Below is a reprint of a post from Motley Fool by a fellow named Rimpinths. This post is too good to pass over. Please read it:
Subject: Re: Price jump at close
Author: rimpinths Date: 2/4/98 4:06:16 AM (ET)
"<This stock is too volatile to think that the price is anything near its true value.>
Please Explain!
True Value is what the stock sells for. 'Fundamentals' are a means to project this, not 'reality'.
Reality is $60ish."
I wish I could explain how one could determine what the "true value" of a stock is. That's the
question no one can answer with complete confidence, and what the debate on this board is usually
centered around.
Your definition of true value -- what the stock sells for -- is as good as any. Think of those
infommercials that sell a set of motivational audio cassettes for $50, but claim that they're really
worth $200. So if they're worth $200, why aren't they being sold for $200? Nobody will buy them
if you charge more than $50, therefore they are worth $50. The true value is what they sell for.
On the other hand, there is a grain of truth in the manufacturer's claim. The cassettes probably did
sell for $200 at one time. Maybe the manufacturer printed up 22 million cassettes, and they
managed to sell the first 4 million for $200. Does that mean that the other 18 million are also worth
$200? Maybe they are, maybe they aren't.
It's impossible to say until the manufacturer actually sells the other 18 million. It's fair to say that the
first 4 million are worth $200, but can you then deduce that all 22 million are worth $200? No one
knows with certainty what the "true value" of the cassettes is until the other 18 million are sold. Until
they are actually converted to hard cash, they aren't really worth anything at all. If it's a quality
product, the whole lot can perhaps sell for $200 or even $300. Then again, maybe only 4 million
people were willing to pay $200, but you'd have to cut the price by $150 to sell them to 22 million
people.
Unfortunately, the motivational audio cassette market is a lot simpler to understand than the stock
market. In the stock market, you have longs, shorts, money managers, insiders, venture capitalists,
and stock analysts like the Motley Fools who all play a role in "what the stock sells for." Each has
different motivations, and each buy and sell the stock for different reasons. When you have a stock
which has a float of no more than 4 million, and nearly 3 million of those shares are being shorted,
the shorts are going to play a large role in the price of the stock.
A short will buy the stock for reasons that have absolutely nothing to do with its true value. I
pointed out the activity on Monday because it was the shorts that drove the price up. If you look at
the intraday graph for Monday (sorry, I don't know a link to provide), it's indisputable that a short
squeeze occurred. The price of Amazon jumped by nearly $1.50 per share in a half of an hour of
very heavy trading, almost enitrely due to short coverings. These short squeezes obscure the
connection between the selling price and the true value of the stock.
IMHO, the market cap of a company gives one a much better idea of the true value of the stock
than anything else. A simple question I ask myself is: if I had the choice between taking the market
cap in cash or the company itself, which would I choose? In Amazon's case, I would undoubtedly
take the nearly $1.5 billion in cash.
Think of what you could buy with that: you could spend $300 million on a killer web site, $200
million on infrastructure (warehouse, offices, etc.), $100 million on the best employees money can
find, and $150 million on non-stop advertisements. So far, I've only spent $750 million. Hmmm,
let's see, how about I give away all the books Amazon sold this year for three years in a row, and
blow another $500 million. (Talk about pleasing customers!) That brings it up to $1.25 billion. I'll
keep the extra quarter billion in cash, interest free, to use for future investments. (All my losses are
already covered.) Can you honestly say that you'd choose Amazon over that scenario? If you can,
then $61 per share is the true value. If not, then it's overvalued.
Rimpinths
P.S. Sorry if my long posts annoy anybody. I agree 100% with Rick who said, "This is a fascinating
excercise in entrepreneurism. [. . .] It's worth watching and learning, IMO." |
