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Why I’m thinking of selling my REA Group Limited shares

REA Group Limited (ASX: REA) has been one of the most consistent performers on the ASX in recent years. Since January 2016 the REA Group share price has risen around 70% with surprisingly low volatility.

These dependable, consistent returns have made it, along with other blue chips like Cochlear Limited (ASX: COH) and Challenger Ltd (ASX: CGF), ideal “buy and forget” stocks. These companies’ share prices exhibit the types of nice, hassle-free return profiles that won’t keep you up at night.  

REA Group operates the leading property advertising websites realestate.com.au, realcommercial.com.au and flatmates.com.au. One of the bigger market trends over the last few years has been the increasing interest in companies like REA Group that operate almost entirely online.

The recent local successes of other pure play online companies like Kogan.com Ltd (ASX: KGN), Carsales.Com Ltd (ASX: CAR), and Webjet Limited (ASX: WEB) has shown that the consumer landscape in Australia is quickly changing. And, naturally, investors want to cash in on these shifting consumer attitudes.  

There have been a couple of key developments over the last few months that have caused REA Group’s shares to surge higher. The first is the company’s successful acquisition of Hometrack Australia, recently approved by the ACCC.

Hometrack provides a suite of property data analytics tools including valuation models. It is hoped that this acquisition will allow REA to deliver greater data insights and analytics to customers using its realestate.com.au website, significantly strengthening its online service. 

Additionally, REA released impressive third quarter results to the market in May. Revenue for the quarter was $186 million, which represented a 19% increase on its third quarter FY17 result. EBITDA was also up 19% against 3Q17, to $102 million.  

The REA share price surged over 10% higher in a matter of weeks on the back of these two announcements, reaching an all-time high of $93.70 in late June.

And even after a mild correction in July the share price is still currently $88.15. To put this into some sort of perspective, this time last year REA Group’s shares were valued at just $69.19. So could it be that some herding mentality amongst investors is pushing REA into overvalued territory? 

Perhaps this question is best answered by comparing REA Group to those other “buy and forget” companies I mentioned back at the beginning of this article. Based on their 1H18 results, Cochlear trades at a multiple of around 53x earnings, while Challenger trades at just 18x earnings.

There are obviously various factors unique to the industries in which these companies operate that will affect their multiples.

Amongst this peer group, REA’s multiple of about 45x earnings actually doesn’t seem too outlandish. However, I do think that a company like Cochlear offers more international growth opportunities than REA Group – meaning that at its current valuation it may still be on the expensive side.  

Foolish t akeaway

As a shareholder in REA Group myself, I’m loath to sell my own shares. REA is a mature company with a solid market share and few competitors, other than possibly Domain Holdings Australia Ltd (ASX: DHG).

However Domain has had a pretty lacklustre first few months on the ASX after it was spun off from Fairfax Media Limited (ASX: FXJ) in November 2017. 

REA’s market dominance can also be a weakness – it has limited capacity for growth onshore and despite its expansions into Asia its business seems overly exposed to the whims of the Australian property market (almost 95% of its 1H18 revenues came from its Australian operations).

And things may not be as rosy for REA Group in the future: we constantly hear how the Australian housing bubble is prone to burst at any moment, and a decline in activity across the real estate market is a key risk to REA. Based on its current valuation, this is a risk that may not be properly factored into its current share price.  

So for existing shareholders, I’m still inclined to rate REA Group as a hold. And for new investors, REA definitely remains a blue chip worth at least adding to your watch lists – but if you’re seeking the same sort of double digit returns that REA Group has delivered over the last couple years, I’d probably advise you to look elsewhere.  

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Motley Fool contributor Rhys Brock owns shares of Cochlear Ltd., Kogan.com ltd, and REA Group Limited. The Motley Fool Australia owns shares of and has recommended Challenger Limited. The Motley Fool Australia has recommended carsales.com Limited, Cochlear Ltd., Kogan.com ltd, REA Group Limited, and Webjet Ltd. 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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