Daily Trouble |
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<DAILY TROUBLE>
Tuesday, August 3, 1999
eBay, Inc.
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Phone: 408-369-4830
Website: www.ebay.com
Price (8/2/99): $91 1/4
HOW DID IT FIND TROUBLE?
Unlike the bids made on items at its online auction site, the bids on eBay's shares have been heading generally lower and lower as time goes on. Where the shares were once trading as high as $234 this past April, the going price was recently back in the double digits.
Beyond the general malaise seen in most online-related stocks the past few months, eBay has had more than its shares of technical gaffes. An embarrassingly long outage on June 11 saw the auction site go offline for roughly 22 hours. A series of shorter outages also followed this main catastrophe, giving many investors pause for thought about the company's technical underpinnings. Besides infuriating many diehard users, the outages also reduced the company's second quarter revenue by roughly $5 million and severely dampened eBay's profits.
While eBay is far from alone in the world of Internet stocks seeing share prices cut in half over the past three months, eBay may be the poster child for the cooling of Internet mania on Wall Street. The hammer has come down on eBay's shares, erasing a whooping $17 billion in market capitalization since late April.
BUSINESS DESCRIPTION
Based in San Jose, eBay runs the Internet's largest consumer-to-consumer e-commerce website. For a nominal fee, users of the site are allowed to put just about anything up for auction, and there is no fee to bid on items beyond the cost of the item. At this writing, there were more than 2.4 million items up for auction, including everything from antiques to computer equipment to X-Files merchandise... and all categories in-between.
The company recently purchased the third-largest traditional auction house in the country, Butterfield & Butterfield, for $260 million. eBay has also recently acquired Billpoint, a firm that enables person-to-person credit card transactions over the Internet. In addition, eBay has started publishing its eBay magazine, an edgy monthly devoted to online auctions, technology, and pop culture.
eBay came public in September 1998 at a split-adjusted $6 per share. After meeting with great success in the stock market, the company came back to the well and sold additional shares to the public this past April, giving it a combined $752 million in cash and investments to fertilize growth.
FINANCIAL FACTS
Income Statement*
12-month sales: $106.2 million
12-month income: $2.8 million
12-month EPS: $0.01
Profit Margin: 2.63%
Market Cap: $12,466 million
(*Includes one-time merger charges)
Balance Sheet
Cash: $347.6 million
Current Assets: $472.9 million
Current Liabilities: $72.4 million
Long-term Debt: $5.5 million
Ratios
Price-to-earnings: N/A
Price-to-sales: 117.4
HOW COULD YOU HAVE SEEN IT COMING?
Probably the most salient factor behind eBay's weakness is the chronic problem of site outages. While the June 11 operating problem may have been the longest and most severe, it was not the only time eBay has gone down over the year. Perhaps those earlier but relatively minor downtimes should have been a clue that the company had some bugs in its system.
Just crunching some numbers might have been another way to have avoided the eBay downfall. With the company's market capitalization once tipping the $30.0 billion mark and sales coming in at roughly a $0.15 billion annual rate, eBay's valuation obviously had a huge amount of forward optimism already built in. The company may have a bright future, but the stock looks like it reflected those expectations to an extreme. And, with valuations reflecting expected cash flows in years so far out, volatility is to be expected.
Plus, eBay now has competition to worry about, namely in the form of Yahoo! <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: YHOO)") else Response.Write("(Nasdaq: YHOO)") end if %> and Amazon.com <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMZN)") else Response.Write("(Nasdaq: AMZN)") end if %>. With eBay strutting its stuff and actually posting profits early in its lifecycle, it only makes sense that the basic laws of economics would apply and that other firms would be enticed to enter the fray. When eBay's site went down, its competitors were there and more than happy to soak up the lost business.
WHERE TO FROM HERE?
While eBay's recent technical problems allowed competitors to gain a few paces in the race to dominate the online auction universe, the outages also highlight just how massive an advantage eBay has in being the first and the largest auction site on the Web. eBay has continued to vibrantly grow despite its technical problems. The site with the most sellers will attract the buyers, and buyers are attracted to the site with the most sellers. It's going to be mighty difficult for competitors to reach the type of critical mass eBay has. Even after the outages, Yahoo's free auction site still has less than a quarter of the listings that eBay has.
Perhaps eBay has learned from its technical troubles that it needs to spend more money keeping its site up and running. Sometimes a minor failure or two is needed to shock the organization into facing its potential troubles. Looking at the company's recently released earnings, it appears eBay has increased spending on its infrastructure, which from both a user and investor perspective is a good thing.
There's a fairly strong consensus that eBay has one of the most attractive business models in the online universe. By not actually carrying any inventory and acting only as a matchmaker, the company is able to run its business with minimal assets while keeping variable costs at practically nothing. This high-turnover and high-margin model allows the company to get incredible returns on its invested capital, which is one of the reasons the stock has been bid to nosebleed levels. Another positive factor working in the company's favor is the ease at which eBay can scale its business. The company can, in theory, add a vast number of auctions with minimal incremental cost. This should mean gross margins will expand over time from their already relatively high levels.
The company may be able to scale its business easily, but the jury is still out on whether eBay will be able to expand its scope beyond auctions. One of the brilliant things that Amazon.com has been able to do is add different retail categories to its business almost at will. eBay's purchase of Butterfield & Butterfield and Billpoint solidifies its vertical position in the auction universe, but the company has made few attempts at diversifying its revenue stream into other areas. Dominating the high-margin consumer-to-consumer e-commerce space as its sole business is not necessarily a bad thing, but many investors may be hoping for horizontal expansion beyond auctions.
On the financial side, the company has a $792 million war chest with which to stave off competitors. It would not be surprising to see eBay continue to scoop up companies to strengthen its position or to perhaps start spending a few bucks on advertising. Looking at the company's valuation, it should be plainly evident that eBay, even after getting chopped in half, is still very richly valued. However, there's a reason for the excessive prices placed on the stock -- eBay has a bright fundamental and financial future. For the long-term investor comfortable investing in the high-risk, high-volatility world of Rule Breakers, it's certainly worth considering bidding on eBay's stock.
Related articles:
-- Fool on the Hill: eBay's Amazing Profits (7/27/99)
-- Dueling Fools: eBay (3/17/99)
-- Daily Double: eBay (11/09/98)
--Paul Larson
([email protected])
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