As much as Wall Street seems to love complaining about valuation, I continue to argue that sometimes valuation matters very little and the movement of stocks is more of a game of numbers than any scientific equation.
After all, what does science have to do with fear and greed, the two emotions that really drive stock prices?
This is especially true for a company such as Amazon, which remains in a neck-and-neck battle with Apple and Google for technological supremacy.
Whether or not the company is winning depends on one’s perspective. As it stands, in terms of reported sales there aren’t many companies of Amazon’s size that are producing the level of growth it has demonstrated.
As a result, the stock is up 40 percent for the year to date and more than 170 percent in the past three years. Bears that want to continue fighting the Amazon story do so at their peril. Although the company is (arguably) priced for perfection as seen by its price-to-earnings ratio of 200, Amazon continues to remind investors with its execution and new 52-week highs that avoiding the stock at any level presents the greater risk. But the question is, for how long?
In its most recent quarter, the company reported 1 cent per share on revenue of $12.83 billion, falling in line with analysts’ expectations. However, while revenue soared by almost 30 percent, earnings per share fell dramatically by 97 percent year-over-year.
But over the past five quarters Amazon has logged an average of 38.5 percent revenue growth, while net income has dropped by an average of 54 percent annually during that same span. Should that be cause for concern? Perhaps, and perhaps not.
It seems that these figures have not gone unnoticed by some analysts. Average estimates for the third quarter continue to fall, from 24 cents per share to (now) 12 cents.
For a company that has had to execute to perfection to maintain its lofty valuation, there is now growing pessimism it will be able to sustain growth expectations I have considered grossly absurd.
What’s more, for the current fiscal year the company’s average estimate of $1.36 per share has now been reduced to $1.21 earnings per share (EPS) over the past 90 days. So is it time to bail on the stock while it logs new 52-week highs in what appears to be every other session?
After all, it goes without saying whenever a company has to endure decreasing estimates what normally follows is a drop in the price of the stock. But it depends on whom you ask and through which lens he/she is looking.
For example, as bearish as these signs are, analyst Carlos Kirjner of Bernstein thinks otherwise.
Although he recently cut EPS estimates for the company for this fiscal year and next year, he raised his price target on Amazon from $251 to $283 citing improvements in pre-tax profits. He also predicted 2014 gross margins of 28.3 percent, representing an increase of close to 600 basis points from 2011 levels.
It remains to be seen how all of this plays out. With all due respect to Kirjner, I just don’t see how EPS estimates can drop so dramatically and yet raise the price target by almost 15 percent.
Even more remarkable, this is after Amazon’s stock price has already climbed 40 percent on the year. While I applaud him for making this call, it would seem with all things considered that profit-taking would be the prudent play here.
On the flip side, there is the ongoing battle with Apple, Google, and now Microsoft for tech supremacy to consider. To that end, it is rumored that Amazon plans to unveil a 10-inch tablet this fall to compete with the iPad, Nexus 7, as well as Microsoft's Surface.
Soon after these rumors emerged, investors learned that it is likely Apple will produce a smaller iPad to compete with Amazon on price. (Read More: What a Mini iPad Could Do for Apple.)
Soon after these talks materialized investors also learned that Amazon may enter the smartphone market. It is reasonable to suggest its drop in earnings can be attributed to the costs associated with entering these markets. It costs a considerable amount of money to produce the growth that Wall Street craves.
Having said that, as a value investor and one who has never been a fan of “premium pricing,” it is hard to envision how Amazon will fulfill it P/E of 200 or grow into such lofty valuations. It would require stealing market share not only from Apple and Google, but Microsoft.
Amazon is, without question, one of the best tech stories today. It is a wonderful company with one of the top three visionary CEOs in Jeff Bezos. But at these levels and considering the lowering of EPS estimates, the stock is now too expensive. There is no way to spin this.
—By TheStreet.com Contributor Richard Saintvilus
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At the time of publication, the author was long Apple and held no position in any of the other stocks mentioned.