A Winner
Amazon.com
242.9% Gain
(Nasdaq: AMZN)
www.amazon.com
12/30/97 Price: 29 3/32 (split-adjusted)
6/30/98 Price: 99 3/4

The Company's Biz. Amazon.com is an online retail community, best known for selling books and music. The company is positioned to branch into other revenue streams and business ventures that the Internet will make possible. Amazon can attempt to leverage its community in several ways -- the key will be to maintain and always improve the brand name and the website's general purpose and spirit.

The Story. Being one of the most talked about stocks of the past year, Amazon didn't disappoint spectators (or speculators) in the first half of 1998. Probably grossly overvalued by any conventional measure, the company has already built incredibly fast wealth for its early investors. At a recent price of $114, the stock has gained over 1,000% from its May 16, 1997 debut closing price of $10 split-adjusted -- a price that it actually traded below soon after coming public.

Let's discuss why Amazon rocketed from $30 on January 1 to the mid-July price of $114, or 280%. There appear to have been many contributing factors, including:

1) There are very few tier-one Internet companies in which to invest, and there are many dollars interested in owning them.

2) Adding to this situation is the fact that young Internet companies, like Amazon, often have thin floats, or few shares available for trade.

3) Compounding this situation is the fact that nearly 50% of Amazon's shares were sold short during the past two months by investors who were betting that the stock would decline. Once shorted shares begin to rise, short sellers are "squeezed" and are forced to buy the stock, pushing it still higher.

4) Amazon.com successfully completed a bond offering that raised several million dollars more than expected without adding to the share count. The offering was received better than was anticipated.

5) Proving that the market is dumber than it looks, Amazon began to rise on news that it is now selling music.

Just as Pfizer (NYSE: PFE) shares doubled after a hot new drug became available (although the market knew about the drug a year before), Amazon soared on announcing that its music store was open for business. The music venture was public knowledge much earlier, but perhaps the market was surprised at how early Amazon opened it. With this June announcement the stock began to rise relentlessly from the $50s. The above factors -- all five of them -- contributed to the steep climb, along with new positive analyst coverage on the stock. One year ago only one analyst covered Amazon. Now, a dozen cover it, with most of them jumping aboard in the past few months. Half of the dozen analysts rate the stock a "buy," and the other half rate it a "hold" following the price rise.

How Could You Have Seen This Coming? Internet stocks have been hot, off and on, since Netscape and Spyglass came public in 1995. Despite lulls and fallen angels, the stocks of emergent leaders (Yahoo! and America Online) have continued to dance to a frenetic beat, crushing the market's average return. Amazon had nearly doubled by last September when the Fool Portfolio bought it. The company was then valued at $800 million. With sales growing several hundred percentage points per quarter that year, the company's early success with the retail public wasn't difficult to perceive. What was and is still difficult to determine is...

The Future. Where to from here? With a market value nearing $6 billion, it's difficult to project what might be next for the stock, let alone the company that it represents. The bears continuously make the mistake of calling Amazon.com a low-margin bookseller and nothing more. It is truly a high-traffic Internet site, and that kind of real estate is very valuable -- though difficult to pin down with any precision because the industry is so young.

Amazon is certainly "overvalued" by conventional measures, but all leading Internet stocks are valued as such because never before has any industry presented more certain eventual success if the leading businesses can learn to capitalize on the global, constant presence of this network and the millions, and actually billions, of people that it will eventually reach. Even the automobile was thought to be only a niche product in its early years. But there's no doubt that the Internet will become integral to the world over the next decade. (By the way, Amazon recently bought the leading U.K. and German online booksellers, too).

Nobody knows, but the current market cap on Amazon might prove small years from now (or it might prove insane), depending on how the company is able to capitalize on the eyes and dollars visiting its community every day at www.amazon.com. Amazon will move beyond books and music to sell videos as well, and eventually it will reap advertising revenue and other high-margin referral revenue, too. Investors are speculating, though -- certainly not value investing. Amazon could achieve over $400 million in sales this year, still putting the stock at 14 times 1998's potential sales, while profits are still at least a few years away. Meanwhile, competition will only grow (although the impact of Barnes & Noble and Borders online has yet to be significant -- Amazon has the lead, with 2.2 million individual customers at the end of March and strong momentum and word of mouth).

Amazon's most recent quarterly results will be announced at the end of July. If anything, the past six months have rewarded early investors for believing in a new medium. The past six months have also taught short-sellers -- once again -- that you shouldn't short on valuation alone. Shorting is risky by nature, and you should short pathetic, weak businesses, rather than dynamic new companies in fast growing industries. Short-sellers believed that Amazon was overpriced at $2 billion early this year. Now they're looking at a $6 billion market value.

-Jeff Fischer (JeffF@fool.com)

Other Fool Links of Interest: