Description

AfreecaTV is a leading live streaming platform in South Korea with 6 million monthly unique viewers and more than 17k independent broadcasters. The platform generates nearly 60% of traffic from gaming and eSports related content which are growing markets with secular tailwinds. Sales and operating profit have grown at 5-year CAGRs of 26% and 46% respectively and management is guiding for another year of at least 20% growth in 2021. The company is highly cash-generative, has a 30% ROE, and trades at a steep valuation discount to global streaming peers at 17x 2021e P/E and 11x EV/EBIT. We think this is a quality compounder exposed to gaming/eSports tailwinds with an under-monetized user base trading at a reasonable valuation. Furthermore, the company is just now beginning to focus its attention on growing and monetizing advertising opportunities on the platform.

Background

AfreecaTV is a leading Korean interactive streaming platform for user generated content launched in 2005. The company’s name is derived from the phrase Anyone Can Freely Broadcast and watch or participate. The Chairman, Kevin Seo, purchased a 21.8% stake in the company in 2011, and previously served as the CEO of Korean gaming companies, WeMade and Actozsoft. The Chairman’s stake is currently 25.3% through his holding company Saint International.

AfreecaTV provides a video streaming platform used by over 17k independent broadcasters, called BJs (broadcasting jockeys). The platform currently has 6 million monthly unique viewers, equivalent to 12% of the population. Major livestreaming competitors include Twitch for gaming content and YouTube Live for other categories of social content.

BJs generate content focused on categories such as gaming, variety shows, sports commentary, and food/Mukbang. AfreecaTV also creates some original content, mainly for eSports leagues and talent shows. The company also licenses and broadcasts some professional sports content such as the Olympics, World Cup, baseball, and soccer.

AfreecaTV has 6m monthly unique viewers, of which 4.2% are paying users. The most popular content for driving traffic is gaming/eSports (58%), variety and talk shows (28%), sports (3%), and other (11%). 79% of users are male and over 60% of users are aged 21-39.

Business Model

AfreecaTV’s main source of revenue is Star balloons, which are digital gifts that viewers can buy from the platform and send to their favorite BJs (i.e., digital tipping). Star balloons account for a little less than 80% of sales. This may sound like a silly, hard to fathom concept for many Americans and Europeans, but it is a popular online business model in many Asian countries. Star balloon sales have grown at a +28% CAGR over the past four years including +26% in 2020. Approximately 46% of star balloon sales are generated from 2.2k of the most popular BJs on the platform. We also understand that approximately 20% of viewers account for 80% of star balloon sales. While there are “whale” spenders on the platform, we believe that spending is less concentrated in the top few percent of spenders than on similar Chinese platforms.

Star balloon sales are driven by the number of viewers, the paying user ratio, and the average revenue per paying user (ARPPU). While the total number of monthly viewers on the platform has not changed much in recent years, the paying user ratio has steadily increased from 2.7% back in 2015 to 4.5% currently. ARPPU was the primary driver of revenue growth since 2015, as it jumped from W 17,000 to W53,000 in 2020. But the paying user count and ARPPU both grew at high-teens rates in 2020 and management expects an increasing paying user rate to account for more growth going forward.

The other important source of platform revenue is advertising, which accounted for 15% of sales in 2020. This includes pre/mid/post-roll ads, banner ads, ad balloons, branded content advertising, and recently launched live commerce. The company has arguably been under-monetizing its user base with advertising in the past and there may be scope for this revenue stream to grow faster and increase its share of total revenue. Although Advertising revenue grew at a +19% CAGR over the past four years, it only increased by +2% in 2020 in part due to a weaker advertising environment during Covid. More encouragingly, Q4 2020 advertising revenue increased +60% y/y and +97% q/q helped by branded content advertising from gaming companies. It is worth noting that because of the platform’s large gaming user base, gaming companies often view it as one of the most efficient uses of advertising spend. AfreecaTV is also in the process of launching its own ad buying platform (AfreecaTV Ads Manager) which may help to improve advertising monetization in 2021-22. This platform is scheduled to potentially launch in 1Q21 and will focus more on SMEs who have heretofore been unable to reach AfreecaTV audiences effectively and efficiently due to their relative lack of online marketing knowledge and manpower.

The company also generates 2% of revenue from off-line channels, including BJ studios/internet cafes and an eSports arena. This business is not expected to be a major focus going forward and the company closed 2 of its 17 studio/cafes in 2020.

Margins and Cash Flows

AfreecaTV pays BJs 60-80% of revenue generated from their livestream shows, depending on the popularity of the BJ. Revenue is reported on a net basis (i.e., after payment to BJs is deducted). Of the remaining costs, approximately 40% are variable (including commissions, BJ support activities, payment processing, internet expenses) and 60% are fixed (employee costs, server depreciation, etc.).

Management is targeting 25% operating margins in 2021. Historically, management’s margin guidance has been conservative, and an upward trend has been evident. While we don’t expect a step change in margins because management is rightfully focused on continuing to invest in the business, we do think there could be some upside to the 25% margin target.

While the business does require some level of necessary annual capex on servers and technology (7% of sales on average), the company is very cash generative with free cash flow greater than net income in each of the past 5 years. Historically the company has maintained a dividend payout ratio between 20-30% and 13% of market cap is in net cash.

Valuation

AfreecaTV trades at 22x TTM P/E and 17x 2021e P/E. This compares to Chinese streaming companies trading at 8-42x 2021e P/E. Huya is probably the best Chinese comp for AfreecaTV given its focus on gaming and eSports. We think AfreecaTV’s relative and absolute valuation is attractive.

Risks

Competition: Twitch and YouTube Live are AfreecaTV’s main competitors in Korea. In terms of number of users, AfreecaTV and Twitch both have about 6 million users while YouTube Live has about 3.3 million users. In terms of hours spent, AfreecaTV has about 48% market share, Twitch has 32%, and YouTube Live has 21%. This suggests that AfreecaTV has a majority market share in gaming/eSports related content since most of YouTube Live’s content is general/social streaming content. Twitch initially took market share when they entered Korea in 2015, but market share has stabilized with AfreecaTV still the clear leader in the gaming category.

Naver, Kakao, and TikTok can also be considered loose competitors with short-video and live commerce offerings, although live commerce is still in its infancy in Korea so we think all players can benefit from the growth of this new market. Overall, we view the competitive environment as relatively benign for AfreecaTV but new technologies and platforms must be monitored closely.

Regulation: Regulatory risk for AfreecaTV comes in two forms. First, authorities are wary that inappropriate content could be made available on live streaming platforms, such as profanity or nudity. Management is aware of the potential reputational damage that could occur if they allow inappropriate content. Therefore, the company monitors BJ actively using a 24-hour content monitoring team, user reports/complaints, and an AI system.

Secondly, Korean politicians have occasionally expressed concern about excessive spending on gaming and social platforms by young users. Back in 2018 when this became a public concern, AfreecaTV proactively lowered daily spending limits on its platform from W 30 million to W 1 million per user. In the past month, the Korea Communications Commission (KCC) announced plans to strengthen protection for internet users on broadcasting platforms. However, we believe that AfreecaTV’s internal daily spending limits are probably already below regulatory limits being considered, and the financial impact of new regulations will likely be limited. Nevertheless, this might be a short-term overhang on the stock until all details of the proposed regulation are clear.

Catalyst

Continued growth in user paying rate and improved monetization through increased advertising revenue.