Why This Dot-Com Stock is STILL a Good Investment

Tim Begany's picture

Thursday, December 8, 2011 - 11:00am

by Tim Begany

Considering how rough it's been for equity investors the past few years, I'm always somewhat amazed when I see a stock with a chart that looks like it came right out of the 1990s -- the line goes straight up, seemingly without end. I'm even more amazed when I find that, after a little research, the stock is easily capable of more of the same. I can just hear David Spade, formerly of "Saturday Night Live," saying, "The '90s called and they want their stock back."

In fact, one very well-known publicly-traded company has been posting '90s-like returns, delivering 30% a year, on average, for the past three years. Though they might seem out of place, I suppose these results shouldn't be such a surprise, since the company has been growing sales and earnings by about 20% for five years now. During that time, annual revenue nearly doubled from $5.9 billion in 2006 to almost $10.8 billion currently. Earnings per share (EPS) nearly doubled, too, from $0.80 to $1.40.

As a top destination for online shoppers, eBay, Inc. (Nasdaq: EBAY) is in a position to continue growing rapidly as it continues to evolve from an online auction site to a global e-commerce hub. With nearly 100 million active users and counting, I think it's plenty capable of returning 30% a year for at least another few years.

 

Don't expect online auctions to be the main driver of future growth, though. Although it'll probably generate substantial income far into the future, the auction business that made eBay so famous now only accounts for about 40% of total revenue. Online auctions everywhere, not just eBay's, have been gradually falling out of favor with consumers, so I fully expect to see that 40% figure drop even lower -- perhaps far lower -- over the next decade.

PayPal, Inc., the Internet payment service eBay acquired in July 2002 for $1.5 billion, is likely to be a progressively more robust income source. PayPal currently generates about 25% of revenue and, I wouldn't be surprised to see it grow much larger because of increased usage by eBay account holders and greater adoption by major retailers. "PayPal, which boasts more active accounts than Discover and American Express, is now accepted by 60 of the top 100 online retailers in the U.S., including Wal-Mart, Hewlett-Packard, and Home Depot," points out Morningstar analyst R.J. Hottovy. As a result, payment volumes have grown at a 24% compound annual rate (three times as fast as the online retail market) for the past three years, and analysts see this continuing for several more years.

The online sale of fixed-price items, currently about a third of total revenue, should become a progressively larger income source, too. eBay has been investing heavily in this area, most recently by acquiring e-commerce and interactive marketing services provider GSI Commerce for $2.4 billion on June 20. The acquisition gives eBay access to GSI's extensive e-commerce client base of 180 retailers, including high-profile names such as Ralph Lauren Corp. (NYSE: RL) and Dick's Sporting Goods, Inc. (NYSE: DKS). Mobile commerce via downloadable applications like eBay Mobile and PayPal Mobile should facilitate auction-based and fixed-price sales as consumers increasingly shop with smartphones and other mobile devices.

A key catalyst going forward will be further penetration into global markets -- particularly developing countries, where perhaps 5%-30% of the population has Internet access, depending on the country. eBay and other online retailers stand to benefit as Internet use in these areas gradually increases and eventually reaches levels similar to those in the developed world. Right now, eBay has a total worldwide audience (active customers plus those who've used eBay at some point) of about 224 million, or 16% of all Internet users. An estimated 82% of these users reside in North America or Europe, so emerging markets represent a major growth opportunity.  

Risks to Consider: The e-commerce landscape constantly changes and is extremely competitive. For example, PayPal will be facing intense competition from Checkout, the Internet payment system of Amazon.com (Nasdaq: AMZN).

Action to Take--> From its beginnings as an online auction hub 17 years ago, eBay has morphed into one of the world's largest, most successful e-commerce companies. During the next three to five years, analysts project annual growth rates of 15% for sales and 18% for EPS. They also expect the stock to gain between 175% and 270% from the current price of around $31 per share.

I think these estimates are feasible because of eBay's size (it has a market capitalization of $39.8 billion), strong brand and reputation, global presence and demonstrated willingness to evolve. The stock doesn't pay a dividend and it can be very volatile, so be prepared for a bumpy ride. But if you're patient, you may have a chance at reliving the '90s by enjoying several years of good returns from this stock.

Tim Begany does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.