Meet the Stars of Dot-com Bubble Burst 2.0
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"Those who cannot remember the past are condemned to repeat it." - George Santayana
These words have been proven true time and time again in the history of the stock market. In fact, they are proving themselves again today in the form of a repeat of the dot-com bubble burst that occurred a decade ago. Both then and now, companies that are either unprofitable or barely profitable had questionable business models, yet the market ignored fundamentals in favor of hype in valuing these companies. In 1999 and 2000, the hot IPOs included companies such as Webvan, TheGlobe.com and Boo.com. Remember them? You may need to think back a ways, since all three (and many others) have been out of business for a while. However, there were a few hidden gems in the dot-com rise and fall, including Amazon.com, Google and eBay.
We have a new wave of recent Internet stock IPOs today, led by Facebook (NASDAQ: FB), Groupon (NASDAQ: GRPN), Zynga (NASDAQ: ZNGA), LinkedIn (NYSE: LNKD) and Zillow (NASDAQ: Z). In this group is likely to be at least one success story like Amazon.com or eBay, but there are almost certainly a few Webvans mixed in there as well. When figuring out which category each company will fall into, it is important to look at the current valuation, understand the business model (including how the company plans to make money) and how realistic the growth plan really is.
Test 1: Valuation
To make an assessment of how reasonable a valuation is placed on each company, it is important to start with the financials. Here are some basics:
|CAPS Rating||1 star||1 star||1 star||1 star||1 star|
|Market Cap (in billions)||$41.24||$2.81||$2.20||$12.91||$1.26|
|Stock Performance since IPO||-50.4%||-83.5%||-69.1%||+29.7%||+19.8%|
|TTM Revenues (in billions)||$4.3||$2.1||$1.3||$0.7||$0.1|
|TTM Operating Margin||13.8%||3.2%||-45.7%||5.4%||6.7%|
|TTM Price / Earnings||66.57||N/A||N/A||1,006.95||510.36|
|Price / TTM Sales||9.39||1.35||1.75||17.39||14.23|
|Price / Book Ratio||3.05||3.53||1.20||16.01||11.26|
|Forward Price / Earnings||30.54||11.62||26.45||93.70||58.73|
|5 Year Expected Growth Rate||27.2%||30.2%||25.1%||56.8%||40.0%|
|Source: Yahoo! Finance on September 7, 2012|
The CAPS community sentiment on these five stocks speaks volumes regarding savvy investors' skepticism. By traditional measures, the valuations assigned to these companies during the past year can be easily compared to the peak of the bubble in 2000. The question is whether these companies can grow enough to warrant these lofty valuations.
Test 2: The Business Model
Can each of these companies grow profitably over the next five years at rates greater than 25% as expected by analysts? Take a look at these very summarized recaps of each company's business model and make the determination:
- Facebook has the second most visited website in the world (behind Google), brand recognition and the ability to truly leverage the power of social networking. After an over-hyped IPO and the subsequent loss of over $50 billion in market capitalization, Facebook has reset its sights on monetizing the tremendous community that it has created in a manner that is analogous to how Google monetized search with wildly successful results. The growth potential and dominant entrenched position are clearly there, but there are lingering questions regarding Facebook's ability to monetize its social network.
- Groupon creates a win-win for customers and businesses by allowing customers to save money (who doesn't like to get a 50% discount in this economy?) and by providing advertising to businesses via incentives that will attract customers. There are two key problems with this model: first, the model has been (and will continue to be) replicated by Living Social, Amazon Local, Google Offers and literally hundreds of other daily deal websites. Second, these deals benefit the customer and the business (presumably, although the benefit to businesses has been questioned repeatedly), but Groupon's portion of the transaction has been nowhere near enough to cover its expenses. Groupon has tried to spin its financial performance using all sorts of interesting accounting methods, but it is hard to hide such large losses completely.
- Zynga has ridden Facebook's coattails by creating a mini-empire of social games. The business model is to produce low-cost games and then monetize them through in-game marketplaces (and occasionally a small app purchase). The big questions are a) do people want to spend real money to plant virtual radishes in their virtual farm and b) does anyone on Facebook want to hear about it in their news feed? Recent indications are that the answer to both questions is "no" based on a decline in popularity of Zynga's flagship franchises caused by changes to Facebook and increases in iPad gaming.
- LinkedIn has created a social network geared towards professional connections. The company's business plan focuses on leveraging its significant user base to convert these professional connections into job placements. This provides the opportunity to monetize both the job seekers and the talent acquisition personnel that seek to find the perfect candidate for a job opening. The potential to disrupt the recruiting world is already evident, but current P/E and P/S ratios are already factoring in significant future success into the company's stock price.
- Zillow provides real estate resources for home buyers and sellers, including its unique "Zestimate" property appraisals. While the Zestimates can often be flawed, the volume of data on homes that are both on the market (for sale or for rent) and off the market (including homes with a "make me move" price) are unique to the industry. Increasingly, Realtors are realizing the popularity and power of this resource and are willing to pay Zillow to feature their listings.
BrewCrewFool owns shares of Amazon.com and Google. The Motley Fool owns shares of Amazon.com, Facebook, Google, LinkedIn, and Zillow. Motley Fool newsletter services recommend Amazon.com, Facebook, Google, LinkedIn, and Zillow. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.