A River Runs Through It

How much is Amazon.com really worth?

Analysts and investors have speculated about Amazon for years. The stock was thought to be worth $113 last December. Yesterday, investors seemed to think it was worth less than half that amount, down almost $4 from the previous day.

The value of a stock is determined, ultimately, by the stream of earnings it will produce. Even Internet stocks. “Valuing dot.coms,” says a recent report by consultants at McKinsey & Co, “…the best way…is to return to economic fundamentals with the [discounted cash flow] approach.”

But Amazon, the great big river of Internet reverie, produces no stream of profits. Not even a trickle. It is hard to discount a flow of cash that doesn’t exist.

And yet, it was the non-existence of cashflow that made AMZN and so many other Internet companies so attractive. Lacking facts, investors were left to use their imaginations. Cashflow could be anything you wanted it to be. This week, Barron’s described how one analyst, Jamie Kiggen, with Donaldson, Lufkin & Jenrette, used his imagination to come up with a ‘target price’ for Amazon of $140 a share. Yet, as we will see, Jamie was not merely imagining – he must have been hallucinating.

I have written about Jeff Bezos’ creation, Amazon.com, often. The company has moved through the entire landscape of InternetLand mania, like a man selling replacement windows through a poor neighborhood. From the glacial melt source…high in the Andes of technological innovation and speculative imagination…to the murky depths of the Gildered Age and the absurd pretentions of the Cluetrain Manifesto…to the bug-infested jungle of competition and creative destruction…to the frauds of the first mover advantage and hedonic price measures…to the myths of the New Man, New Economy, New Metrics and New Era…right down to the delta of washed out dreams, where all these hyped-up humbugs eventually settle in the mud…

The great big, river of no returns, Amazon.com runs through it all.

And never, during this entire spell of absurdity, inanity and chicanery, could anyone say with any assurance what the company was worth. In the place of a bottomline, which might be multiplied to produce a meaningful price comparison, AMZN had only a sinkhole.

“In the first three months of the year,” writes Alan Abelson, “on sales of $574 million, it had a net loss of $308 million and an operating loss of $198 million.” So, on a not-quite doubling of sales in this year’s first quarter compared with last year’s comparable span, Amazon’s operating loss came close to quadrupling. We can understand why that disqualifies the company as a ‘momentum story,’ but we’re a little puzzled how it qualifies it as a ‘growth story.'”

Abelson points out that AMZN has $1 billion in cash and securities. But against that, it has $2 billion in debt, an accumulated deficit of over $1 billion and only $25.6 million in stockholders’ equity. By the end of this month, that equity should have disappeared altogether.

Lacking the fulcrum of profits upon which to lever a reasonable price, a number of approaches have been used over the years to come up with an unreasonable one. Remember ‘eyeballs’? The visual portals were once considered a means of establishing the value of an Internet stock. So was ‘stickiness’ – the amount of time the eyeballs stayed glued to the site. There was also the convention of merely multiplying the rate of sales growth.

But, finally, the confederacy of dunces that passes itself off as stock analysts is coming back to fundamentals. They are beginning to value Internet companies the same way publishers value a subscriber – in terms of lifetime value. Both publishing companies and Internet companies operate on the same basic premise: they spend money to bring in customers. Then, they expect a stream of income (sales, renewals, advertising) from each customer. The value of a company can be determined simply (or not so simply) calculating the net value of each customer over the lifetime of the relationship and multiplying by the number of customers.

Amazon has about 15 million customers. But how much is each one worth? Last February, Jamie Kiggen dreamt his way to a figure of $1,905. Hmmm…that sounds a little high…in an industry noted for aggressive competition and razor-thin margins…so thin, in fact, that Amazon’s margin is negative, minus 39%; it loses money on each sale. How could it possibly make nearly $2,000 per customer? It couldn’t. The idea is preposterous.

Interestingly, Kiggen subscribed to the idea of lifetime value analysis. The value of a company, he wrote in 1998, “is its ability to attract, retain and profitably service a set of customers.” He even built a model to quantify these things. But, for whatever reason, probably because it showed how worthless Amazon really is, Kiggen seems to have abandoned his model. Fortunately, Barron’s found another analyst, Eric Von der Porten, of Leeward Investments, a California hedge fund, with less of an attachment to the big river. Von der Porten used Kiggen’s own model, and figured the lifetime value of each customer at just $26. Multiply that by the number of customers and you get a capital value for the company of about $440 million – or a stock price of about $1.25.

Then, Von der Porten made the same calculation but using his own model. This time, he came to a value of $35 per customer – putting a price target for the shares at about $1.60. Either way, it’s a long way from Kiggen’s target of $140, or even today’s $50 price. A long way down, that is.

Jeff Bezos would argue that the models are wrong. He would say that it is too early to try to put a value on Amazon. Because he is not even trying to make a profit. As he explained to Playboy, “we are a customer store.”

He does not mean that AMZN sells customers. He means that rather than focus on making a profit or even making a product, AMZN focuses on the customer. This, then, must be the final conceit of the Internet Age – that these companies put the customer on a higher plane, and perhaps on that basis alone, they deserve to be judged in a different light.

And yet…

“I placed an order [from Amazon] for one book,” writes my friend John Forde, “…two jazz cds (Coltrane and Davis), and one CD featuring Bossa Nova guitarist Joam Gilberto accompanied by Stan Getz. The Gilberto CD is apparently hard to find. Instead of telling me that, they held my whole order… for over a month now. When I wrote to ask them what the hold up was, I got an e-mail back from a customer service rep that very nearly blamed the mishap on me for ordering something obscure. Since then, they’ve agreed to send me the balance of the order and hold the charges on the undelivered CD until it comes in. That was last Wed. It still hasn’t arrived.”

Your correspondent in Paris,

Bill Bonner

Paris, France June 7, 2000

*** Can the Dow hold above the critical 50% retracement level? No. The Dow fell 79 points yesterday, bringing it back down below 10,759. If it cannot climb back above that level, and stay there, it suggests (at least to Dow theorists) more falling prices ahead.

*** Of course, more falling prices is what we expect anyway. Lacking any better explanation, we should assume we are working our way down from a very great financial height…with lots of dangerous cliffs, rock slides, and snowfields to cross. One way or another, we’ll end up in the valley below. You just want to try to avoid losing your life savings in the descent.

*** Every major bull market sector and indicator has topped out. The latest is the dollar itself, which seems to be falling against every major currency…as well as its non- paper competitor, gold. The greenback, recently at over 7 francs, bought 6.9 francs on Monday…and only 6.87 yesterday.

*** The Nasdaq fell back yesterday, too – 65 points. The decline is being blamed on remarks by two separate Fed officials – Robert Parry in San Francisco, and Laurence Meyer speaking to the Boston Economic Club in Boston. Both officials warned that the Fed – after 6 hikes, and a total of 1.75% in increases – may not be finished.

*** I remembered Lord Rees-Mogg’s comment in London last month. He said that the Fed was “locked in” to a course of action it could not alter. Greenspan considers dangerous inflation to be a level of price increases sufficient to change peoples’ behavior. Though he says he’s not targeting stock prices, it is precisely the bullish sentiments of investors – the persistent dreams and stubborn optimism that I have described in these letters – that cause them to be so carefree with their money.

*** If you can borrow money at 8%…and make 15% (minimum) in stocks – what is the rational thing to do? Borrow. Spend. Invest in stocks. The Fed cannot reverse this bullish bias until it has crushed investors’ exaggerated expectations.

*** Meanwhile, bad news is good news. Every hint of a slowing economy…weaker sales…rising unemployment…lower prices…is cause for hope that the Fed may not need to tighten any further.

*** Gold rose $3.60. But just as stock investors are stubbornly optimistic, gold investors are obstinately pessimistic. The gold producers barely move.

*** Despite lower indexes, 1521 stocks advanced yesterday, compared to only 1391 declining. 48 stocks hit new highs; only 30 hit new lows.

*** So, it was another crazy, mixed up day.

*** “Despite far more sluggish economic growth and near- zero interest rates in Japan,” says Dr. Kurt Richebacher “the yen has rocketed back in the currency markets, even against the super-strong dollar.” Foreign investors believe that Japan, ten years after the bubble burst, must surely be on the mend. Au contraire, Richebacher says… in The Austrian Case Against American Monetarism

*** Kathleen Peddicord, Editor of International Living, is visiting.So she, Addison and I went out to the Brasserie Lipp on Blvd. St.Germain for dinner. The place – made famous by Hemingway –was full of Americans. They seem to be filling up every restaurant and café on the Left Bank. *** “People are traveling more,” said Kathie. Why? Weren’t electronic communications supposed to make travel less necessary? “The Internet has the funny effect,” said its co-founder recently, “of increasing the amount of travel.”

*** The funny effect results from the need people have not merely to write to one another – but to communicate. Written expression is only a very narrow, limited part of communication. People need to see each other, to hear them speak, to see how they react, how they dress and how they sweat and stutter. They need to talk casually – and spontaneously. In the give and take of a real conversation, you learn things that you would have never thought to ask.

*** What else is worth reporting? Well, today is the anniversary of the crowning of Louis 14th, The Sun King of France, in 1654. More important, Anna Kournikova, the Aphrodite of the tennis courts, the Princess of Pulchritude, turns 19.

The Daily Reckoning