We’ve shared quite a journey over the past several months.
We’ve talked a great deal about how most Americans have saved less than $25,000 – meaning they have virtually no net worth and can’t really hope to retire.
But we’ve also seen how well-chosen investments in the fastest-growing parts of the bio- and digital technology sectors can help you make up for lost time – hence our mantra that “the road to wealth is paved by tech.”
And we’ve even shared the five-part strategy I use to spotlight the most promising profit plays.
To succeed with all this, of course, we need to identify tech stocks that have a good chance of doubling in price.
Several of the stocks we’ve recommended are already well on their way.
But one of my most recent recommendations has me especially stoked.
In a minute – after I share my latest updates on this particular stock – you’ll feel the same way.
When Your Money Can Double
Here at Strategic Tech Investor, our job is twofold …
Naturally we want to provide you with some of our very best profit recommendations you’ll get anywhere. But that’s not all.
We also want to help you become a better investor – one who’s more confident, more decisive and, in all honesty, much wealthier. To do this, we’re also going to share some of the lessons and tools that I’ve developed in my 30 years in and around Silicon Valley.
That’s a key part of my reason for writing this column today. We’ll delve a bit more into a recent Strategic Tech stock recommendation. And I’ll share some insights – some analysis techniques – that I’m certain will help you going forward.
So let’s get started.
The recommendation in question was a recent one. But I also believe that it will end up being one of our best.
The company is Mercadolibre Inc. (NasdaqGS: MELI), the Buenos Aires-based e-commerce player that analysts have dubbed as “the eBay of Latin America.” We wrote about it last week, in the Aug. 13 issue.
We’re writing about it again so soon because – along with some bullish and similarly positive responses – we also received some intriguing questions from subscribers.
And answering those questions about Mercadolibre – or MELI, as we often refer to it -will prove to be a good way to add to your skill set.
Two of the queries in particular stood out. One is qualitative in nature. And the second is quantitative.
Both were excellent.
Let’s take a look.
Two Great Questions
Reader Query No. 1: Subscriber Win T. wrote in and expressed competitive concerns about U.S. e-commerce giant Amazon.com Inc. (Nasdaq: AMZN), which has plans to move into the Latin American market. As Win asked: Won’t that hurt MELI badly?”
Michael Robinson (A): Thanks for the question Win. And let me get right to the point.
I’m not worried about Amazon stealing turf from MELI.
I’m sure that surprises many of you.
And some of you may really be worried. If so, I’m pretty sure that concern was initially sparked by the Barron’s article that ran in late May 2012. The story questioned MELI’s stock valuation in light of Amazon’s hiring in Brazil – as well as the expectations that AMZN was revving up for a major expansion in Latin America. Barron’s suggested that investors be very careful about MELI for this reason.
But I disagreed with this conclusion – both then … and now.
As an Amazon customer, I know the company has an amazing e-commerce system … from the Website itself to the inventory, processing and delivery infrastructure that backs it.
But as a longtime denizen of the Silicon Valley region, I was able to make some spot some important distinctions, that allowed me to conclude this was much less of a threat than analysts feared.
Barron’s, you see, was comparing apples and oranges: While Amazon is a new product retailer – a company that’s an online version of a Wal-Mart or Target (but with one heck of a bigger selection), MELI is an auction site that peddles lots of used goods and close-out specials.
Actually, as it relates to Latin America, the last company I’m worried about is Amazon. I think the odds are good that Amazon will get its head handed to it there in terms of financials and cash flow.
First and foremost, I believe that founder and CEO Jeff Bezos is spreading himself too thin. He’s launching a same-day delivery service in big cities. This is extremely expensive and really hurts profit margins.
Then there’s his recent – and, in my view, ill-advised – purchase of The Washington Post. Bezos is paying a reported $250 million for a declining asset that’s probably worth about one-fifth of that purchase price.
In other words, he’d rather play media baron than create maximum value for his shareholders by maintaining a laser-like focus on Amazon’s core business.
Then there’s the competitive balance between MELI and Amazon itself.
I just don’t see Amazon stealing a lot of market share from MELI in the latter company’s home market. MELI has a crack management team that knows the regional market better than anyone on Earth.
That’s an opinion … a judgment … I’ll concede.
But that opinion is based on some hard numbers.
And I got those numbers by “drilling down” on MELI – as I do with any recommendation.
At the time of the Barron’s article on May 26, 2012, MELI’s shares closed at $74.73.
And investors who pulled the ripcord on Mercadolibre just because that story scared them have already left a lot of money on the table.
And they’re about to lose more.
Since that Barron’s piece was published, AMZN shares have surged a handsome 32%.
But Mercadolibre trounced its erstwhile rival: Its shares have soared more than 62%.
And MELI’s shares are going to continue their steep ascent, while AMZN’s growth rate continues to slow.
As much as I love shopping on Amazon, it’s not even close to being in the same class as MELI from an investing standpoint. Simply stated, AMZN just has terrible margins and investment returns.
According to my research, Amazon has a negative1.2% return on equity (ROE) and barely breaks even on assets (ROA). To be sure, analysts are expecting a big pop in earnings this quarter. But over the past three years AMZN has had negative earnings growth rate of 64%.
To me, there’s no way those margins and poor earnings growth over the last three years can in any way justify the whopping forward Price/Earnings (P/E) ratio of 101 – which is roughly triple that of MELI.
Given the fact that MELI has a much better chance than Amazon of doubling in price from here, the less-richly priced Mercadolibre is hands-down the better investment bargain.
That first question was the qualitative query.
The second is quantitative – sent in by a subscriber who fears that MELI is too expensive.
Reader Query No. 2: Subscriber AJ is concerned that as Mercadolibre grows and matures, its stock might not command the premium valuation that it does now – meaning the stock won’t gain as much as we predict. Said AJ: As MELI “matures over time, the P/E could contract from the current 55x. Even if earnings double over three years, P/E contraction to a reasonable ‘PEG’ [Price/Earnings to Growth Rate] ratio of 1x may lead to muted stock price appreciation. What is your view about it?”
Michael Robinson (A): The scenario that AJ is referring to here is something called “P/E contraction” – which is when a stock trades at a lower Price/Earnings ratio than it had been.
AJ, the P/E of 55 that you’re referring to is a “trailing” P/E, meaning it looks at past (already-reported) earnings. Since we’re talking about tech investing – where the growth rates are higher, and where the growth to come will determine whether our “double-your-money” thesis plays out – I like to evaluate companies and the potential returns by looking at “forward” earnings … the earnings still to come. That’s what we’re buying – earnings growth.
At this point I don’t see MELI’s forward P/E of 35 falling any time soon, certainly not dramatically so. This is a growth stock that commands high multiples because of its high internal investment returns.
But the best way to illustrate what I’m talking about is to compare MELI with another respected Web-based play – LinkedIn Corp. (NYSE: LNKD).
Although LinkedIn trades at $230 a share – roughly double the share price of Mercadolibre – I believe Mercadolibre has more potential.
Now, I concede that the two ventures cater to different sectors. But I believe that LinkedIn offers a decent proxy for comparison.
Like MELI, LinkedIn caters to its market exceptionally well. I’m a regular user and big fan of the company’s service, which has enabled me to connect with colleagues I haven’t seen or spoken to in years.
But the finances for LinkedIn will be quite a surprise.
Let’s drill down and compare the two.
LNKD has a forward P/E of 104. Not only that, but it has a PEG ratio of 2.64. The higher that ratio is above 1.0, the more expensive it is on a relative basis.
That’s a sign of just how hot LinkedIn has been. If we use the date of that AMZN/MELI article in Barron’s as a starting point (LinkedIn obviously wasn’t mentioned, but the date of publication offers a unifying timetable for comparison), we can see that LinkedIn has gained 129% in that period – about twice MELI.
And LinkedIn has had higher earnings growth, too.
But, like Amazon, it’s a much-riskier stock going forward.
Like Amazon, LinkedIn is expensive on an earnings-multiple basis. And like Amazon, LinkedIn has lousy underlying financials. LNKD has an operating profit margin of just 5% and an ROE of mere 4%. On an operating basis, this is not a particularly well-run firm.
By contrast, MELI has nearly one-third the forward P/E at 35. It has operating margins more than six times higher at 33%. The ROE is more than nine times higher at 37%.
As great as LinkedIn’s services are, the company just can’t claim the kind of margins that MELI boasts. And those margins underscore the managerial excellence that Mercadolibre will continue to benefit from.
The upshot: Just like Amazon, I believe that LinkedIn is much more likely than MELI to experience P/E contraction in the near-term. That’s because, with its tighter operating margins, LinkedIn is more likely to get marked down (heavily) if growth stalls, or if the market corrects. When those kinds of events occur, investors take a hard look at the high-fliers, and can deal with those stocks quite roughly.
But I believe this fact actually underscores another key point I’ve made in the past about stocks that appear “expensive” but are great foundational plays. When considering a tech stock, you need to look at profit potential – and not just the stock’s sticker price.
That’s what makes MELI such a great play right now at $120 a share. It’s much cheaper than LNKD on a relative basis. Not only that, but I believe MELI has a much better chance than LinkedIn of doubling in price over the next three years to five years.
If you do that a handful of times, you’re no longer one of those Americans with no net worth.
You’re now part of the “upper crust.”
And we want to help you get there.
This isn’t the only profit play that I’m looking at right now where dominance has yet to be achieved.
I have another technology play that’s an absolute killer. And the profit potential is staggering. I put together a special presentation that shows you all the details.
To find out more, just click here.
[Editor’s Note: I welcome your comments, questions and suggestions. Post a comment below … I look forward to hearing from you.]