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By Justin Dove

Tupac’s ghostly appearance at the Coachella Valley Music and Arts Festival last weekend may have ushered in a new era of entertainment…

Imagine being able to attend a “live” performance of Jimi Hendrix, Elvis Presley, or any other fallen legend.

Such visions of the future sent Digital Domain Media Group, Inc. (NYSE: DDMG), the company behind the CGI image of Tupac, soaring more than 20% since Monday.

But make sure you do your homework before buying into the hype here. I’m not saying DDMG isn’t an intriguing company to watch going forward, but there are some powerful warning signs flashing right now.

Not So Fast…

Here are a few reasons why it’s best to take a wait-and-see approach with DDMG:

  • Digital Domain Media Group is being touted as “the company behind the Tupac Hologram.” Which is the undoubtedly the cause of the 20% run-up this week. However, this is only a half-truth. First, as Ars Technica reported, the image wasn’t technically a hologram at all. It was a slick illusion using an age-old theatre technique called Pepper’s Ghost. And the company that projected the image is Arizona-based private company AV Concepts, Inc. The two companies worked closely to create the illusion with Dr. Dre as the mastermind and financial backing behind the endeavor.
  • Although there are already rumors this technology is going to spur a tour including the virtual Tupac, the performance at Coachella was reportedly in the six-figure price range. This high cost will eventually come down, but for now this is something that would have to be saved for a few huge festivals or stadium performances. Meaning it isn’t likely to create a big fad in the near future.
  • Digital Domain Media Group isn’t new to this sort of thing. The company was founded by three men, including none other than film-director James Cameron in 1993. It’s already won a slew of Academy Awards for its digital renderings and special effects. But despite the success and longevity, it isn’t currently a profitable endeavor. That should be a major warning sign to investors.
  • When DDMG IPO’d late last year, it reached more than $7 per share on its first day. Since then it hasn’t even come close to that level – its still under $7 even after the recent 20% bump. One reason for this is that earnings have been horrendous. The company had a precipitous drop in annual earnings for 2011 and didn’t even bring in a gross profit in the final two quarters of 2011.

This stock is obviously just rising on the news alone and that bump likely won’t last much longer. As Alexander Green has stated over and over, the only thing that actually pushes stock prices higher in the long run is earnings growth, and right now DDMG is actually experiencing earnings shrinkage – making it an intriguing short candidate.

That being said, it’s a company that’s very good at what it does and one reason earnings are terrible is because of all the projects it’s trying to push forward over the next few years. So it’s worth the watch – and possibly an entry if the price gets low enough – but investors should definitely avoid this run-up.

Disclosure: Investment U expressly forbids its writers from having a financial interest in any security they recommend to our subscribers. All employees and agents of Investment U (and affiliated companies) must wait 24 hours after an initial trade recommendation is published on online - or 72 hours after a direct mail publication is sent - before acting on that recommendation.

Source: Digital Domain: Beware The Hype