Morningstar initiates coverage on Property Exchange of Australia (ASX: PXA) with a fair value of $15. The shares are currently trading at a 23% discount to our fair value. 

We award Pexa a wide economic moat rating based on network effects and switching costs in its Australian exchange business. A wide economic moat indicates that our analysts believe that the company is able to protect and grow its earnings for at least 20 years.

Pexa’s economic moat is primarily supported by network effects. In Australia, property transactions require the involvement of numerous stakeholders, such as buyers and sellers, conveyancing firms, banks, land title offices, state revenue offices, and the Reserve Bank of Australia.

In the traditional paper-based model, this entailed error-prone manual processes, inefficient duplicate paperwork and slow, in-person final settlement. When all stakeholders involved in a transaction can collaborate on a common digital platform, however, transactions can be conducted more securely, more efficiently, and more quickly.

With the backing of Australia’s largest banks, that co-owned it, and a legal mandate from state governments to move to e-conveyancing, Pexa became Australia’s first electronic lodgment network operator, or ELNO, meaning it laid the proverbial rails for digital property transactions.

While we believe adoption of Pexa’s platform was initially driven by these motivated stakeholders, who were arguably functioning as an intangible asset to Pexa, we believe network effects have since taken over as the benefits created by the common platform create a pull-effect across the ecosystem.

Pexa operates a virtual monopoly on digital settlement and lodgment in Australia, at around 99% market share of digital transactions and close to 90% market share of total transactions. Pexa’s only digital competitor, Sympli, a collaboration between the ASX and InfoTrack, is responsible for less than 1% of total transactions. Crucially, Pexa remains the only platform capable of multiparty transactions, leaving only a small part of the market addressable for Sympli, such as mortgage discharges after a final mortgage payment. The remaining market share consists of paper-based conveyancing in some of Australia’s smaller jurisdictions and functional niches.

Given the widespread adoption of Pexa’s platform by stakeholders, we expect this remaining market share to eventually move to Pexa’s digital platform as well. Network effects from nationally operating banks and conveyancing firms that prefer operating their businesses on a single platform, will further support this adoption.

We assign Pexa a Morningstar Uncertainty Rating of Medium, reflecting few competitive or technological threats, relatively low earnings cyclicality, but high uncertainty relating to Pexa’s expansion into the U.K. market.

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