News > Technology
Fuzzy math for Internet stocks
Online retailers trade at a big premium to other Net stocks. Are they a sucker's bet?
July 30, 2003: 3:40 PM EDT
By Paul R. La Monica, CNN/Money Senior Writer

NEW YORK (CNN/Money) - Internet stocks have run up sharply this year, but not all Net stocks are created equal -- at least not anymore.

Back in the bubble days of the late 1990s, it didn't matter whether an Internet stock was an online broker, Internet retailer or Web content company. Odds are, if the company's name had "e" as a prefix or ".com" as a suffix, the stock's valuation was pretty steep.

Take NetBank for example. The online bank, at its peak in April 1999, traded at nearly 500 times 1999 earnings estimates. In hindsight, that seems absurd considering that the company is just a bank that has no branches. Sure, its costs of doing business online may be lower than those of its traditional bricks-and-mortar competitors, but at the end of the day, the company is affected by the same factors as other banks, namely interest rates.

NetBank trades like a bank....
A look at valuation measures for NetBank and four other large financial stocks.
CompanyP/E PEG Ratio
Bank of America 12.31.2
Bank One13.11.3
Wells Fargo14.21.2
* based on 2003 eps est. and prices as of 7/29/03

Investors seem to have finally figured this out. Now NetBank (NTBK: down $0.38 to $12.22, Research, Estimates) trades at just 13.5 times 2003 earnings estimates, in line with the rest of the banking sector. It's trading at a slight premium to big banks BankOne and Bank of America, and a small discount to Citigroup and Wells Fargo.

Other online financial institutions now trade at reasonable multiples as well. E-Trade Group (ET: down $0.17 to $9.20, Research, Estimates) is valued at 17 times 2003 earnings estimates, just a hair above its long-term estimated growth rate of 16.5 percent. Rival online broker Ameritrade (AMTD: down $0.14 to $9.64, Research, Estimates) has a P/E of 22 based on earnings estimates for its next fiscal year.

In April 1999, E-Trade was trading at 570 times earnings forecasts for 2000, while Ameritrade was valued at 330 times estimates.

Online retailers are different. Yeah, right.

But for some reason, investors are once again awarding other big-name Internet companies dubious valuations, especially online retailers. (AMZN: down $0.82 to $40.57, Research, Estimates), for example, trades at 73 times 2003 earnings estimates, which seems awfully high considering that Wal-Mart (WMT: up $0.12 to $55.61, Research, Estimates) trades at 27 times this year's estimates.

OK, Amazon is growing faster than Wal-Mart. Its long-term estimated earnings growth rate is 25 percent compared with Wal-Mart's 14 percent. But Amazon trades at nearly three times its long-term estimated growth rate while Wal-Mart trades at two times.

"For many of the Internet leaders, you're paying a high valuation with only modestly higher growth prospects," said Ryan Jacob, manager of the Jacob Internet fund.

To that end, Jacob does not own and only has small positions in eBay and Yahoo! But E-Trade is the fund's third-largest holding.

...but Amazon is no bargain
A look at valuation measures for and four other big retailers.
CompanyP/EPEG Ratio
Barnes & Noble13.20.9
Best Buy22.61.5
Wal-Mart Stores27.32.0
* based on 2003 eps est. and prices as of 7/29/03

There is a disparity in price-to-earnings ratios for other Internet stocks as well.

Netflix (NFLX: down $0.84 to $25.85, Research, Estimates), the popular DVD rental Web site, trades at 76 times 2003 estimates, or about 1.5 times its estimated long-term growth rate of 50 percent. Blockbuster (BBI: up $0.26 to $17.47, Research, Estimates), the nation's largest video and DVD rental chain, has a P/E of 12, a discount to its estimated earnings growth rate of 15 percent.

And online auto dealer Autobytel (ABTL: up $0.01 to $6.43, Research, Estimates) trades at 43 times 2003 forecasts, more than three times the P/E of AutoNation (AN: up $0.05 to $17.18, Research, Estimates), the nation's biggest auto dealer, which trades at 13 times estimates.

Then you have eBay (EBAY: up $0.34 to $108.48, Research, Estimates), though it's hard to find a company that is analogous in the "real world." It seems silly to compare it to Sotheby's (BID: up $0.20 to $8.94, Research, Estimates), for example, especially since the auctioneer lost money in its most recent quarter. But is eBay's P/E of 72 justified, even given its expected 40 percent earnings growth rate?

"I don't think it's inappropriate for Amazon or eBay to have higher valuations than other retailers, but it seems like [those companies'] valuations are a little stretched right now," said Adam Adelman, senior technology analyst with Philippe Investment Management, a New York money manager.

The question for Wall Street: Is it just a matter of time before investors realize that Net retailers, like online financial companies, don't deserve to be valued at such a huge premium to their offline counterparts?  Top of page

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