eBay: Are Investors Bidding Too High?
It has a dizzying p-e ratio and appears priced for perfection, a promise that the online auctioneer may not be able to fulfill
Auction site eBay built its vast online marketplace on the lure of finding almost anything at a bargain price. But that success means its stock is anything but a bargain. Trading around $89 a share as of Mar. 21, eBay is worth a bracing $27 billion, and its 2003 price-earnings ratio of 67 dwarfs those of much bigger businesses such as Microsoft (MSFT
) and Wal-Mart (WMT
). No wonder some analysts and investors are getting nosebleeds. "We've been very bullish on the business model," says George Sutton, a former RBC Capital Markets analyst who had a sell rating before leaving the firm late last year. "But the stock price assumes everything to be perfect forever."
It's an assumption that a few analysts are starting to question. Some worry that eBay's (EBAY
) 50%-plus growth in sales and earnings can't continue too much longer. Of the 15 analysts covering eBay, five have a hold. Even the bulls with buy ratings don't think it can go much higher. The mean target price is $82.20, 8% below the current price.
"ALMOST FLAWLESSLY." If any outfit seems to deserve a stratospheric valuation -- and a spot on this year's BW50 list at No. 30 -- it would be eBay. Even as most dot-coms bite the dust, eBay doesn't seem to be slowing down. It has made no big mistakes, its competition still trails by a wide margin, and it's addressing a potential $1.8 trillion market for everything from collectibles to consumer goods to industrial products.
As a result, 2002 profits shot up 176%, to $249 million, on sales that jumped 62%, to $1.2 billion. For 2003, analysts predict that eBay's sales will rise at least 60%, to $1.9 billion.
Its opportunities seem to keep growing as well. In January, eBay said it's planning to expand beyond consumer-oriented goods to handle trade in industrial items such as medical equipment and restaurant gear. It figures the market for industrial products, from restaurant equipment to medical gear, is potentially worth $1 trillion. At the same time, even in its top five markets -- cars, electronics, home products, fashion items, and sports -- eBay still has well under 3% of the total.
PUBLIC DEFENDER. That leaves a lot more room for further growth. "Our dream of becoming the commerce engine of the Internet is coming true," says CEO Margaret Whitman. "We remain right on track to achieve the 2005 goal of $3 billion in sales."
That's why eBay executives sound more confident than ever -- even in their stock price. In a rare public defense of its lofty shares last fall, eBay Chief Financial Officer Rajiv Dutta recently suggested that eBay's stock isn't really out of line -- even in comparison with leaders in other industries. He noted that eBay's price-to-free cash flow ratio of 43 was less than half that of Wal-Mart's and less than Microsoft's. An even more arcane measure -- price-to-free cash flow-to growth -- clocked in at 0.8, way under Wal-Mart's 3.7 and Microsoft's 2.4.
The point: Because eBay's business takes little cash to expand, profit growth produces outsize cash flows. Dutta notes: "This is one earnings stream that you can literally take to the bank."
ACROPHOBIC. Dutta's math may get a little dizzying, but investors -- at least those who have already bought the stock -- share eBay's enthusiasm. "It's a reasonable price to pay for that growth," says David Hutchison, equity analyst with Insight Capital Management, a Walnut Creek (Calif.) concern that holds 557,000 eBay shares. "We see a lot of ways that growth can continue into the future."
For all that, it's easy to understand why some analysts and investors are feeling a bout of acrophobia coming on. Sutton pointed out that the rate of successful auctions -- those that receive at least one bid -- had fallen to 56%, from 62% a year ago. And eBay itself has conceded that the average selling price of products on the site is slipping, though it won't say by how much.
And while competition has scarcely dented eBay so far, it's heating up. Amazon.com (AMZN
) has seen rapid growth in its Amazon Marketplace, which works like eBay. Some large sellers are starting to look at Amazon and even to traditional liquidators to sell large volumes of merchandise.
ABOUT TO FALL? Most analysts and investors, however, have no qualms about eBay's underlying business. What gets them is simply the breathtaking stock price. "It's a great company, no doubt about it," says Bruce Raabe, chief investment officer with Collins & Co., whose San Francisco Bay Area-focused Golden Gate Fund holds no eBay shares. "We've just always had an issue with valuation."
He thinks eBay's p-e ratio will fall to half its current level in roughly the next 18 months. If so, investors who don't own the stock might want to wait for it to come down a bit before making a bid for this Internet success story.
MARCH 24, 2003
Hof is a BusinessWeek reporter based in San Mateo, Calif.
Note: This is an updated version of the Street Wise that originally appeared on BusinessWeek Online November 15, 2002 Edited By Beth Belton
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