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Should You Buy or Sell E-Commerce?

E-commerce grew 16% in the second quarter of this year. Clearly, such growth is incredible compared to other industries in the market. However, we have seen two of the three largest e-commerce companies perform poorly in quarterly earnings. Therefore, is now time to buy for the long-term, or sell and take profits?

A bad start for e-commerce
So far, we have already seen both Overstock (NASDAQ: OSTK  ) and eBay (NASDAQ: EBAY  ) report quarterly earnings, and both have traded lower.

eBay slightly missed on the top-line but beat earnings per share estimates. However, fourth quarter guidance had its stock trading lower by nearly 4% on Thursday. The company's PayPal division was strong – sales grew 19% year-over-year – but its marketplace revenue increased just 12% during the same period.

eBay is now guiding for fourth quarter (midpoint) revenue of $4.55 billion, which is well below expectations of $4.64 billion . Clearly, with PayPal performing well, marketplace appears to be the culprit for weak performance .

Then there is Overstock, a company that met revenue expectations but missed estimates on EPS by one penny. In its quarter, revenue grew 18% to $301.4 million, which was a slower rate than its 22.4% growth rate in its last quarter. The company did not lower guidance or give any indication of long-term weakness, but its stock is currently trading lower by 16%.

What about that other company?
Amazon (NASDAQ: AMZN  )  has yet to report earnings, but its stock is trading lower by almost 1% in sympathy with eBay and Overstock's performance. However, there are two areas to note for Amazon that could affect future (and current) performance: online sales taxes and expected growth.

First, Wisconsin added sales taxes to Amazon shopping carts, making it the 14th U.S. state to collect sales tax from the e-tailer . One of the biggest edges that Amazon has held in recent years is pricing. In part, this came from the 4%-10% that consumers save in state sales tax. Now, with more states collecting sales tax, Amazon may not appear as cheap a store, especially with price matching in place.

Next, investors expect sales growth over 22%, but current estimates might not be a reality. According to ChannelAdvisor, clients saw their Amazon same-store sales rise 24.9%, 24%, and 26.5%, respectively, in the months of July, August, and September. While this is one way that analysts project future sales for Amazon, noting the performance of vendors is not a perfect system.

In particular, ChannelAdvisor estimated growth of 17.7%, 20.4%, and 17.4%, respectively, in the same months for eBay . However, with growth of just 12% in its marketplace, we can see that such numbers are not a reflection of fundamental performance. With that said, there is a good chance that Amazon will not meet its expectations in this current quarter. Not only do we have weak industry performance, but a boost in sales taxes and a large disconnect between ChannelAdvisor's projections and eBay's reality don't paint a pretty picture for Amazon's performance as it relates to the same estimates.

What to make of it
The big question now becomes how to play this poor performance? Is this temporary, or is it the first sign of a longer-term trend? Also, do these companies need 20% growth to maintain their premiums?

Let's look at the facts: both Amazon and Overstock are growing at around 20% yearly, and eBay has slipped considerably lower to the 11%-15% range. eBay trades at 24 times earnings, but a whopping 4.6 times sales, mainly because it has higher margins thanks to PayPal.

In eBay's last quarter, margins improved modestly. This acted against the trend of lower margins that we've seen in recent quarters. Nonetheless, eBay continues to face margin pressure. Since its valuation is largely tied to margin strength, and its growth is slowing, I'm not sure how eBay could be considered a value opportunity.

Amazon is completely different: it sacrifices margins now to produce greater growth. Amazon trades at just 2.1 times sales, but also 108 times next year's earnings. To me, these metrics are expensive, especially considering the problems within the space, and the unknowns surrounding Amazon.

In regards to Overstock, it's tough to find a reason not to buy. The company has sub-20% top-line growth and significant margin expansion. Specifically, Overstock is trading at 0.58 times sales and 27 times trailing earnings. Therefore, it's hard to understand why the stock has fallen so much after earnings. Overstock is not pricey, and its earnings were good.

Final Thoughts
Overstock is considerably smaller than its peers, and is often forgotten among the list of e-commerce companies. It is a cheaply priced and fast growing company that is worth your due diligence. As for its peers, there are just too many questions regarding growth, making Overstock the most attractive of the three.

But who will rule retail?
The retail space is in the midst of the biggest paradigm shift since mail order took off at the turn of last century. Only those most forward-looking and capable companies will survive, and they'll handsomely reward those investors who understand the landscape. You can read about the 3 Companies Ready to Rule Retail in The Motley Fool's special report. Uncovering these top picks is free today; just click here to read more.

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