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Tech stocks are overvalued And we like them that way
By Rebecca Lynn Eisenberg, CBS MarketWatch Last Update: 8:33 PM ET Sep 25, 1999 SAN FRANCISCO (CBS.MW) — What is Steve Ballmer thinking?
“There is such an overvaluation of technology stocks, it is absurd,” the Microsoft (MSFT: news, msgs) president told a bunch of business writers in Seattle.
“I could put our own company and others in that category,” he continued, temporarily driving down his own net worth a few billion dollars. “I used to believe in the theory of perfect markets,” he whined. “But I no longer believe that.”
Maybe Ballmer just wanted a chance to pick up more shares at lower prices. If he really lacked faith in the value of tech stocks, one would think he would leave his post at the industry’s top company, place all his money in government bonds, and retire.
The truth is, Ballmer, like the rest of us, knows that tech stocks are overvalued. But we like them that way.
Tech stocks, especially Internet stocks, are part self-perpetuating prophesy, part Ponzi scheme. The fact that their valuations are based on future growth is what allows them to grow. As long as investors keep believing in their potential, they will continue to impress.
And, as long as they continue to impress, venture capitalists will continue to pump money into start-ups, fueling the growth of more and more publicly traded overvalued Net firms, getting more and more people rich in the process.
Take Yahoo! (YHOO: news, msgs). A mere Web directory in 1994, the company launched into the public market in 1996 to the tune of an almost $1 billion market cap. Granted, Yahoo!’s shares might have been a tad overvalued at that time, but the company made good use of them.
Using its shares as funny money, the company was able to acquire a whole slew of other Internet companies, including Internet directory service Four11, ecommerce software company Viaweb, Web scheduling company WebCal, direct marketing company Yoyodyne, Web communities site Geocities, and Web casting service Broadcast.com.
What emerged from the buying spree is far better than funny: it’s a genuine, valuable Web destination that offers free personalized news, event listings, e-mail and multimedia services for individual users. It also offers one of the Web’s best, biggest and most affordable shopping malls for small businesses who set up with its storefront services.
Best of all, the company actually started to turn a profit. All because of its so-called overvalued stock.
Amazon.com (AMZN: news, msgs) is another company that used its so-called overvalued stock to build an Internet empire. Launched in July, 1995 as “the world’s biggest book store,” it hit the public market in 1997, then used its stock, as well as proceeds from its so-called overvalued bond offering in early 1999 to branch out into the music, movie, drug, pet supply and grocery markets.
It also acquired everything from online scheduling company PlanetAll and online price comparison shopping firm Junglee to ecommerce enabling software company Accept.com, Web use tracking library service Alexa Internet and online movie directory Internet Music Database.
As a result, Amazon.com is now a full-service Web store, offering customers the ability to buy just about anything they want for everyone they know. Of course, the site isn’t profitable yet, but take my word: it will be.
Online auction service eBay (EBAY: news, msgs) is yet another Web company that never would have been able to grow so big had it not been so highly valued. Starting out, like Yahoo, as a Web extension of a hobby, the site managed to grow so large simply because it offered such a popular service. And, the more people that use eBay, the more reason new people have to use it – – after all, if you want to sell something online, it makes sense to sell it at the store that has the most customers. No matter how hard all its competitors try, no one has managed to put a dent in eBay’s momentum. That is the value of overvalued stock.
But then there’s The Globe
Of course, not every Web company enjoys the vast success of Yahoo!, Amazon.com and eBay. TheGlobe (TGLO: news, msgs) experienced both the highest first day gain in IPO history, as well as one of the greatest and fastest stock declines. Its problem was not overvalued stock, but rather lack of vision among management.
Instead of purchasing companies with clear value propositions for its users, the company used its overvalued stock to buy things of marginal interest: a half-rate online department store, a content site of dubious interest and a semi-entertaining network of entertainment properties. TheGlobe.com may rise again, and seems to be doing a bit better these days, offering new services for its free homepage customers, but only if it does what Yahoo!, Amazon.com and eBay all did: figure out what its customers want, and give it to them.
TheGlobe.com’s bouncing-ball stock prices teach another lesson about the value of overvaluation: Internet stocks come with a built-in risk factor. They move so far up so fast only because there is always the chance that they will move down just as quickly. The upward movements are justified by the risk of the downward slides.
The end result: overvaluation proves that, unlike Ballmer’s assertions to the contrary, the market is perfect after all. Without overvaluation, there would never be such fast growth. Those who don’t want that kind of upside are welcome to stay out of the game.
For Ballmer, actions speak louder than words. The Internet stock market might be risky, but it’s a game that Ballmer seems happy to play.
Rebecca Lynn Eisenberg of San Francisco writes her column on Internet issues for CBS MarketWatch. —