SouFun Joins Financial Services Rush

Dec. 3.13 | About: SouFun Holdings (SFUN)

The recent rush by Chinese web firms into the financial services has gained a new member, with word that real estate services SouFun (NYSE:SFUN) will enter the sector. I’ve generally been skeptical of this sudden swarm into financial services, which was touched off earlier this year by e-commerce leader Alibaba, since this new stream of online investment products looks rife with potential for controversy. But that said, this latest move by SouFun actually looks quite logical and shrewd, since the company’s core real estate business already has very close ties with the traditional financial services industry.

SouFun is one of China’s more overlooked U.S.-listed companies, largely because it’s one of the few players in the real estate services sector and has few publicly listed peers. But that said, it’s also one of China’s largest listed Internet companies, boasting a market cap of nearly $6 billion — a threshold that only about a dozen other online peers can match. Much of that value has come over the past year, as SouFun’s stock has risen nearly 5-fold over that period as positive investor sentiment returned to shares of China’s Internet leaders. SouFun’s surge includes an 11 percent rise in its stock in the latest trading session after it announced its new financial services play.

According to the announcement, SouFun will initially offer financial products from various third-party business partners over its popular real estate services platform. (company announcement) It will later expand those offerings by providing its own financial services at a later date. The move comes as e-commerce transaction volume over SouFun’s platforms grows dramatically, from just $3.6 billion in 2011 to an estimated $25.8 billion this year.

As I’ve said above, SouFun’s move looks like one of the more logical ones into financial services this year by China’s hyperactive Internet firms. Alibaba’s aggressive moves into the space are also relatively logical, since many online buyers use its popular AliPay electronic payments services. But moves into the space by other names like search leader Baidu (NASDAQ:BIDU) and Tencent (OTCPK:TCEHY) look less logical to me. What’s more, I do sense the potential for trouble for these players, which are entering the unfamiliar space a bit too aggressively for such a new area.

By comparison, SouFun’s approach looks a bit more conservative and more carefully planned, starting with its launch of third-party services and an eventual roll-out of its own services. That’s important, because any service involving investments is always prone to trouble, not only from fraudsters but also from inexperienced retail investors who often have unrealistic expectations and aren’t prepared to lose money.

While the rewards of this new move are potentially huge, stock buyers might also note that the risks could also be large in this new business, which would presumably see SouFun get involved in the offering of home mortgages. The company has been an interesting and relatively safe bet in the past precisely because it isn’t exposed to the risky mortgage business, which can be a huge money earner in boom times but also a huge liability when the real estate market takes a downturn.

Instead, SouFun earns most of its money from service fees, which are typically driven by transaction volume regardless of market health. Thus this move into financial services will open a huge new window for new business at SouFun, but will also expose the company to huge risk if and when the current bubble in China’s real estate market ever bursts. I’ve forecast such a bursting before, but the market keeps defying my predictions. Still, such a downturn seems almost inevitable in the next 5 years, at which time SouFun could take a big hit if it builds up its financial services business too quickly.

Bottom line: SouFun’s move into financial services looks well planned and could provide a major new revenue source, but will also expose the company to big risk from real estate bubbles.