Why I am Not Buying $YHOO Here
Much has been said about $YHOO lately (Phil Pearlman has been one of the best commentators/traders of the name to observe in my view, making excellent use of options to build his position. I highly encourage reading his posts as well as following @mojoris1977 and @ragincajun) I have avoided the name despite their fundamental views and the increasingly attractive technical set up because of a few factors which I’ll discuss below. Please note that this is not a short idea, but the very impressive and convincing opinions of others doesn’t quite jive with what works for me. It is crucial to know when to just “sit one out.”
1. Since late last year the stock has traded over 3.5x revenue, a number well above the 2.4x 2008 trough, and near the 3.7x 5 year average. While I agree there is revenue to be unlocked, I am not sure it deserves an average let alone above average multiple at this stage. The stock is already near an average value by this measure.
2. With regard to earnings, which would separate the money kept from revenue, we can use the earnings yield since EPS went negative in the dark days of 2009. By this mark, at 5.3% we are not far below the 6.2% peak achieved in September of last year. This is saying the stock looks pretty cheap and could “normalize” propelling the price into the 20s. Earnings yield tells us a much more optimistic story than the price to revenue multiple.
3. If this disparity exists between sales and actual earnings, where are the profit margins? At 23.45%. They peaked closer to 30% in March of 2008, but the stock is not trading like it’s at a top. It is trading in a tighter and tighter range. Profit margins are a far cry above the 5 year average of 13.7%, which may be making earnings based valuations a bit flattered. This is what has me most leery.
If revenue can grow and margins stay healthy, YHOO should break out of this long, narrowing range and realize a more normal earnings multiple via a higher price. If this occurs it will make a great long trade for those discussed at the beginning of this post. If revenue and/or margins stall or fall however, they may find they overpaid for those earnings. For now, I am happy to watch and learn.