For a long while LinkedIn (LNKD) was the only idea to buy in social media, but all that has changed over the last several weeks thanks to the turnaround at Facebook (FB) and the IPO filing for Twitter. As a result, I expect LinkedIn's rich valuation to give way, because capital has other options now for high growth in sexy social media.
LinkedIn's meteoric rise is no secret. The stock has more than doubled in price this year and has been one of 2013's biggest winners. LinkedIn has far outpaced the SPDR S&P 500 (SPY) surge of 21% and the Technology Select Sector SPDR (XLK) gain of 13.4%. But I think much of LinkedIn's gains have come because it has been the only game in town as far as social media is concerned. Before Facebook turned investor sentiment around recently, it had sunken deeply to a 52-week low of $18.80. Facebook shares traded as low as $25 as recently as July of this year. Twitter only just announced its filing for IPO with the SEC. So LinkedIn stood alone in social media favor.
The company's special status may explain its rich valuation, not only on an absolute basis but also in comparison to its publicly traded peer Facebook. LinkedIn's P/E is 131X my estimate for the next 12 months EPS. I get to my estimate in pretty simple fashion, through the simple averaging of the analysts' consensus figures for 2013 and 2014; the result is $1.865 per share. A P/E of 131X is high for any company, even for a company expected to grow EPS by 73% this year, 42% next year and 58% over the next five years. Applying that five-year analysts' consensus estimate for growth, LNKD's PEG ratio comes to 2.3X. We often see PEG ratios get this high for high growth firms, but heights like these make stock prices vulnerable to disappointing noise or developments. There are two such developments that I think will trim LNKD's valuation in the months ahead, Facebook and Twitter.
P/E Forward 12
Growth Yr. 1
G Yr. 2
* Data from Yahoo Finance pages for each
Facebook trades at 56.5X my $0.84 EPS estimate for the next twelve months. That's 43% of the value of LinkedIn shares for a stock many would say is just as sexy if not more sexy today. Analysts still seem to be seeing more sex appeal in LinkedIn, considering the better growth projections, but Facebook estimates are likely understated in my opinion. As Facebook proves it can execute, I expect its growth will surpass LNKD because of its broader global appeal and reach, and its significantly larger user base, upon which it can growth revenues.
So, why does LNKD have to come down; maybe FB will simply rise to LNKD levels, if not further. There's certainly a case to be made for this argument, but let's face it, the two companies are competing for advertisers and invested capital. If I have to bet on one or the other, my money is on Facebook now (before too) because of its broader appeal, reach and growth potential. The two companies may have characteristics that appeal to different advertisers, so perhaps it's not a zero sum game in that regard.
As for investment capital though, many institutional investors close out their books over the next couple months. I expect many will push tax gains out until after that and then sell the stock, while others may want to lock in their gains ahead of that possibility, in which case they also sell the stock. In other words, there could be selling pressure against LNKD even if there is no operating stumble. Despite Facebook's similar, though nascent stock price gains, I think it could benefit from capital flows out of LNKD; or institutional investors might just wait for Twitter to take the capital appreciation baton.
In the last paragraph I mentioned the possibility of an operating stumble. I'm not predicting that, but the risk tied to the possibility is only intensified now because of the other options for capital in the same investment sector. So when evaluating LNKD and its rich valuation, I think it's wise to consider that investor sentiment has changed in social media and other options exist. Thus, I would sell LNKD here for the reasons outlined.