Thursday, June 9, 2011

Is a Tech. bubble out there or simple Ponzi schemes ?

Here and there we find mention of some possible tech bubble. LinkedIn IPO is mentioned. Facebook valuation is sighted. Groupon impending IPO is talked about. So we checked the tech index and we searched a lot for the bubble. But we could not see any bubbling valuation in the tech sector. Otherwise, Google would have been over $1000 by now. With its Android it is creating new values in the mobile sector; Apple would have been over $ 500 with its cloud entry and other plans.
Instead what we see is localized Ponzi scheme and greed of making a killing in little known tech names which are yet to prove their profitability. This method has been tried and tested and perfected on some well know MOMO stocks like PCLN or NFLX, where market movers  have relentlessly push the prices and have created a hype in the market about tech companies with little value. In the next downturn which is possibly few months away, retail investors would be holding these fancy tech shares which will not be worth the price of the paper on which they are printed. I may be wrong and I hope I am wrong but fears linger.
Let’s start with LinkedIn. This is basically an employment portal. There are other employment portals which are more profitable than LinkedIn. Only reason they have generated such hype over their share price is because it was a low float IPO. Less than 10% of the shares were offered in the market and if you want to short sell the share of LinkedIn, you will not be able to borrow it anywhere. We would love to purchase puts on LinkedIn but for the reason that the spreads are ridicules. For the share price to maintain at this level, the company will have to perform like a superman. Already from euphoric high of $100, it has reached $ 72 and we would not be surprised to see it trading below its offer price.
Groupon is another example of greed and manipulation. What Groupon does is to get local merchants to try selling at a loss just to get new customers. The revenue Groupon shows in its books are not its revenue anyway because it remits half of the proceeds to the traders after the deal is closed. We had an encounter with Groupon last year. We had a website selling gifts etc and were contacted by Groupon to provide coupons. The margins were thin, in the range of 25% on an average. We calculated that any sell generated through Groupon is actually a loss making proposition. And we decided not to go ahead with Groupon.
The same is true for every trader. Unless they have 200% margin on cost, it is well neigh impossible to make money by selling through Groupon. The traders, who try them, lose money and find that there is no customer loyalty for the new customers that have come in the 1st place. Most traders cannot remain profitable and yet offer discount over 10%. So Groupon has to find new suckers (new traders willing to commit financial suicide) every day.  However, you cannot fool everybody for all the time and very soon traders will realize the folly of Groupon.
Apart from the faulty business model, Groupon management is withdrawing huge amounts of cash (refer and creating a class B shares whereby they keep control of the company.
The biggest Ponzi around is that of Facebook. Facebook raised $ 500 from Goldman Sacs so we can imagine who will do the front running of creating all the hype and unloading their initial investment at a huge profit. Facebook has an estimated revenue valuation of $2 Billion but so has Groupon. Pray then why Facebook should have a valuation of $200 billion. The 500 million users are not generating any profit yet and knowing how the social networking ecosystem changes so quickly, who can guarantee that Facebook will be relevant 10 years down the line. Sure they would be able to sell their shares at an astronomical price, if they bring their IPO in the next two months time when investors, big and small is hungry for yield and are willing to take risk.
But once the economic cycle turns down, GDP numbers start printing zero or negative, all risk will be off.