Barron's likes eBay (EBAY, SHOP)

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Includes: EBAY, SHOP-OLD
by: David Jackson

Barron's lead article this weekend was a detailed bull case by Eric Savitz for buying eBay's stock (ticker: EBAY). Key points and quick comments:


Diversification:
eBay has expanded beyond the auction market into:

  • fixed-price transactions via "Buy-It-Now";
  • payment processing via the acquisition of PayPal;
  • online classifieds via eBay's investment in Craigslist and its local classifieds site Kijiji;
  • rental listings via acquisition of Rent.com;
  • comparison shopping via last week's announced acquisition of Shopping.com.

Growth potential and concerns:

  • Despite slowing growth, eBay's revenues still grew 36% in Q1, with GAAP net income up 28%.
  • US revenues grew only 19%, ex-PayPal.
  • Morgan Stanley analyst Mary Meeker estimates that auction listings are up 23% year over year so far in Q2, and believes that revenue growth should increase next year.
  • eBay CFO Rajiv Dutta argues that the US market will remain the company's largest growth contributor for years, due to low current ecommerce penetration (5% versus catalog sales of 10-12%). According to Dutta, of the 50,000 merchandise categories in which eBay participates, it accounts for no more than 6-7% of overall trade in any single category.
  • Shopping.com should strengthen eBay's position in selling current-run, in-season merchandise, in contrast to collectibles, end-of-run and close-outs that are best suited to the auction model. That will help eBay reach "the 40% of online shoppers who have yet to transact on eBay".
  • Growth could be juiced by improved search, improved shopper trust, integration of minimum price for auto auctions in Germany.
  • Significant growth engines: (1) China. Bear Stearns analyst Bob Peck estimates there are 300 million middle-class Chinese, a number that exceeds the entire US population. Mary Meeker thinks eBay's international businesses could benefit by it global platform, which would enable cross-border transactions.
  • Significant growth engines: (2) Paypal. Paypal has more accounts than American Express and Discover, charges lower fees than credit cards, and has a shot at being adopted for a large percentage of online transactions.

Short term negatives will disappear:

  • CEO Meg Witman decided not to accept the position of CEO of Disney;
  • Growth will re-accelerate;
  • Investor nervousness at China expansion, aggessive roll-out of Paypal and acquisition of Shopping.com will dissopate.

Valuation:

  • eBay's stock has fallen about 35% since the end of last year.
  • Currently trades at 38 times 2006 consensus EPS estimate of $1 per share.
  • Legg Mason Capital Management analyst Randy Befumo: "Our view is that businesses with sustainable growth, even low-double-digit growth over long periods of time, can appear overvalued in the near term, then actually turn out to be quite cheap."
  • Goldman analyst Antony Noto estimates that eBay can grow 25% annually through 2009. Stock could hit $46, or about 45x his estimate of 2006 profits.
  • "...The stock looks as cheap as anything you'll find on eBay."

Quick comments:

  1. Valuation argument seems tenuous; at least requires further substantiation.
  2. Key question: given that eBay is using its strong cash flow for acquisitions, how effective is it at them? Is it overpaying for acquisitions, or getting bargains?
  3. "35% down since end of December"? Internet stocks ran up dramatically in December, so this isn't a meaningful metric. See chart below.
  4. Note the analysis of eBay's competitive position in China on The China Stock Blog.
  5. What is the future profitability of the online classifieds business? Most items on Craigslist are posted for free.
  6. Competitive environment: (1) Search engines and providers of pay-per-click ads offer alternative for merchants with their own web sites; (2) Amazon.com and Yahoo offer packaged online stores to merchants. Not clear what competitive dynamics are for eBay.
  7. Is there are natural limit to eBay's growth? Om Malik thinks there is.

EBAY 1 year and year-to-date charts below.
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Big1_7

Full disclosure: at the time of writing I'm long SHOP.

Related resources

  • Other articles about EBAY here and SHOP here.
  • Search the ISB here:




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