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CFA Institute Research Challenge hosted by CFA Society Japan Kyoto University [Kyoto University] Student Research This report is published for educational purposes only by students competing in the CFA Institute Research Challenge. Rakuten, Inc Date: 2015/9/30 Ticker: 4755 Recommendation: BUY Exchange: Tokyo Stock Exchange Price: 1,524 (As of 2015/9/30) Sector/Indusry: Service Price Target: 2,124(39% Upside) Highlights We issue a BUY recommendation on Rakuten, Inc (Rakuten) with a one-year target price of JPY2,124, offering 39% upside from its closing price of JPY1,524 on September 30, 2015. We believe the largest profit source of Rakuten “Rakuten Ichiba” will remain as competitive as it is. Also, the loss from digital contents business is understandable as it is intended to bring users to overseas EC business. Our recommendation is primarily driven by: Successful Realization of “Rakuten Ecosystem”: Rakuten has been steadily building up Rakuten Ecosystem, which consists of the core EC business Rakuten Ichiba and other services Rakuten offers, including financial services. Rakuten membership can access to all services by Market Profile using a single ID called “Rakuten ID” and they can obtain “Rakuten Super Point”, which can Closing Price (JPY) 1,524 be used as money in the Rakuten Ecosystem. Through the generous assignment of Rakuten 52-Week High / Low (JPY) 1,138 / 2,358 Super Point, Rakuten ID users flow into other services of Rakuten Group, and the synergy Diluted Shares Out 1,429,987,000 effect will continue to give Rakuten competitive advantages for sales expansion. Market Cap 2,179.3B Loss from Digital Contents to Be Paid Off: Rakuten has greatly invested in digital contents Dividend Yield (JPY) ¥4.50 business and losing money because of it. However, we understand this investment is necessary for Rakuten’s future growth. Digital contents is one of the most fast growing area in Beta 0.89 the internet business and they are trying to exploit this opportunity to get new Rakuten ID EV / Revenue 8.77 member. We understand this is successful and will benefit the EC businesses. EV / EBITDA 52.66 Competition with Yahoo!: The biggest threat is Yahoo! Shopping. They are offering market Sources:Sources: Yahoo! Yahoo! Finance place for free and some small shop moved there from Rakuten Ichiba. Although this is not critical at the moment, it could be critical if larger-scale shops move there. This is because we Target Price Breakdown understand the larger-scale shops make Rakuten Ichiba attractive. Component Value (Million JPY) Valuation: We set the target price of JPY2,124 per share by EVA. The high debt/equity ratio Internet Services 1,823,766 and the low cost of debt are combined to keep the capital cost low. In our EVA, we applied Rakuten Bank 268,548 different WACCs for each major business of Rakuten. We also valued Rakuten by DCF and multiple and they showed quite similar price to the one from EVA. Rakuten Card 632,843 Recent News Rakuten Securities 308,550 Rakuten Insurance 33,049 The company announced their new slogan of “Connecting the Dots”; building an efficient network what we call Rakuten Ecosystem, between the existing Rakuten’s business and Enterprise Value 3,066,756 recently acquired business Less: Interest Bearing Liabilities 732,390 182 billion yen of public offering in 2015 Q2 to repay debts pushed down D/E ratio from Less: Minority Equity 2,227 1.40 to 1.11 Plus: Cash and Equivalents 704,685 Overseas EC merchandise sales soared 55% in 2015 Q2 (YoY) Unique users of Viber exceeded 600 million in 2015 Q2 Diluted Shares Out 1,430 Target Price 2,124 KEY INDICATORS in Billions 2013 2014 2015E 2016E 2017E 2018E 2019E Sources: Team estimates Sales 519 599 756 825 918 1,007 1,097 Net Operating Income 90 106 133 168 203 233 263 NOI Margin 17% 18% 18% 20% 22% 23% 24% NOPAT 59 69 86 109 132 151 171 Invested Capital 306 850 1,176 1,283 1,421 1,539 1,657 ROIC 19.1% 8.1% 7.4% 8.5% 9.3% 9.8% 10.3% Domestic MS 1,734 2,006 2,237 2,489 2,763 3,057 3,438 Overseas MS 64 224 785 908 1,051 1,171 1,306 Overseas Rate 4% 10% 26% 27% 28% 28% 28% 1 CFA Institute Research Challenge 2015/9/30 Figure 1. Sales and Operating Income Business Description Rakuten was founded in 1997 and is the leading Internet Service company in Japan. Rakuten Ichiba, the oldest and core business of Rakuten, was one of the earliest EC websites in Japan. With a hope to transform into the top Internet service provider in the world, they went through aggressive M&As and diversified their business portfolio (Appendix A). Besides the diversified revenue sources, they have succeeded in generating synergy among the businesses. For example, Rakuten Ichiba users are promoted to use Rakuten Bank account to complete the payments for their purchase, and Rakuten Bank can easily get new clients through Rakuten Ichiba. Rakuten aim to establish Rakuten Ecosystem, where consumers Source: Annual Reports can access to various Internet services, only with one Rakuten ID. The number of Rakuten membership reached 100 million in 2015, almost 80% of Japan’s population (Appendix B). Figure 2. Operating Income Annual reports break down Rakuten’s business into three segments: Internet Services, Internet Finances and Others (Appendix C). Internet Services includes Rakuten Ichiba, Rakuten Travel and other digital contents such as SNS and video streaming websites. Internet Finances covers Rakuten Card, Rakuten Bank, Rakuten Securities and Rakuten Insurance. Other Services includes a baseball team, wifi provider and etc. The transition of Rakuten Group performance is shown in Figure 1, while the composition of net operating income in Figure 2. Due to the recent sound economic conditions, Internet Finances segment occupies more and more of the entire Rakuten’s profit. Rakuten Ichiba, the core business of Rakuten, is a virtual online shopping mall. It accounts for 68% of the operating income of Rakuten as of the end of 2014. It provides 41,659 shops, as of 2015 Q2, with Source: Annual Reports web platform that each shop can customize its pageto maximize their sales. Registered shops pay for (1) registration fee, (2) monthly service charge (3) service charge on merchandise sales (MS) and (4) around Table 1. Global Network 1% commission of MS. These account for Rakuten Ichiba’s sales (Appendix D). The number of registered shops is a significant input to its performance, and keeping the platform appealing is critical. Services Region Time The company is eager to apply the know-hows gained by domestic EC business to overseas operation, Rakuten.com.sg Singapore Jan-14 and they already invested in Europe, North America and South East Asia (Table 1). Rakuten.es Spain Oct-13 Rakuten.at Ausutralia Jun-13 Rakuten.com.my Malaysia Oct-12 Rakuten has been eagerly engaged in M&As over digital contents providers in the last three years, and Rakuten.com.uk UK Oct-11 they are one of the highly prospective businesses. Major examples are Viber, a Cyprus based Ozon.ru Russia Sep-11 communication app, Viki, a subtitled video streaming service provider and Kobo, a Canada based Rakuten.de Germany Jul-11 electronic book company. Figure 3 indicates the numbers of unique/active users of these services in the Rakuten.com.br Brasil Jun-11 last three years. Although their profitability is currently negative, we believe they will be able to Rakuten Belanja Online Indonesia Jun-11 contribute greatly to Rakuten, by advertisement sales and by bringing consumers to Rakuten Ecosystem. Priceminister France Jul-10 Rakuten.com US Jul-10 Strategies TARAD.com Thailand Sep-09 The Company’s main strategies are (1) to reinforce Rakuten Ecosystem both domestically and overseas, Rakuten Taiwan Taiwan Jun-08 by means of fulfilling a variety of services and enhancing user usability within the ecosystem, and (2) to grow overseas EC and digital contents. Specifically speaking, Rakuten will: Source: Investor Relations Reposition Rakuten Ichiba within EC industry to keep it appealing – There are fewer registered shops year by year, after Yahoo! Shopping began to offer their marketplace for free. Figure 3. Growth of Users Some of small-size shops are suspected to leave or have left Rakuten Ichiba as shown in Appendix D, and in response to this Yahoo!’s activity, Rakuten Ichiba made the policy stricter for starting a new shop at Rakuten Ichiba. This implies their strategy to redefine their marketplace as a higher quality EC platform. Go global through Digital Contents and EC – In 2014, the CEO shared his idea of first entering foreign markets through digital contents to create a customer base, and then bringing in EC business to the world. Viber and Viki, for example, are positioned as an entrance to Rakuten Ecosystem, as Rakuten is planning to integrate all accounts into Rakuten ID. Based on this tactic, Source: Annual Reports we interpreted acquisition of digital contents is aimed to expand and increase Rakuten ID holders. This sets out a foundation of overseas EC business to be launched, and attaining to reach 50% of Figure 4. Shareholders transaction volume deriving from overseas. Shareholders’ Structure Mr.Hiroshi Mikitani founded Rakuten, and his family owns controlling interest of Rakuten. The biggest shareholder of Rakuten is a limited liability company CZ-group, which was established to manage assets of Mr.Mikitani. CZ-group owns 17% of common shares, and Mr.Mikitani himself owns 13% as well (Figure 4). Also, his wife Haruko Mikitani owns 10% of the shares.