REA Group’s (ASX: REA) first-quarter EBITDA before associates was up 5% on the prior year, driven by a 6% increase in group revenue and a similar increase in expenses.

Why it matters: The Australian residential segment, which accounts for the vast majority of group revenue and EBITDA, is experiencing declines in listing volumes as the housing market normalizes following last year’s elevated listing activity, spurred by the first rate cuts in years. The company reported an 8% decline in national buy listings. We estimate listing volumes are approaching a through-the-cycle stable number, but expect further low-single-digit declines. Revenue from the segment still grew 4%, supported by a 13% increase in price, due to both outright price hikes and the introduction and adoption of new pricing tiers, which force sellers to spend more to attract the same number of eyeballs.

The bottom line: We increase our fair value estimate for wide-moat REA Group by 2% to AUD 137 per share, reflecting the time value of money. At current prices, REA Group shares screen as materially overvalued, as the market seems to expect outsize price hikes to persist for much longer than we do. We believe REA Group’s commitment to raise prices by double-digit price hikes for the foreseeable future is likely to court regulatory intervention. Our forecast is for high-single-digit price hikes for our explicit forecast period. This is well above our expectations for underlying value-creation increases by the company over the same period, and implies price hikes materially above the Consumer Price Index.

Key stats: Audiences on www.realestate.com.au reached a new record, averaging nearly 150 million visits per month. REA is successfully maintaining its audience leadership position over www.domain.com.au of around four times.

REA Group’s listing volumes normalizing

We expect REA Group’s near-term challenges to center around navigating significant volatility in the Australian housing market. After the onset of the covid-19 pandemic, REA Group received a substantial boost to revenue and profit margins from the booming housing market. We estimate that residential transactions were around a third above trend levels during fiscal 2021 and 2022. With the normalization of interest rates, we expect continuing swings in listings but an eventual return to trend, which started in fiscal 2023.

In the long term, we expect a gradual decline in listings due to friction in the housing market caused by ongoing increases in transaction costs in the form of stamp duty, and to a lesser extent, REA Group’s own listing fees. Total dwelling transactions in the Australian housing market declined for nearly two decades until the onset of the pandemic, despite the number of dwellings increasing around 1.7% per year over the period. We attribute this falling liquidity principally to rising stamp duty, which has increased around five-fold in the past two decades. We do not forecast a significant reduction in stamp duties, despite some State governments undertaking initiatives to replace the upfront stamp duty with an ongoing land tax. We do not believe any Australian state is in a sufficiently financially healthy position to be able to afford this transition, as evidenced by their deteriorating credit ratings and as evidenced by recent state governments’ decisions to raise property taxes and remove previously introduced land taxes. We therefore forecast a continuing decline in housing stock liquidity.

We expect REA Group’s growth to be primarily driven by growth in yield, or listing fees, within its residential division, rather than from market share gains. REA Group’s market share versus Domain in terms of audience has remained largely unchanged in recent years and we consider the competitive environment to be stable. Instead, we expect REA Group and Domain to focus on increasing revenue per listing through price increases and through increased depth penetration.

REA bulls say

  • REA Group, together with Domain, effectively operates a duopoly in residential real estate listings in Australia and REA Group is the dominant platform out of the two.
  • REA Group has demonstrated its ability to defend its competitive lead over Domain where it matters most, in audience size, revenue, and margins.
  • REA Group’s deep relationship with corporate parent News Corp provides it with access to some of Australia’s most popular newspapers, websites, and television channels.

REA bears say

  • REA Group’s earnings are affected by the housing market, which is highly cyclical.
  • REA Group has incurred large losses from its international divisions, and many have been disbanded. REA Group’s India division is currently still highly unprofitable.
  • REA Group is attracting increasing regulatory scrutiny and is under active investigation.

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Terms used in this article

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.

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Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.