Why REA could be a better way to invest in property

Roger Montgomery

Montgomery Investment Management

According to a recent rent report by Domain, gross rental yields have dived to around 4 per cent on the back of soaring property prices. This makes direct investment in property less appealing than it once was. But there are other ways to profit from Australia’s obsession with property. And one of those is via online real estate advertising company, REA Group (ASX:REA).

With interest rates as low as they are, and the once tight reins on lending now looser, the property market is understandably jubilant. But pickings are slim, with listings way below anything regarded as ‘average’. One real estate agent in Manly, Sydney, told me normally there should be 130 properties listed at any time. At the time of writing, that number amounts to just 28.

So REA Group’s full-year results and outlook statement should be of some interest. REA is a super-high-quality business that has been growing revenues for years, despite declining listings. A tight focus on costs and efficiencies along with the ability to raise prices and charge for add-on features has enabled the company to report growing revenue over the years.

REA reported FY21 Revenue of $928 million, which was up 13 per cent and compared to consensus estimates of $920 million. EBITDA was $556 million, also up 13 per cent and slightly lower than consensus estimates of $564 million. Finally, net profit after tax (NPAT) came in at $318 million versus consensus of $340 million.

While REA reported a result that was roughly in line with consensus analyst expectations (notwithstanding the NPAT miss due to higher tax rates) for FY21, REA remains one of the companies, we have alluded to previously, where lockdowns are playing havoc with any ability to forecast the future.

Of course, the previous corresponding period (last year) was COVID-19-weak and so it was no surprise to see Q4 revenue growth of 51 per cent. REA management however likened FY22’s listing volumes to a rollercoaster citing lockdowns and the possibility of a Federal Election in the first half of calendar 2022 impacting listings. Importantly the company noted July volumes were down three per cent, reflecting the impact of lockdowns.

Unsurprisingly, sell-side analysts will find it almost impossible to place any certainty on a forecast. If we assume a further decline in volumes, these will be offset by the company’s announced eight per cent price increase, and possibly a shift to higher-margin products, and better depth penetration (premium advertising adoption). Nevertheless, there is little to be gained by trying to put a precise number on the company’s near term prospects.

Since the full-year results announcement on 6 August 2021, the share price has fallen 10 per cent to $150.41. The company’s articulated uncertainty about listing volumes and flow-through impacts of renewed and expanding COVID-19 lockdowns on property inspections and therefore listings are likely the reason for the recent selling in the share price.

In the long-term, we expect the highly-anticipated and long-awaited normalisation of listing volumes to eventuate. This will, when it eventually occurs, provide a massive boost – through operating leverage – as the company has, for years, worked on efficiencies and price rises.

Imagine how much the company could earn if Manly listings (reflecting all suburbs) rise from 28 properties back to 130-odd.

Perhaps now is the time to be selling the investment property and buying REA? Be sure to run that idea past your adviser first of course.

1 stock mentioned

Roger Montgomery
Founder and Chairman
Montgomery Investment Management

Roger Montgomery founded Montgomery Investment Management, www.montinvest.com in 2010. Roger has than three decades of experience in investing, financial markets and analysis. Roger also authored the best-selling investment book, Value.able.

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