NOTE: Free essay sample provided on this page should be used for references or sample purposes only. The sample essay is available to anyone, so any direct quoting without mentioning the source will be considered plagiarism by schools, colleges and universities that use plagiarism detection software. To get a completely brand-new, plagiarism-free essay, please use our essay writing service.
One click instant price quote
... evenly popularized the PEG Model. This model is especially efficient for valuing growth stocks. The basic theory assumes that a stock should trade at a price where the stocks P/E (price to earnings ratio) is roughly equal to its long-term growth rate. Using simple algebra, the price of the stock should be a function of the growth rate times earnings: P = G E. The model tends to work well.
However, to calculate a reasonable value, it is necessary to have positive values for growth and earnings in the future. As earnings approach zero, the P/E ratio is equal to infinity. Coordinately, zero earnings would imply a price of zero based on the model. Although, most users of the model assume a positive gross margin at some point in the future and back into a price or P/S (Price to Sales) ratio. Two other popular models used in valuation attempts include P/S and P/BV ratios.
These models are fairly complex, and the subject of upper level Finance classes. As a result, they will not be discussed here. Based on financial models, it would appear obvious that eCommerce stocks are overvalued. It is interesting to ask why. Different experts propose different hypotheses. Perkins and Perkins refer to this overvaluation as the Internet Bubble.
The reasons for overvaluation seem to come from the active participants in the stock market and the Internet game. These players include day traders, venture capitalists, investment bankers, and large institutional investors. All of these groups pump up valuations via their actions. Venture capitalists are quick to take companies public these days due to huge upside potential for their portfolios. Often times, those companies have not made a profit.
Additionally, the venture capitalists exert great influence over the market by engaging in deal making between clients in an effort to augment the strength of the firms in their portfolio. Often that stable of firms is referred to as a keir etsu. Investment banks are generally willing to play the game as well. With the recently hot market, bankers are guaranteed their standard seven percent cut for a sure bet. The bankers also collude with the large institutional investors to engage in flipping.
Flipping is the art of purchasing a stock before its introduction into the secondary market, and then quickly selling it after it has made a reasonable return. In this manner, institutional investors guarantee good ROI for their portfolios, and the bankers keep the investors happy enough to charge them large transaction fees. Day traders comprise the most dangerous constituency of the eCommerce game. Day traders are the general consumer that trades stock in the secondary market via a technologically enabled process, which usually includes a computer and a connection to the Internet. Currently, roughly 50 % of American households have a stake in the market.
This is higher than ever. Unfortunately, a large majority of these individuals have put themselves in dangerous leveraged positions in order to play the market. Some have taken out second mortgages, traded on margin, or used a large portion of their portfolio that would not normally be invested in stocks with such a high-risk profile. Although macroeconomist's make the argument that investment is healthy and necessary for the economy, the fact is not true of pure speculation.
Day traders tend to speculate on stocks based on their limited information. Often, they get their information from investment chat rooms or other day traders. As a result, herd mentalities form and stocks are traded based on irrationality as opposed to sound financial data. In the final analysis, stock prices become overvalued based on unrealistic consumer optimism. This form of speculation is akin to betting. As noted in the DCF model discussion, it is possible that the day traders activities are akin to gambling.
They pay the premiums on the stock for the right to speculate. Day traders seem to exhibit addictive behavior patterns similar to gamblers. All of these groups and facts combined with what may be an unhealthy optimism perpetuate and exacerbate the Internet Bubble. It is critical to decide whether the optimism about the Internet is unhealthy. Obviously, individuals that have invested heavily believe that the optimism is based on reasonable assumptions. These assumptions are the basis for the argument that the eCommerce stocks are adequately valued or undervalued. 5.
Adequate or Under Valuation Arguments In terms of assessing whether or not an eCommerce stock is fairly valued it is important to look at the companys assets. Assets in this case are not defined necessarily as pure accounting balance sheet assets. With the advent of the Internet there are other assets that are critical other than inventory and property, plant, and equipment. In the information age, information is king. Baruch Lev, the Phillip Bardes Professor or Accounting and Finance at NYUs Stern School of Business states: The only limit to your ability to leverage a knowledge asset is the size of the market. Furthermore, Mr.
Lev defines four broad categories of intangible assets that are increasingly more valuable: assets associated with product development, assets associated with company brand which let a company sell its products at a higher price than its competitors, structural assets or better business models, and monopolies or sustainable competitive advantage. Based on that definition, first mover advantages have some long-term value, the capture of market share has value, customers and information about them has value, and so do strategies that lead to a new business model or a sustainable advantage. It is probably reasonable to assert that the B 2 C eCommerce space is currently crowded. There are so many. coms competing for market share these days that it is unreasonable to believe that all of them will survive. This implies a certain amount of Internet Bubble.
It is possible, however, that some of the eCommerce-oriented companies are not overvalued based on the above analysis of assets and a few other key assumptions. Based on the crowded state of eCommerce it is reasonable to assume that a large majority of these companies will fail. At the turn of the century there were over a 100 car companies in the United States. Today there are less than 20 in the world, and that number is shrinking yearly. The eCommerce industry will condense its competitors also. When that happens, the large conglomerates that obtained the first mover advantage, cultivated a large consumer base, developed defensible information based strategies, and provided an e Chain environment will be left to reap the benefits of their positions.
Those positions will be very valuable from a future earning and cash flow perspective. If consolidation occurs, and the Internet continues to flourish; it is not unreasonable to expect Amazon to capture 30 % of a $ 230 billion industry. Similarly, the other eCommerce oriented companies that are number one or two in their niche in a consolidated market will be able to justify current stock prices. The use of technology has exploded in the Western World and it continues to grow around the rest of the world. If the Internet continues to reach its potential, it is very reasonable to assume that there is an opportunity to capture large customer bases around the world.
Owning eCommerce stocks today is similar to buying a call option on the future of the Internet. It is possible to lose a set amount of money, but there may also be unlimited gain. The questions are: do you believe in the potential of the Internet, and is it a risk that you are willing to take? As a priest once said at my undergraduate university, There are only two things that I know in this world: there is a god, and I am not him.
This quote nicely illustrates the ambiguity of life, even if you do not believe in a higher power. Relative to the Internet and the valuation of stocks, the only thing that I can conclusively believe is that there is an Internet, and I wish that I had bought Amazon when it went through its IPO. Bibliography: 1. Belly, Richard and Stewart Myers, Principles of Corporate Finance 4 th Edition, New York: McGraw Hill (1991). 2. Clemons, E.
K. Alternative Futures for Customer Focused Electronic Commerce, OPIM 666, The Wharton School (November 1999). 3. Ip, Greg Market on a High Wire, WSJ, (January 18, 2000). 4. Korea, Stefano and Juanita Ellis, The E Commerce Book Building the E-Empire, New York: Academic Press, (1999). 5. LEK Consulting Presentation on eCommerce Stock Valuations, Given at the Wharton School (October 1999). 6. No Safety Net, The Economist, (August 14, 1999). 7.
Perkins, Anthony and Michael, The Internet Bubble, New York: Harper Collins Publishers, (1999). 8. Voetmann, Torben Valuation By Multiples Part I, FNCE 728, The Wharton School (November 1999). 9. Webber, Alan M. New Math for a New Economy, Fast Company, (January: February 2000).
Free research essays on topics related to: first mover, growth rate, long term, stock prices, market share
Research essay sample on Ecommerce Companies And Stock Valuations
