3 Overvalued Stocks Screaming ‘Short!’

by Jeff Reeves | February 15, 2012 7:00 am

3 Overvalued Stocks Screaming ‘Short!’

There’s a lot of optimism on Wall Street right now as stocks have started 2012 with a bang. The Dow is up 5% year-to-date. Big name stocks like Apple (NASDAQ:AAPL[1]) have outperformed by dramatically more than that. And without fail, the endless drumbeat of hyped-up forecasts have been increasing as of late (case in point, Barron’s recent cover story “Enter The Bull[2]” that says “Dow 17,000 is a 50-50 bet.”).

I’m not sure whether or not the rally will last, or how dramatic it will be. But one thing is for sure: Even if the market generally is going up, there are still a lot of stocks that could be going down. Hard.

So whether you believe the Dow 17k hype or whether you expect the other shoe to drop soon and send the markets lower, keep an eye on these three stocks in particular. The numbers just aren’t there to support puffed-up valuations, and these picks could be in for a tumble soon.

Amazon

Amazon (NASDAQ:AMZN[3]) has tallied a double-digit percentage gain in share price so far in 2012, but at around $190 it remains significantly lower than its peak near $250 back in October. The reason for the slide? Well, a few months ago the company announced its first-quarter profits would all but evaporate, thanks to a foray into the tablet field with the Kindle Fire — a product that costs more to produce than the company is selling it for. That’s a huge gamble.

And beyond the strategic “what ifs” about its tablet venture, Amazon’s stock price has long outstripped its earnings. Even after the 20% -plus slide since last fall, AMZN still boasts a nosebleed price-earnings ratio of 66 on fiscal 2013 earnings and a PE of 131 on fiscal 2012 numbers! Profits are forecast to eke up a measly 6% this year over 2011 numbers.

Sure, Amazon has a history of finding growth. And with $9.5 billion in cash and short-term investments alongside zero debt and growing revenue, it’s not like AMZN is going under anytime soon.

But as Dan Burrows points out[4] out in his bearish assessment of the stock, Amazon has a lower net profit margin than Wal-Mart (NYSE:WMT[5]). And while revenues increased by 35% to $17.43 billion in Amazon’s most recent earnings report[6], they were off by nearly $1 billion from the consensus estimate.

You have to wonder how long Amazon investors will continue to believe rapid growth is a given – even if the Kindle works out as planned in a best-case scenario.

Salesforce

Another dot-com that could suffer a flop is cloud-computing darling Salesforce.com (NASDAQ:CRM[7]). In fact, judging by the -23% return for 2011, the flop could well be underway already.

The company provides applications designed to deliver “customer and collaboration relationship management” (hence the CRM stock ticker, for those curious), and has been one of the most overhyped growth stories of the last few years. The idea is that Salesforce will allow customers and businesses to connect easily and with lower up-front investment, cutting out hardware purchases or software that must be installed and maintained.

The trouble isn’t just it’s much-maligned forward P/E ratio — a disturbingly high 80 on 2013 earnings. The trouble is this growth story has stopped showing growth.

Fiscal 2010 earnings per share were 63 cents for the year. Fiscal 2011 was 47 cents. Fiscal 2012 is forecast to be 30 cents. So, any rational investor should automatically question the prospect of future profits to prop up that sky-high valuation. Yes, sales continue to grow — but increased competition is squeezing profits.

What’s more, Salesforce is just too expensive to be buyout bait anymore — so if you’re investing on that premise, give it up. Competitors aren’t willing to pay a premium based on current valuations, so there’s little chance of a blue-chip tech stock juicing CRM with a plush acquisition offer.

Another sign of trouble is that as of the end of January, 14% of the float in CRM stock was held by short-sellers. That’s not a sure sign of disaster, but it should still set off warning bells that roughly 1 in 7 investors are buying this stock to bet on the downside.

Oh yeah, and as Tom Taulli writes[8], there are signs that the cloud computing biz is facing headwinds due to global competition and macroeconomic issues squeezing enterprise spending. So even if you overlook everything else, you have to wonder if the cloud computing revolution is really going to be as much of an opportunity as some thought a few years back.

LinkedIn

Social media stocks have seen a “Facebook bump[9]” in 2012 on hopes of the Facebook IPO. In fact, social gaming stock Zynga[10] (NASDAQ:ZNGA[11]) soared 17% on the news of Facebook’s filing in just a single day!

So you may be surprised to learn that according to Data Explorers, about 5% of the outstanding shares of LinkedIn (NYSE:LNKD[12]) are short. That’s not a huge amount, especially when compared with Salesforce, but certainly worth noting, considering all the optimism that’s infecting the social media industry these days.

Why are traders looking to the downside of LinkedIn? For starters, how about a forward P/E of about 77. And if you want to use adjusted EBITDA, you’re looking at a ratio of over 150.

Then there’s that all-important question of growth. LinkedIn has doubled its growth for six straight quarters, so a slowdown seems inevitable. The only question is when and how much. Even Facebook will hit a critical mass, and LinkedIn’s niche is smaller. What’s more, there’s growing competition — one interesting upstart is BranchOut[13] — and as LNKD profits, you can be sure it will see more challengers.

Finally, unlike Facebook, LinkedIn isn’t exactly sitting on a pile of cash and a mega-profitable business. Though revenue doubled in LinkedIn’s first-quarter report[14], it earned a measly $6.9 million in profits during the final three months of last year. In 2010, income came to just $1.6 million for the entire fiscal year. That’s not a lot of room for error.

It’s one thing to take a flyer on Facebook because it’s the 900-pound gorilla of social media with a boatload of cash. (Though for the record, I agree that the Facebook IPO will make a fool of many investors[15].) It’s another to bet on a relatively small company like LinkedIn that has a heck of a lot fewer digits in its profits and revenues.

Jeff Reeves[16] is the editor of InvestorPlace.com. Write him at editor@investorplace.com[17], follow him on Twitter via @JeffReevesIP and become a fan of InvestorPlace on Facebook. As of this writing, he did not own a position in any of the aforementioned stocks.

Endnotes:
  1. AAPL: http://studio-5.financialcontent.com/investplace/quote?Symbol=AAPL
  2. Enter The Bull: http://online.barrons.com/article/SB50001424052748704444604577207223617121572.html
  3. AMZN: http://studio-5.financialcontent.com/investplace/quote?Symbol=AMZN
  4. as Dan Burrows points out: http://investorplace.com/2012/01/amazon-pricey-stock-amzn-kindle-fire/
  5. WMT: http://investorplace.com/2012/01/search/?q=wmt&searchsubmit=Search
  6. Amazon’s most recent earnings report: http://investorplace.com/2012/02/headwinds-against-amazon-may-be-rising/
  7. CRM: http://studio-5.financialcontent.com/investplace/quote?Symbol=CRM
  8. as Tom Taulli writes: http://investorplace.com/ipo-playbook/cloud-computing-stocks-2012-salesforce-crm/
  9. Facebook bump: http://investorplace.com/ipo-playbook/facebook-ipo-juices-social-stocks/
  10. social gaming stock Zynga: http://investorplace.com/ipo-playbook/zyngas-game-is-on/
  11. ZNGA: http://studio-5.financialcontent.com/investplace/quote?Symbol=ZNGA
  12. LNKD: http://studio-5.financialcontent.com/investplace/quote?Symbol=LNKD
  13. BranchOut: http://investorplace.com/ipo-playbook/interview-branchout-ceo-rick-marini-talks-facebook/
  14. LinkedIn’s first-quarter report: http://investorplace.com/ipo-playbook/linkedin-lnkd-fourth-quarter-earnings-report-social-stocks/
  15. Facebook IPO will make a fool of many investors: http://investorplace.com/ipo-playbook/why-the-facebook-ipo-will-make-a-fool-of-you/
  16. Jeff Reeves: http://investorplace.com/2012/02/2012/02/top-10-dow-jones-dividend-stocks-2/2012/01/top-10-dow-jones-dividend-stocks/2011/10/optimism-about-europe-debt-resolution-a-risk-to-market-rally/2011/10/2011/10/2011/10/no-bear-market-for-5-funds-etfs-slv-gld-thd-xrt-fdn/2011/10/author/jeff-reeves/
  17. editor@investorplace.com: mailto:editor@investorplace.com

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