Published on Citywire
by Miles Costello
Some of the world’s smartest investors have been drawn to MercadoLibre, Latin America’s biggest player in e-commerce, despite the company’s share price fall.
- Operates in 18 countries in every part of online markets, from facilitating buying and selling goods to providing product delivery and extending credit.
- Exposed to the Fix the Future trend of emerging prosperity, part of social and demographic change megatrend.
- Shares are owned by 34 elite fund managers.
- ‘MercadoLibre has more than 40 million customers and is growing – it has a reputation, brand name and system that makes this captive’ – Hervé van Caloen, Mercator
It’s often described as the ‘Amazon of Latin America’, but to some of the world’s smartest investors that might be to understate this company’s true investment potential.
MercadoLibre (US:MELI) is an Argentine internet retailer that became a sensation during the pandemic when online sales rocketed and the company’s stock market value briefly topped $100bn (£92bn). The shares have more than halved since then, on fears of a growth slowdown and as e-commerce has fallen out of favour with investors. But that’s not stopped some of its converts among the investment cognoscenti from using the fall as an opportunity to load up their holdings, even as others pull back.
In fact, the depth of belief in the business is striking. MercadoLibre punches well above its $42bn stock market weight: it ranks in the 10 highest-conviction positions for the elite fund managers tracked by Fix the Future, out of the nearly 6,000 stocks they hold in total. No other company with a market capitalisation of less than $50bn reaches those heights.
In total, 34 top-performing fund managers hold MercadoLibre shares. While that is shy of the 41 owning Amazon, investors in its Latin American rival are placing bigger bets, running larger weightings than their stock market benchmarks.
Eleven own MercadoLibre in their top 10, including Mercator International Opportunity manager Hervé van Caloen, whose biggest position is in the shares, and Lawrence Burns and Paulina McPadden, who are running a 7.1% position in their Baillie Gifford International Concentrated Growth Equities fund. By comparison, MercadoLibre makes up just 0.08% of the MSCI World index, versus Amazon’s 2.3%.
So what’s all the fuss about?
The simple answer is MercadoLibre’s breathtaking financial performance. Sales have risen nearly sixfold over the past five years, from $1.2bn in 2017 to $7.1bn in 2021. Although it posted losses in 2018 and 2019, earnings before interest and taxes more than trebled over the same five-year period. The company’s free cashflow, which soared during the pandemic, has almost doubled over the same timeframe, giving it plenty of financial liquidity to draw upon. While operating margins shrank from 11.9% in 2017 to 6.4% last year, largely due to the pace of MercadoLibre’s investment in technology and product development, profitability is beginning to regain ground, with operating margins improving to 9.6% during the second quarter of this year.
Sales rocket and margins recover
Given this growth, MercadoLibre’s shares don’t come cheap, even after their selloff. They trade at a gutwrenching 807 times last year’s earnings, falling to a still giddy 108 times consensus forecasts for this year and 61 times next year’s estimates.
But elite fund manager backers such as van Caloen argue that, as long as the company is cash positive, invests wisely and maintains the strength of its balance sheet, it is the ‘big picture’ of the company’s longer-term potential that counts.
Buying the dip
Van Caloen is a relative newcomer to MercadoLibre’s shares, having started building a position that is now the largest in his $19m fund in December last year.
He was one of several elite fund managers who have been active buyers of the shares as they have halved in price over the past 12 months. Nicole Kornitzer, manager of the $459m Buffalo International fund, also established a position in December.
Others have used the share price falls to add to their positions. Simon Webber and James Gautrey, managers of the $3.4bn Hartford Schroders International Stock fund, have led the way, snapping up $28m of stock over the past 12 months.
Wasatch Emerging Markets Select fund managers Ajay Krishnan, Matthew Dreith and Scott Thomas have meanwhile raised their stake in MercadoLibre more than fivefold over the past year, now holding 4.4% of their $352m portfolio in the stock.
MercadoLibre – which means free market – was founded in Argentina in 1999 by Marcos Galperin, a former investment banker at JP Morgan who remains chairman, president and chief executive. Headquartered in Uruguay and incorporated in the US, it is the leading player in e-commerce in Latin America, operating in 18 countries, with Argentina, Brazil and Mexico accounting for the majority of earnings.
MercadoLibre facilitates the buying, selling and delivery of goods online and, as well as having a payments arm, it offers credit, with a loans and credit card book that most recently stood at $2.7bn. It also features classified ads and holds auctions, giving it similarities to eBay as well as Amazon. It even has an asset management business, Mercado Fondo.
What sets the group apart, however, is its self-proclaimed mission to democratise e-commerce and financial services – ensuring that small traders have a market for their goods and that individuals with poor access to finance have the means to buy them. This is no mean feat in countries where the existing banking sector can often be distinctly undemocratic.
As Burns said in a recent commentary: ‘In most Latin American countries, you’ll find an oligopoly where three or four banks control 80% of the market, catering only for the wealthy and charging some of the highest fees in the world.
‘As many as 30% of Brazilians and 60% of Mexicans don’t have bank accounts, and if you move on to credit card penetration it’s even more dire, with Brazil below 30% and Mexico about 10%. There was a big opportunity for disruption.’
MercadoLibre also makes a point of highlighting the 900,000 families who are dependent on its marketplace for their income and the hundreds of thousands of small businesses whose successful trading it facilitates. To use its words, it says it wants ‘to contribute to the sustainable prosperity of our region’.
To do this efficiently and at a manageable cost, and in part in response to growing competition, the group has been heavily expanding its activities in logistics, including via acquisitions. Last year, for example, MercadoLibre bought Kangu, a Brazil-based operator of thousands of local delivery and collection points. It has also been ramping up its financial technology capabilities to make it easier for smaller operators to take and process payments.
The group operates four main divisions: MercadoLibre (the marketplace); Mercado Envios (deliveries); Mercado Pago (payments); and Mercado Credito (credit). However, it reports as two units – commerce, which last year accounted for just over 65% of revenues, and fintech, which covered the remainder.
Retailer or fintech play?
There are several ways to view MercadoLibre. On the one hand, it is an online and digital retailer, operating a growing platform for the sale of goods, in countries where the growth of e-commerce is among the fastest in the world. It might also be seen as a fintech player based on initiatives such as its payments app and, more recently, its creation of a new cryptocurrency, MercadoCoin, to be issued as part of its loyalty programme in Brazil.
At the same time, it could be looked at as a logistics operator: it operates its own warehouses (known as fulfilment centres), which process and dispatch almost 40% of its sales, and its arrangements for shipping goods include running its own fleet of vehicles. It also has partnerships with airlines that effectively give it its own planes. Arguably, the fact that it offers all of these services could be seen as MercadoLibre’s main competitive advantage, and one that has helped it keep ahead of the competition, which includes local as well as international players.
Van Caloen says he sees MercadoLibre as able to create long-term sustainable value by building an ‘ecosystem’ of e-commerce services that link and ‘capture’ its users.
‘They now have more than 40 million customers and growing; they have a reputation and brand name and a system that makes this captive. If you’re a merchant on MercadoLibre you can use their payment facilities, a very big thing in Latin America, which is basically still a cash economy,’ he tells Citywire. ‘The e-commerce system is what built their base, and from there they can grow their whole ecosystem.’
Van Caloen, an advocate of the company’s democratising agenda, argues MercadoLibre’s competitive edge is its first-mover advantage in its markets. ‘They were the first ones to take that market, beating Amazon and [Singaporean e-commerce rival] Sea Limited, which is trying now to catch up. Once you have established that market share it’s very difficult for someone else to come in and take it away from you if you continue to do a good job,’ he says. While Sea Limited is a leading player in Southeast Asia, it has also been gaining ground in other regions, including Brazil.
Burns says MercadoLibre’s steady move into payments and logistics is a logical consequence of its established position in e-commerce and adds considerably to the company’s attractions. ‘It’s usual for e-commerce marketplaces to give birth to dominant payment platforms,’ he says. ‘In China, the big players have been able to leverage that data into a much broader financial platform, and we’re seeing something similar with MercadoLibre.
‘Now 80% of its deliveries are made within 48 hours, which was impossible five years ago, at least outside São Paulo or Rio de Janeiro. Not only has the company had to manage the increase in the scale of goods going through the network because of Covid, but it’s also increased efficiency and speed of delivery at the same time. It’s a remarkable feat.’
MercadoLibre’s established position in the Latin American market also exposes it to fast-growing economies, plugging it into emerging prosperity, part of the social and demographic change megatrend involving growing, ageing and urbanising populations.
The economies of Latin America and the Caribbean grew by 6.9% last year, outpacing the global average as they recovered from the impact of the global pandemic, with growth expected to cool to 3% this year and 2% the next, according to the International Monetary Fund. While marginally lagging the global average, that would still be ahead of the 2.5% and 1.4% expected growth for advanced economies.
The external pressures on MercadoLibre’s business have been gradually on the increase, however. Surging inflation – which increases costs and is likely to force consumers to trade down to cheaper products – could dampen sales, as could the fallout from Russia’s war on Ukraine and the prospect of a global recession.
Van Caloen, for one, seems unperturbed. ‘First of all, you’re talking about a company that is based in Argentina, so they have a long history of dealing with inflation,’ he says. (Inflation grew by 7% month on month in August in Argentina and was up by 78.5% over the preceding 12 months, according to the country’s statistics agency, Indec.)
‘I think inflation could be an advantage for some of these companies. They’re good at controlling their costs. And if their costs do not grow as fast as their top line [revenues], they could actually benefit from inflation. Costs will go up and volumes will go down and it’s going to be a difficult environment, but in a difficult environment you want to be with the leading, best-managed company,’ he says.
There is a further argument that the financial strains an economic downturn would place on household finances could hit the strength of MercadoLibre’s credit and loans book as levels of late repayment and defaults turn higher. In its results for the three months to the end of June, the group said that the rate of repayment arrears of between one and 90 days stood at 13.2%, similar to previous quarters, though substantial relative to, say, a diversified bank in the West.
While technical factors, including slower lending growth, meant that the rate of non-repayment over longer timeframes was considerably higher, at 31.4%, MercadoLibre says that the reserves it holds to cover souring loans – at 170% of its exposures – are considerably higher than the industry average. The company, which manages its own lending practices, also says that it is able to swiftly adjust its lending criteria and activities because its average individual loan is roughly $150 and lent over very short periods.
MercadoLibre is ‘essentially becoming a bank’, says van Caloen. ‘In a country like Mexico that is very underbanked, it could become the dominant player because it has that [credit] facility and also the payment facility online,’ he adds.
Based on its raw commitment to promoting inclusion – commercial, financial and technological – it’s hard not to conclude that MercadoLibre is fixing the future.
Where the group goes next is a matter for debate: the biggest financial services provider in Latin America? Perhaps. The dominant force in the delivery of goods ordered online? Maybe. There might even be a time when it moves into entirely new geographies. There is a potentially fruitful market in the US, for example, where according to the 2020 government census, there are 62.1 million Hispanic or Latino citizens, equivalent to 18.7% of the total population.
After all, Amazon began life as an (often-dismissed) online bookseller, before turning itself into one of the planet’s most powerful companies. Looked at that way, the comparison with MercadoLibre might be apt.
Disclaimer: As of 9/30/22 MercadoLibre represented 6.43% of the Mercator International Opportunity Fund’s net assets.