In case you missed it, Amazon (AMZN) is now trading at 142.1x past earnings after quintupling in five years. This firm is, in my view, significantly overvalued. Smaller under-followed firms, however, like Bluefly (BFLY) and BIDZ.com (BIDZ), are significantly undervalued. As an investor relations consultant, I expect these firms to take off when press coverage improves. Towards that end, I plan on writing focus pieces on the two undervalued gems at a later time.
The eBay of jewelry and more!
In the meanwhile, Amazon is likely to receive all of the eCommerce attention. In this article, I will help ground the valuation in fundamentals. I will run you through my DCF analysis on Amazon and then triangulate the result with an exit multiple calculation and a review of the fundamentals compared to eBay (EBAY) and Groupon (GRPN).
First, let's begin with an assumption about revenues. Amazon finished FY2011 with $48.1B in revenue, which represented a 40.6% gain off of the preceding year: an acceleration. Analysts model a growth rate of 30.3% over the next half decade, and I view this as much too optimistic considering that it is nearly triple what is expected for the S&P 500. For the sake of proving my point, however, I will "go with the flow" and accept the projection.
Moving onto the cost-side of the equation, there are several items to consider: operating expenses, capital expenditures and taxes. I expect cost of goods sold to eat 77.5% of revenue versus 13% for SG&A, 5.5% for R&D, and 2.5% for capex. Taxes are estimated at 30% of adjusted EBIT (accounting for non-cash depreciation charges).
We then need to subtract out net increases in working capital. I estimate that this will hover around -2% of revenue. Taking a perpetual growth rate of 2.5% and discounting backwards by a WACC of 11% yields a fair value figure of $147.07, implying 25% downside. The market seems to be assuming a WACC of 9%, which is much too optimistic, considering the uncertainty over the supposed tripling the S&P 500's return over the next few years. If we settle at a WACC of 10%, the firm still has 14.2% downside. In short, gravity is not working.
All of this falls within the context of admittedly exciting operational developments:
Trailing 12-month operating cash flow increased 12% to $3.9 billion. Trailing 12-month free cash flow decreased 17% to $2.09 billion. Return on invested capital is 22%, down from 34%. Return on invested capital is TTM free cash flow divided by average total assets minus current liabilities, excluding the current portion of long-term debt over 5 quarter ends.
From a multiples perspective, Amazon reflects investor euphoria. It trades at a respective 142.4x and 73.3x past and forward earnings. These multiples are reasonable for emerging companies that are just starting to break out with profit. What does Amazon exactly have that can unleash so much growth off of an already high base and mature business model? I like the Kindle; but, then again, I like Barnes & Noble's Nook even more. By contrast, eBay and Groupon are both on planet Earth. eBay trades at a respective 15x and 14x past and forward earnings versus 20.6x forward earnings for Groupon - reasonable for a relatively emerging company.
eBay is an attractive investment, in my view, due to its undervalued catalyst: PayPal. I believe this will become one of the chief payment systems in America. It has more than 100M active users and represents around two-fifths of the company's business. So, there is plenty of room for penetration and thus significant growth prospects for the company at large. The GSI acquisition also represents a step in the right direction by expanding the eCommerce base. Assuming a multiple of 16x and a conservative 2013 EPS of $2.61, the rough intrinsic value of the stock is $41.76.
Groupon is riskier than eBay due to the competitive pressures. I believe that the stock loss of 35% since it went public was, however, overdone. 20.6x forward earnings is a very easy multiple to beat, and I think that when Facebook does its IPO at lofty multiples, it will set the stage for Groupon to appreciate. Investors will realize that if Facebook can justify having a valuation that implies being 50% more successful in revenue creation as Google then, surely, Groupon merits a valuation above 20.6x forward earnings. Accordingly, I strongly recommend investors who are looking for social media exposure to consider Groupon.
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