Back in December 2015 and May 2017 I wrote two articles both titled: 'Is REA Group Limited (ASX: REA) the best growth stock on the ASX?' The general conclusion being that it very well could be.
In December 2017 shares sold for $51.30 and in May 2017 they sold for $62.90 and if we zoom out a little further shares sold for just $6.35 in August 2009.
Today they change hands for near a record high of $103 to mean everyone who has bought in over the last 10 years or more has made a profit.
The reasons why the business is a success for investors also haven't changed and don't look likely to going forward. Let's go over a few of them.
REA Group is generally able to grow profits faster than revenues as it's a relatively scalable and capital light (it's mainly just a collection of websites) business to give it plenty of operating leverage.
For example REA Group won't need to hire more staff to advertise more properties, whereas businesses like miner BHP Group Ltd (ASX: BHP) or airline Qantas Airways Limited (ASX: QAN) would have to take on far higher costs or capital investments to grow revenues anywhere near like REA Group rates.
REA Group has a strong and market-leading competitive position backed up by direct leverage to Australia's most potent asset class in property. Its only real rival is Domain Holdings Australia Group Ltd (ASX: DHG), which means the two operate in a virtual duopoly thanks to the network effects they both boast.
In my opinion REA Group also has a much stronger competitive position than digital classifieds rivals like SEEK Limited (ASX: SEK) and Carsales.com Ltd (ASX: CAR). This is one of the reasons why REA is likely to continue to outperform them over the long term.
Where a business has a compelling network effect (i.e. it attracts the most sellers and buyers) it can also command pricing power to help it lift prices on a consistent basis. It just pushed through more price rises on July 1, 2019 and investing legends like Charlie Munger commonly cite 'pricing power' as the most important quality to look for in a business.
The market dominance and capital light business model als0 equal very high profit margins.
It just reported full year EBITDA of $501 million on revenue of $875 million. You will hardly find any businesses on the S&P/ ASX200 (ASX: XJO) with better operating profit margins than that.
Thanks to its super profitable business model REA Group's return on shareholder equity (ROE) has historically hovered around 30%-35%. This means shares are profitable assets to own and likely to get bid higher in time.
REA Group also only pays out around 50% of earnings per share in dividends meaning it has plenty of cash left over each year to manage its balance sheet or invest later.
Of course the shares also carry plenty of risk, principally around valuation or competition, so any investment should only be a small part of a balanced portfolio.
