Online property portal REA Group Limited (ASX: REA) reported a 16% growth in revenue to June 2017. But it wasn't all plain sailing. Earnings growth was a more modest 12%, and the group also took a massive $180m goodwill writedown on its Far East assets. For some reason the market seems to have brushed that writedown completely aside.
That concerns me because the Far East, including Malaysia and Indonesia, is seen as a major driver of future growth. Yet a look at the segmental breakdown shows that it only accounted for 5.6% of overall revenue. At the EBITDA line the Far East actually made a loss of $800,000 compared to a $404 million profit from Australia. There's a long way to go for the Far East to make a difference.
Now to Australia, which currently enjoys EBITDA margins of 64%. REA Group has defied the naysayers for years with these types of returns. Having said that, there has to come a point when the estate agents, who are their main source of revenue, kick back. It's not inconceivable that the softening east coast market will precipitate this.
In any event, REA Group is now turning to other sources of revenue to protect or grow its Australian profits. The largest is the new Financial Services business. It's forecast to chip in $7-$11m EBITDA this year. Again, this is not a huge number relative to the core agency revenue. It too could come under pressure from falling mortgage demand.
Last, but not least, we come to valuation. Even allowing for what seem to me to be quite optimistic EPS forecasts for 2017/18, REA Group trades on an estimated forward multiple of 34x earnings. That's far too rich for me, given that it will be much harder for REA Group to enjoy super normal margins in countries or activities where it lacks the same critical mass.
Foolish takeaway
I see some scope for negative surprises with REA Group, whereas this is a stock that really needs upgrades to justify its lofty rating. On that basis, it might be wise to take profits.
