Glenn Freeman: I'm Glenn Freeman for Morningstar Australia. I'm joined today by Gareth James, Morningstar's Senior Equity Analyst.

Gareth, thanks for joining us today.

Gareth James: Thanks, Glenn.

Freeman: Now, Gareth, today we are talking about the listing of Domain having formally separated from Fairfax just around two weeks ago. Can you just talk us through the process and what the structure is for the company going forward?

James: Sure. So, Domain used to be part of Fairfax and Fairfax issued shares to their shareholders in Domain and Domain is now a separately-listed entity on the ASX. But Fairfax has retained a 60 per cent shareholding in Domain. So, Fairfax still control the company, but Domain is a separately-listed company now.

Domain didn't undertake an initial public offering. Instead it issued shares to its own shareholders. So, it didn't come to market with new investors investing in the company. The shareholders of Domain are also shareholders of Fairfax as at listing, but that will obviously change over time.

Freeman: And can you give us some insight into how you arrived at the narrow moat rating that we have given Domain, and also to the fair value estimate?

James: Sure. So, Domain has a narrow economic moat rating which is based on a network effect. So, the way we think about Domain is that they have a marketplace of real estate buyers and real estate sellers. And by controlling that marketplace, that makes Domain quite powerful and very important to its customer base and that's what's the narrow economic moat is based upon. We have got a fair value estimate of $2.90 a share and that's based on a discounted cash flow financial model. So, yeah, that's how we arrive at the fair value.

Domain has come on to the market quite strongly. Although we think the stock is overvalued a little bit currently, it doesn't mean that we think it's a low-quality stock. But yeah, we do think it's a bit overvalued at the moment.

The price to earnings or PE ratio is about 40 times, which implies extremely high earnings growth for the stock and that earnings growth is implied by the share prices above what we think is realistic and what's priced into our financial model.

Freeman: And given this is a real estate listings company, can you talk to the impact that property prices have on the value of the company, its earnings outlook?

James: Yeah, sure. So, Domain primarily charges real estate vendors to list their properties on its website and that's where most of its revenue comes from and we expect that to be their strongest area of growth going forward. So, in the long term, we expect population growth in Australia to continue at about 1 per cent to 2 per cent a year and we expect a similar growth in the number of dwellings in Australia. So, that should support good long-term growth for Domain.

The other really important thing to understand about Domain is that Domain's fees for listing on its website are relatively small as a proportion of the selling costs of real estate. So, we think there's quite a lot of potential to increase its fees going forward. With regards to real estate prices, even though in the short-term price weakness is likely to impact listings and therefore impact Domain, in the long-term we don't expect real estate price weakness to impact the company because we think it's got these attractive long-term trends going in its favor.

Freeman: And Gareth, how does Domain Group compare to some of its other major competitors like REA Group, for example?

James: Yeah, sure. So, REA Group is the leader in the real estate online listings segment in Australia. So, REA Group is about three times the size of Domain. It's a much larger business. It's arguably got a stronger competitive position. It's got many more premium listings. So, that's real estate that's where people have paid quite a lot to list their property because it's a much fancier advertisement on the website.

One of the attractions of Domain is that Domain doesn't have that many premium listings relative to REA Group. And so, there's quite a lot of potential close that gap with REA Group. So, looking forward, even though we think REA Group will remain the leading player, we think Domain could grow more quickly as it catches up with REA Group's dominant position in the market.

Freeman: And lastly, how should investors be thinking about this company? Is it a growth stock or is it a dividend stock or is it something in between?

James: Yeah. So, it's an interesting company in that it's really a software company. And the thing about software companies is they tend to generate pretty strong cash flows, because they are not very capital intensive. And that creates also some opportunities. So, they can pay dividends, they can make acquisitions. They can do lots of things with that cash.

But software companies tend to be pretty dividend payers and they are usually franked dividends. So, we do expect Domain to pay dividends and to pay franked dividends, but we do really consider it as a growth stock. It's probably going to trade on quite high P/E multiples. So, their dividend yield will be relatively low, but we expect that dividend to grow pretty quickly over the next few years.

Freeman: Thanks for your time today, Gareth.

James: Thanks, Glenn.

Freeman: I'm Glenn Freeman for Morningstar. Thanks for watching.