About: Carsales.com Limited is an Australian business principally operating two business segments, being Online Advertising Services and Data Research Services. Currently, the automotive classified advertising is Carsales main product. The company generates most of its revenue from Australia with a very small but growing international revenue stream.

Why it is in the portfolio: Carsales.com Ltd provides the portfolio with a high-quality business with reasonable and steady growth prospects. Carsales has a market leading position in online automotive classifieds in Australia and benefits from the continued shift of advertising from print to online. While the growth characteristics are reflected in the valuation (>20x forward earnings), we believe that this is justified given that Carsales has a relatively solid business model and multiple growth levers such as the potential to increase prices and further international expansion.

Fundamentals: Carsales.com Ltd currently trades on a price-to-earnings ratio of around 22x forward earnings and for a “growth” stock offers a relatively healthy gross dividend yield of around 5.0% at around an 80% payout ratio. Carsales does seem to carry a fairly high level of debt which investors should be aware of, although coverage ratios (interest expense to earnings and cashflow) are quite healthy.

What could go wrong: Carsales competitive advantage is that it is the dominant online automotive business with the largest inventory which creates a “network effect” (the largest inventory drives more site visits which in turn creates a feedback loop), in addition many dealers rely on Carsales as a lead generation source. Any competitive force from new or existing competitors that threatens Carsales dominance may impact its pricing power and competitive advantage. Consumer demand for vehicles has the potential to be impacted by economic conditions, therefore investors need to be aware that there may be economic conditions that may impact Carsales' revenue.