EV/Revenue: Scary Heights Of Social Media Stocks

by: YCharts

A lot of investors hoping to get rich on sales growth are looking to shares of social media companies like Yelp (NYSE:YELP), Twitter (NYSE:TWTR) and Facebook (NASDAQ:FB), which trade up almost exclusively on delightful revenue gains. But today's investors are paying even more for sales than their counterparts did back in the dotcom era, and far more than most buyers ever did for that famously successful growth stock, Amazon.com (NASDAQ:AMZN). This should probably worry anyone who recently bought shares of Yelp or the like.

YELP Chart

YELP data by YCharts

Amazon's success at building phenomenal investor returns through revenue growth alone has convinced many investors that they can overlook the share price valuations and still get great returns for many years. After all, Amazon shareholders are up nearly 440% in five years, although investors bought them at P/E ratios that were often some eight or nine times higher than most companies of its size.

AMZN Chart

AMZN data by YCharts

But by looking at the enterprise value to revenue ratios, we can see that those Amazon investors never paid the kinds of price for revenue that today's investors in social media phenomena are coughing up. As the chart below shows, Amazon's forward enterprise value to revenue ratio peaked at about 2.3 in the five-year period. By contrast, the forward enterprise value to revenue ratios for Yelp, Twitter and Facebook now range from about 15 to 24.

AMZN EV to Revenues (Forward) Chart

AMZN EV to Revenues (Forward) data by YCharts

It's an ominous sign for recent investors in these social media shares. Goldman Sachs (NYSE:GS) last week released research showing that only companies with truly exceptional growth reliably outperform the market when bought at exceptionally high enterprise value to revenue ratios. Goldman found that stocks trading at the top of the EV/revenue range generally lagged their peers on 1-, 3- and 5-year returns no matter how fast their sales grew. The cheaper ones performed better.

In other words, price does matter, even when buying shares solely for revenue growth, and prices now are exceptionally high. Not only is the overall market routinely hitting record highs now, the median enterprise value to sales ratio for Russell 3000 stocks now is higher than it's been in 35 years, according to Goldman. The YCharts Stock Screener shows Twitter and Yelp among the top 10 most expensive stocks on the measure in the NYSE and NASDAQ, of companies with market caps over $5 billion. Facebook isn't far behind.

Dee Gill, a senior contributing editor at YCharts, is a former foreign correspondent for AP-Dow Jones News in London, where she covered the U.K. equities market and economic indicators. She has written for The New York Times, The Wall Street Journal, The Economist and Time magazine.

Disclosure: None