks worth of inventory on potentially zero sales — in an industry notorious for having single-digit margins.
This has two interesting implications. One, how does Shopee convince its sellers to tolerate such a hostile marketplace requirement? Unlike in the USA where Amazon is pretty much an effective monopoly, there’s nothing stopping sellers from switching to a competitor platform like Lazada, where they don’t have to bear such a prohibitive ‘return risk’.
The best reason I can come up with is that sellers can’t switch to other marketplace platforms for some reason, at least in Malaysia. This might imply that Shopee considers its competitive position in Malaysia so entrenched that it can get away with forcing sellers to accept such onerous terms without severe business consequences.
The second implication is that the shipping cost of the return trip is small enough that sellers would even consider being forced to swallow it. This subsequently implies that Shopee has managed to drive down unit shipping costs to the point where it has become tenable to make potentially two trips on every single order. The exact mechanics escape me — maybe it adds the cost of the return trip into the initial last-mile delivery, and masks the cost of the return trip with a higher initial shipping fee. But at the end of the day, it is capable of doing so without driving customers away with a prohibitively high shipping cost resembling two last-mile deliveries.
As you can imagine, the competitive advantage of being able to offer customers such a generous perk (where competitors cannot) is not lost on customers. Cursory channel checks reveal that customers of Shopee Malaysia have been serially abusing this new perk at the expense of sellers; and a quick search on the local Tiktok reveals videos of sellers bemoaning Shopee’s new return policy. I can only imagine what the strategists at Lazada HQ must be thinking right now.
And if a competitive advantage is not replicable by competitors, that’s a MOAT. Contrary to popular opinion, moats can sometimes develop in commoditized industries in very rare circumstances. It may not be the kind of moat that you can paint with a broad brush across all similar industries, but in this specific circumstance Shopee does seem to have created its own moat — specifically afforded by its fortress balance sheet (where its competitors are cash-strapped) and the incredible good fortune of having issued shares just before the Tech bubble popped. This draws a parallel to Amazon, which is a de facto monopoly simply owing to its sheer size & reach despite being in the same commoditized industry.
The sum of all this is that even the regional e-commerce giants (alá Lazada, GoTo, Tiktok and Temu) have an uphill battle to climb in order to rival the superior economics that Shopee has seemingly managed to develop. As a refresher, this mainly concerns its strategic advantage in its superior economies of scale via last-mile delivery and logistics; as well as the tactical ability afforded by its fortress balance sheet to snipe down competitive attempts to expand territory with opportunistic promotional activity. Keep in mind that this is all happening in a hyper-commoditized Retail environment, where economies of scale reigns supreme and in which Shopee currently possesses the greatest economies of scale amongst competitors. The only true counter to this in a commoditized industry is having a superior Brand — but it seems Shopee is no slouch in that department either.
I honestly just don’t see how anyone dethrones Shopee, short of some uber generous patron bestowing one of its competitors with infinite funding in order to match Shopee on an even footing. Otherwise, they simply outclass everyone else. They just have too much money to lose.
Updating my $SE Valuation
In my previous SE articles, I made the case that its shares were trading at a mere 12.5x normalized earnings multiple. However, that was when its shares were trading at $36; they have nearly tripled since then. This implies that SE’s shares are currently approaching a 35x normalized earnings multiple today, based on the same estimates.
However, there are two important points to note about my earlier SE valuation:
The earlier 12.5x multiple was arrived at based on the valuation numerator being SE’s Market Cap + Gross Debt, rather than just their Market Cap alone. This was done out of conservativeness since SE was super unpopular at the time; and I was trying to demonstrate how significant the Margin of Safety which existed was. Obviously, there’s no need to do that now, and we can consider removing Gross Debt from their updated valuation, to arrive at their PE ratio based on just Market Cap alone.
Another super-conservative assumption used to arrive at that earlier 12.5x normalized earnings multiple was that both the Digital Entertainment (Garena) and Digital Financial Services (SeaMoney) segments would post flat growth into perpetuity. Pairing it with historical E-commerce segment trend growth, I arrived at normalized earnings of $4B — and then assigned a 50% Margin of Safety for good measure in order to arrive at normalized earnings of $2B for the earnings denominator.
Considering that SE has managed to post its first full-year profit since its inception in FY23, and in light of the near tripling of SE’s share price recently, I’d say that these hyper-conservative assumptions might have been a tad restrictive. If we allowed ourselves some leniency in my aforementioned assumptions, the sky is truly the limit for what SE’s fair value could look like. This might be especially so given how the Fed is poised to cut rates, which can only be beneficial for an e-commerce incumbent whose bread-and-butter business mainly lies in emerging markets.
Writing this article has actually developed an itch in me to revisit my old SE valuation. What do you guys think? Would you like me to make a paid article out of it?
In the meantime, check out all the previous SEA Ltd articles mentioned in this article below!
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By chartering private cargo vessels to carry its goods, Amazon can control where its goods go, avoiding the most congested ports. “Who else would think of putting something going into an obscure port in Washington, and then trucking it down to L.A.? Most people are thinking, well, just bring the ship into L.A. But then you’re experiencing those two-week and three-weeks delay. So Amazon’s really taken advantage of some of the niche strategies I believe that the market needs to employ,” Ferreira said.
feel free to point out if I’m wrong in the comments.
this just means you can’t abuse it onerously, e.g. by returning a consumable after you’ve eaten it. See the full details here.
Great read - thank you!
Your point on the cost of shipping in Malaysia being so much cheaper is likely correct. If you look at the urbanisation rate of the country it is ~80%. This is in line with OECD countries and means the drop density for Sea is higher. As such, logistics costs will be substanitally lower vs somewhere like Indonesia which has low urban concentration (roughly 5% or so live in Jakarta) and low urbanisation rates. We should be able to apply this same logic to Singapore so it'll be interesting to see if they do roll this out in the country.
Whether they can replicate something simlar in countries like Indonesia will be much more difficult. If they did, it would be more a function of market dominance (in my mind?) over favourable drop densities etc etc.