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What's the eBay of Latin America?


This recently hammered stock is still a buying opportunity. Here's why.


Don't count MercadoLibre (MELI) out. The recent 17.8% drop in the stock price of this LatAm ecommerce giant's stock is a clear overreaction. Performance-oriented institutions and hedge funds are exiting, taking profits while afraid of any adverse developments from an economic slowdown.

So why do I say that?

The MercadoLibre site is among the top 50 in the world in terms of page views, and is the leading retail platform in unique visitors in each of the 12 Latin American countries in which it operates, according to metrics provided by comScore Networks.

I recommend retaining your 7.8% MercadoLibre position in the LSI Model Growth Stock Portfolio to get sustainable high-quality Internet growth. Think of this as a cheaper version of Baidu (BIDU), the leading Chinese Internet stock, but without the drag that Chinese stocks have been suffering.

Despite this awesome description, a fair warning is called for. If you are a lover of straight line charts or instant stock price pops, don't bother reading this. MercadoLibre will never have that type of profile. It's the kind of stock that will always have "show me" stamped on it, given what it's attempting.

MercadoLibre management is doing what is required in order to put in place a faster growth ecommerce cash machine, one that's efficient, competitive, and very profitable in a place where it's never been done before: Latin America. And it seems its biggest competition for this business may be itself.

In the firm's recent quarterly earnings call, it clearly laid out a series of non-recurring and structural changes that occurred, including:

1. A mix shift toward lower average tickets with more new stores;
2. $1 million in extra payroll charges as the headcount grew by 250 in one year; and
3. Gross margin contraction from higher interchange fees and charge-backs.

Add in some non-planned downtime from payments system architecture moves that reduced transactions, and it's easy to see how institutional investors could get rattled.

Here's why I still like this stock, especially at the currently lower prices. The Internet Market Growth Potential in LatAm is outrageous! Let me stress this point: There are probably few things growing faster or more consistently than the US national debt. One of these things is the worldwide Internet. I wish I had an Internet Growth Clock like the National Debt Clock to illustrate this unstoppable growth.

Now over 40% of Latin America's population has access to the Internet, and this penetration rate is growing. At 50% penetration, that will mean an additional 30 million potential consumers. Based on MercadoLibre's existing market share, this translates to another six million to seven million visitors to its sites - a close-to effective 20% growth without changing a thing!

And by the way, the population in Latin America is growing faster than the US or world averages. Hopefully now you get this picture.

But big profit opportunity attracts attention. Realistically, there aren't a lot of competitors for this high-scale,
resource-intensive business. That leaves MercadoLibre in the lead with recent year-over-year net revenue growth in its major countries as follows:

  • +29% for Brazil
  • +35% for Mexico
  • +66% for Venezuela
  • +85% for Argentina

It's really only in the Brazilian market that MercadoLibre faces competition. Submarino and BuscaPe collectively attract over 18 million unique visitors a year, compared to the 13 million of MercadoLibre.

To stay ahead, MELI plans to continue expanding its group discounts and free listings promotions, as these are generating seller signups and creating relationships with stores that will eventually have longer term economic value.

The focus on building quality store relationships is one of the secrets of parent eBay's (EBAY) recent hot results. eBay's April year-on-year 24% same-store sales gain was a new record growth rate for the eBay marketplace. I think it's great to follow this approach, but this upfront discount type of pricing strategy takes money to pull off and survive.

Another similarity is that payment processing is a part of eBay's recent earnings, with a 32% increase in PayPal revenues. And while the payment processing unit-MercadoPago-is still small at MercadoLibre, it is growing rapidly. And MELI has the operational and financial resources to grow this business.

Don't think of this as an Internet stock with all promise and no bite. This is a money-making machine. In the latest quarter, MercadoLibre generated $15 million of additional free cash flow (cash from operating activities less purchases of property, equipment, and intangible assets).

One of the easiest ways to lose money is shorting a stock like MercadoLibre, mistaking it for just another Internet startup people have not heard about. My advice is: Don't ever short any stock that has negative net debt, and where the parent/partner (eBay) also has big cash positions and negative net debt. It's not a good idea to go in the ring against a big, bad, bruising tag team like that. You'll lose.

So focus on what's really going on here operationally. MercadoLibre is one very solid company with growth numbers like these in the most recent quarter:

  • Total confirmed registered users: +25.0%
  • New confirmed registered users: +36.6%
  • Gross merchandise volume: +38.6%
  • Items sold: +38.1%
  • Total payments volume: +50.9%
  • Total payments transactions: +84.6%

As with the e-commerce division, growth in its payment division has also been impressive, with an 84.6% increase from a current small base. And like eBay's PayPal in North America, MercadoLibre's MercadoPago has the potential to dominate the online payment space across Central and Latin America, driven by Internet users familiar with MercadoLibre itself.

Eventually, the benefits of the conversions and rewrite they have just undergone will be even clearer. For now, we have to be satisfied with another opportunity to see MercadoLibre shares at values we have not seen in a while.

Not a bad stock to own, and certainly a contender in the ecommerce space I would certainly back.

Editor's Note: This article was written by Rudy Martin of Latin Stock Investing.

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