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Should I buy REA Group Limited (ASX:REA) shares for capital growth? 

REA Group Limited (ASX: REA) is a popular choice for many investors and understandably so. As far as company metrics go, it ticks all of the right boxes.

But we need to ask ourselves, despite how good the company appears to be, is the current share price worth it? 

REA Group is a media and publishing business that operates within the real estate industry. Unless you’ve been living under a rock, you would already know that the real estate market within Australia has been booming for quite some time.

REA Group has been a major beneficiary of this market upswing and as such long-term holders in this stock have been handsomely rewarded. The share price has doubled in the past five years with the company proving itself as an earnings juggernaut.

Comfortingly and broadly speaking, the company appears to be theoretically setup to withstand a house price correction via its simple business model. REA Group charges customers money to list on its website thus making money in a rising market, but also making money in a falling market. 

Since 2008, total revenue from the company has grown from $156 million to $671 million, whilst net profits have increased almost 10 fold from $22 million to $206 million.  

The company’s share price is approximately 43 times that of earnings which suggests that the market is expecting earnings to grow. Earnings per share for the 30 June 2017 financial year were $1.77 with the 30 June 2018 amount predicted to top $2.09.

Looking further down the track, REA Group is expected to return $3.06 per share in 2020, which if you bought on today’s price of $90.10, would result in a price to earnings ratio of 29x earnings in two years’ time.

Along with this rather expensive price tag, REA Group also has a debt-to-equity ratio of 0.63:1. The current interest rate environment is conducive for debt fuelled operations. However, these levels should be watched closely as an interest rate rise approaches. 

Acknowledging the hefty share price and presence of debt, it should also be noted that REA Group has been historically responsible with profits. Total earnings per share since 2008 are approximately $9.03 with the company paying out $4.10 in dividends.

What this means is that REA Group has retained and reinvested $4.93 in profits for book value per share to increase by $5.42. Ultimately, this is a positive equation and only adds to the company’s track record of high performance. 

Historically, the company has grown profits, dividends, net assets and importantly for the shareholders, market capital. If the past is any indication of the future, REA Group is a must for all long-term investors’ watch lists.

Foolish takeaway

Personally, I believe REA Group is slightly too expensive to invest in now. However, this media and publishing business holds a very firm position at the top of my watch-list. Another in the sector to watch is the recently listed Domain Holdings Australia Ltd (ASX: DHG), while other businesses may help you profit from the AI boom….

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Motley Fool contributor Matthew Breen has no position in any of the stocks mentioned. The Motley Fool Australia has recommended REA Group Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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