In the competitive spirit of college basketball's annual championship tournament, The Motley Fool brings you Stock Madness 2007! Our writers are making head-to-head arguments for their chosen stocks (but not necessarily investment recommendations -- this is, after all, a game), and you'll pick the winners with your article recommendations and Motley Fool CAPS ratings. Who will win the right to cut down the net? Let's tip things off and find out!

Greetings, sports fans! Welcome to the third annual Stock Madness tournament. In today's matchup, we've got a pair of bona fide growth stocks for your consideration, each bearing the seal of approval of Motley Fool co-founder David Gardner: DVD-by-mail renter Netflix (NASDAQ:NFLX) and everything-else-by-mail seller eBay (NASDAQ:EBAY).

Both companies epitomize the concept of "rule breakers." Netflix upset the established order of the movie-rental industry. It freed movie renters from the need to leave the comfort of their couch, freed them from worry over deadlines for rental returns -- and freed Movie Gallery (NASDAQ:MOVI) and Blockbuster (NYSE:BBI) from substantial late-fee cash flows in the process. eBay did something similar in the retail industry -- it created an "efficient market" for goods.

Both companies, too, have spawned imitators that tried to steal their thunder. Remember when Wal-Mart (NYSE:WMT) tried to keep customers out of its stores by mailing movies to them? And when was the last time you bid in a Yahoo! (NASDAQ:YHOO) auction? Simply put, our contestants in this matchup are two great companies. Companies that threw out the old order of business, created their own rules, and forced everyone else to play by 'em.

There, however, the similarities end.

Sixth time's the charm?
For one thing, although David Gardner has endorsed both companies in Motley Fool Stock Advisor, he has drafted Netflix into our portfolio not once, not thrice -- but five times since first picking the stock in June 2003. In contrast, eBay has won David's approval only once, way back in June 2002, and hasn't earned a re-up since.

Why is it that Netflix keeps winning games, while eBay sits on the bench? Simply put, Netflix offers the best bargain. Just take a look at the stats.



Enterprise value (millions)



Free cash flow (millions) at the end of FY 2006



Enterprise value-to-free cash flow



Estimated 5-year growth rate**






*Calculated traditionally (operating cash flow minus capital expenditures), Netflix's free cash flow appears much higher at $223 million. To arrive at the $66 million figure, we consider the net cost of building out its DVD library ($157 million) as a capital expense and subtract this from "traditional" free cash flow.
**Source: Yahoo! Finance.

Buy the numbers
Viewed one way, what we have here are a pair of great companies, each attractively priced. With an estimated five-year growth rate approximately equaling its EV/FCF, eBay appears overpriced, but only a bit. Meanwhile, Netflix is priced to sell -- an absolute steal at roughly half of what the business is worth. If analyst estimates are to be believed, you should buy both stocks -- favoring Netflix heavily, of course.

Watch your back
But what if they're wrong? Analysts are, by nature, overly optimistic. They project present-day success far into the future. Few, if any, predicted the drop in equity prices just a few weeks back. Fewer still, I'll bet, foresee the risk of a recession later this year. If that recession comes, growth will slow -- and the growth projections you see above will shrink.

Which brings us to another reason Netflix beats out eBay in this contest. If, sometime soon, we're forced to cut each company's growth projection in half, you'll find that Netflix remains a buy at an EV/FCF/G of roughly 1.0, while eBay becomes overpriced at a ratio of 2.2.

Foolish takeaway
It's not often you find a growth stock priced at a discount. Less often still do you find one trading at a margin of safety sufficient to protect you in a recession. Netflix gives you both. eBay doesn't. Buy Netflix.

Does this stock deserve to move on to the next round? If so, simply rank the stock "outperform" in Motley Fool CAPS. If not, vote it "underperform." Later this week, we'll tally your votes to determine which stocks will advance one step closer to the title.

Click eBay to read the opposing article in this contest.

Click here to read all of the entries in the tournament.

Do you think you could pitch your favorite stock or ditch your least favorite one in less than 27 seconds? That's what we're doing over at Motley Fool CAPS. Check out our new stock videos.

Netflix and eBay are Motley Fool Stock Advisor recommendations. Wal-Mart is a Motley Fool Inside Value pick.

Fool contributor Rich Smith has no position, short or long, in any company mentioned in this article. He can be reached at The Motley Fool has a superbly sportsmanlike disclosure policy.