LinkedIn (NYSE:LNKD) is one of those absurdly priced stocks, that for some reason everyone thinks is normally priced. At least that's the picture I am getting from sell side analysts who have a 12 month forward target price of $246 for LinkedIn's stock.
And the funny thing is even if this stock is a bubble of mythical proportions, it still manages to register new highs and become an even bigger bubble than it already is. And if you are wondering why LinkedIn is a bubble, a trailing P/E of 962 (forward of 115) might say it all. But no, this stock also trades at 22 times sales and 25 times book. Especially as for the last two metrics, that's the main reason it's a bubble. A company can have very low or no profits, but with such a high Price/Sales ratio, I draw the line in the sand.
Recently the company decided to raise some cash via a secondary offering. No particular reason was stated for this action and thus we have to assume that the cash will be used for general corporate purposes, whatever that means (which can mean just about anything).
I will brush aside the issue of dilution, because the company commands a $28 billion market cap and thus the dilution will be small (about 4.3%). However when you add it all up, including stock based compensation, then over time shareholder dilution does matter.
But in the case of LinkedIn, valuations don't matter. Rampant speculation brings out the bubble appetite in market participants and no stock is too high if it exhibits revenue growth. At least that's the current thinking, until the market decides otherwise.
The $1.2 billion secondary offering will essentially raise as much money as LinkedIn booked in revenue the last twelve months and it will more than double the company's current cash hoard of about $900 million.
The question is why the company feels compelled to raise the cash? There is no official answer; however, more than likely the company has some acquisition in mind. And the truth is, there are very few companies out there as expensive as LinkedIn, so no matter what the company buys, chances are it will reduce the bubble metrics of its stock.
Let me make it plain and simple: there is nothing that can protect investors from losses if and when the market decides to sell LinkedIn at some point in the future. Granted that you might make money from here to then, but do not for a split second think that this stock is not a bubble or that its growth will support it from a future correction.
Please take a look at the chart below. As you can see, the Price/Sales ratio for LinkedIn has been rising instead of falling. In other words, not only are the fundamentals not catching up to the price of the stock, but the stock is running ahead of the fundamentals faster than ever.
Many people say that you can't come to the conclusion if a stock is a bubble or not just by looking at the Price/Sales ratio. While the Price/Sales ratio does not give the whole picture, I beg to differ that it can tell us if a stock is a bubble or not.
Please have a look at some bubble stocks of yesteryear below. The chart below shows the Price/Sales ratio of Oracle (NASDAQ:ORCL), Microsoft (NASDAQ:MSFT), Intel (NASDAQ:INTC) and Cisco (NASDAQ:CSCO) during the bubble period of 1999.
As you can see, at the top of the bubble, Cisco was trading for about 35 time sales, Microsoft for 30 time sales, Intel for 18 and Oracle for 25 time sales.
Now look at the chart below. While the fundamentals of all these stocks have been getting better over the years, their stocks are still not at their peak levels of 1999. And the very simple reason for this is that these stocks were trading at bubble valuations. Even after more than a decade, investors have still not recouped their initial investment.
Mind you, all these companies today have very good cash positions and repurchase millions of shares per year. In fact, if it wasn't for these repurchase programs, their stocks would be even lower today. Also notice that today the average Price/Sales ratio of these stocks is around 5.
LinkedIn is a very expensive stock and should not be in any long-term buy and hold portfolio. You can trade it, you can buy and sell options on it or anything in between, but my opinion is that this stock will eventually produce big losses for those who think this stock will continue to be valued this rich in the future or will never correct, just because this has not been the case thus far.
Should you short this stock? Well like I have said on previous recommendations, only if you know what you are doing (and have experience shorting) and have confirmation of technical weakness. Other than that, you simply should not be invested in it. Finally, unless you think you can make a quick buck buying the secondary offering, stay away from that also.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.