good?, bad?, or just interesting........?
THE RILEY REPORT: TULIPMANIA.COM
PR Wire
July 20, 1998, 6:24 a.m. PT
HOUSTON, July 20 /PRNewswire/ -- Every serious investor and student of the
rich history of market psychology knows the cautionary tale of the grand
dementia that swept Holland in the 1630's: Tulipmania. It is widely regarded
as the mother of all bubbles, surpassing the absurdity and egregiousness of
all of the other speculative manias that would follow it; such as the
Mississippi Scheme and the South Sea Bubble in the early 1700's, the Roaring
Twenties American stock market, and gold and the Japanese stock market in the
1970's and 1980's.
Tulipmania likely earned its status as the ultimate financial mania due to
the fact that the object of its desire was a commodity that had never before
(or since) been considered a store of value (unlike gold and silver) and had
no real utility (unlike land and oil). It did, however, offer the promise of
a recurring revenue stream (like business ownership via common stock) from the
sale of cultivated bulbs -- hopefully at ever higher prices. The height of
the bubble wrought by Tulipmania was breathtaking, with the price of tulips
rising by 5900% from late 1634 to early 1637.
The demand for tulips was so great that by 1636 they were regularly traded
on the Stock Exchange of Amsterdam and on many locals marts in towns
throughout Holland, and for a while they even traded at the Exchange of London
and in Paris. "Tulip-notaries" were appointed to help manage the booming
trade. "Tulip-jobbers" traded the bulbs for short-term gains. Futures
contracts were created to ensure future delivery of bulbs at agreed-upon
prices.
The mania soon trickled down from Holland's upper class, with ordinary
citizens selling their property and land to reinvest the proceeds in tulip
bulbs. Fortunes were made overnight. The boom created a wealth effect that
ignited inflation in other assets in Holland. The price of houses, land,
horses, carriages, and luxuries of every sort rose dramatically.
Interestingly, the passion for tulips was mostly confined to Holland. In
Charles Mackay's classic book, "Memoirs of Extraordinary Popular Delusions and
the Madness of Crowds", the chapter on Tulipmania recounts the rather humorous
story of a foreign sailor visiting Holland. The visiting sailor, uneducated
in the value of tulips, steals a bulb from a nobleman's table, thinking it is
an onion. By the time the nobleman catches up with the sailor at the docks,
he has consumed the bulb with his lunch of red herring. The value of the bulb
that the hapless sailor ate? 3000 florin -- an amount that would have paid for
25 fat oxen at the time. The poor sailor spent several months in prison for
his felony.
Alas, it all ended rather poorly once the greatest fool had paid the top
tick. A nagging fear that "investing" in tulips had instead become speculation
began to spread. As this fear supplanted greed there were soon many offers
and no bids. Tulip prices fell 93% in the 10 months after the market peaked.
Fortunes were lost, lives ruined, and Holland's economy was devastated. There
was no "dead cat bounce". One hundred years later tulips sold for less than
1/2 of one percent of their peak prices.
The purpose of this history lesson? Today many market pundits have
likened investors' appetites for anything Internet to those of Hollanders' for
tulip bulbs. Might they have a point?
If one were to answer that question from the viewpoint of a strict Graham
and Dodd "value" disciple, the answer is an unequivocal and emphatic "yes!".
As Graham and Dodd wrote in their book "Security Analysis":
"Unseasoned companies in new fields of activity ... provide no sound basis
for the determination of intrinsic value. The risks inherent in the business,
an untested management, and uncertain access to additional capital combine to
make an analytical determination of value unlikely if not impossible.
Analysts serve their discipline best by identifying such companies as highly
speculative and by not attempting to value them, even though we recognize that
there will be pressure to make valuations of initial public offerings (IPOs)
and other unseasoned issues. The buyer of such securities is not making an
investment, but a bet on a new technology, a new market, a new service, or an
innovation in established product markets. Winning bets on such situations
can produce very rich rewards, but they are in an odds setting rather than a
valuation process."
Try telling that to anyone who was allocated shares of Broadcast.com
(Nasdaq: BCST) at $18 on Thursday night. Better yet, try telling that to
anyone who paid the top tick of $74 on Friday morning. It's a safe bet that
they have never cracked open Graham and Dodd's text, much less the
Broadcast.com prospectus.
So what are we left with if we cannot value Internet companies with
traditional fundamental analysis? Is this very question indicative of
Tulipmania.com?
Again, a strict value investor or analyst would answer "nothing" and "yes"
to those questions. But such an investor or analyst would also likely not
have owned or recommended any of the top-performing stocks in the S&P 500,
much less any Internet stocks, since 1994 -- and as such would have missed all
of the amazing upleg that began in January of 1995. So unless one is content
to remain in cash while awaiting the end of the current "mania" in this
"overvalued" market, one must accept reality and join the fray.
Wall Street's sell-side analysts have stretched mightily to meet the
challenge of valuing Internet companies. Since most of the companies have no
current earnings, or prospects for earnings for years to come, analysts have
made enormous leaps of faith regarding their ability to see the distant
future. Analysts have been forced to muster a power of clairvoyance
Nostradamus would have envied and peer ahead into the next century to estimate
earnings that are then discounted back into today's dollars. They have also
been forced to focus on the metrics that are currently measurable; such as
revenue, membership, and page views, in the hope that gains in those
categories will one day translate into profits. Obviously, neither method
would be acceptable to Graham and Dodd.
I personally believe, and have previously written publicly in a satirical
manner, that the passion for some Internet stocks does indeed smack of
Tulipmania in that investors seem eager to pay almost any price for first-to-
market and marquee brand names -- with the Broadcast.com IPO being the latest
example. Shares of Yahoo (Nasdaq: YHOO) and Amazon.com (Nasdaq: AMZN) have
also been bid up to price levels that clearly discount an enormous amount of
future growth. Still, I do believe that investors are earnestly trying to
value these companies' competitive positions and future earnings streams, and
not merely hoping a greater Fool will take them out at an even higher price.
Thus, I have only used the term "Tulipmania" in a sarcastic vein -- contrary
to the charges recently made by an aspiring muckraker who cynically twisted my
comments out of context.
As long as the demand for "blue-chip" Internet stocks remains strong and
the supply limited, they should hold or "blossom" from their current valuation
levels. I continue to believe that this will inspire confidence in investors
to reach for better value in some of the second-tier companies that have more
room for multiple expansion, and that relative valuation arguments are thus
sound and salient. Egghead.com (Nasdaq: EGGS), for instance, still trades at
little more than 4X its forward run-rate Internet revenues, vs. almost 17X for
Amazon.com. Zapata's (NYSE: ZAP) emerging Internet portal business is valued
at less than 1.3% of the market cap of YHOO, while having registered many more
than the mere 230,400 users such a market cap implies on a comparable per user
basis. I continue to believe that such yawning valuation gaps are likely to
narrow as the fundamentals continue to unfold in the months ahead.
The Riley Report is written by Louis Riley, principal of Riley Capital
Research. It is distributed on an occasional basis to provide timely
commentary and opinion on individual stocks or industries that are making
news. Opinions expressed are subject to change without notice.
Riley Capital Research is a research boutique that specializes in
highlighting investment opportunities that have frequently been overlooked by
most investors and that are not followed by the majority of Wall Street sell-
side research organizations.
This report should not be construed as a solicitation or offer of any
kind. Neither Riley Capital Research nor any of its affiliates have received
any compensation of any kind from any of the companies mentioned in this
report.
Mr. Riley and affiliates of Riley Capital Research currently hold long
positions in the common stock and/or derivatives of Egghead.com and Zapata
Corp., and Riley Capital Research recently issued a "Strong Buy"
recommendation on both of those companies' shares. Mr. Riley and affiliates
of Riley Capital Research may from time to time hold long or short positions
in the other securities mentioned in this report.
Mr. Riley may be contacted by email at louisriley@aol.com.
SOURCE Riley Capital Research
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