By Stephen Leeb
The Complete Investor
Investors need to own a piece of the Internet. Over the past five years, the Internet has grown far faster than any other industry: worldwide, the number of Internet users multiplied more than two and a half fold, while the typical user spent ever more hours and money online. Such torrid growth doesn't always mean comparable future growth - but in this case, the past should indeed be prologue.
The numbers are compelling. Even in the U.S., where roughly 200 million people, or around 68 percent of the population, already log on, there's still room for expansion - in Sweden, for instance, the percentage is 75 percent. Moreover, there's also plenty of room for growth here in hours and money per user.
Then there's Chindia, where the penetration rate is about 5 percent, or roughly 100 million people. If, as we think inevitable, Chindian penetration rates rise to match the average for high income countries, it means more than a billion additional Internet users. There's enormous potential elsewhere as well; in Europe, for instance, less than 40 percent of the population uses the Internet, while for the world as a whole the figure drops to below 15 percent.
Growth in the numbers of users, which we project at around 15 percent a year for the next decade or longer, will be multiplied by the growing number of ways in which the Internet is used and the increased amount of time spent online by each user. As a result, growth - from either fees or advertising - for the leading Internet brands should be around 30 percent a year for the foreseeable future. These compelling metrics are why we already have one Internet stock in our Growth Portfolio - eBay (EBAY) - and we've added another, Yahoo! (YHOO).
Yahoo!, one of the net's leading brands and portals, derives about 83 percent of its revenues from advertising and the rest from fees, for everything from premium services to licensing arrangements. Studies of Internet usage suggest that about 14 percent of all online time is spent on Yahoo!, which is one of the three most-visited sites in more than 20 countries. By a wide margin, the site has the highest brand awareness among all Internet sites. This leading presence virtually ensures that the company will remain a leading participant in the Internet's burgeoning growth. In fact, in terms of numbers of users as well as just about any other relevant metric, growth for Yahoo! is faster than the Internet as a whole.
We expect advertising revenues to continue to increase by more than 25 percent a year and fee-based revenues by more than 50 percent a year. In the most recent quarter, with users becoming ever more aware of such premium services as real time stock quotes and shopping, paid subscriptions grew by nearly 60.
It's true the current P/E is very high. But if our 30-plus percent growth projection is on target, by the end of the decade the company could be earning about $2.50 a share and still be growing by 25 percent or more a year. This means that even if the current P/E were to fall by 50 percent over that time, the stock still could nearly triple, resulting in annualized gains of nearly 20 percent a year.
As for eBay, despite some recent volatility it has been rewarding for TCI investors. The volatility is likely to remain but in no way diminishes the fact that eBay is the most compelling retail growth story in the world and a nearly sure leveraged participant in Internet growth.
By a wide margin, eBay is the world's largest auction platform, and, with 15 percent of all e-commerce, the No. 1 online site for consumer-to-consumer business transactions. In the auction arena, size is critical, and the company's scale alone represents a nearly impenetrable barrier to entry. The company has used its dominance in e-commerce to establish its PayPal subsidiary as the leading method for payment of online goods.
With less than 10 percent of all Internet users currently eBay customers, eBay growth should far exceed overall Internet growth. Growth in Internet users coupled with increased penetration of existing users means eBay's customer base could average 20 to 25 percent a year growth for perhaps a decade. This growth will be multiplied by an increase in the number and quality of items offered for sale by the average user - already the average per item selling price has been rising.
As a result, long-term earnings growth should be strong - around 20 percent a year - in more mature markets like the U.S. and truly awesome elsewhere. Recently the company entered China, slated to become its top market within the decade. International operations are currently growing by 50 percent, a rate that should be sustainable for at least several more years. Further, growth for PayPal, accounting for about 20 percent of overall eBay revenues, also is surging by nearly 50 percent, again maintainable for several years. EBay has successfully broadened PayPal's appeal beyond its own site and expects that eventually eBay transactions will account for just 10 percent of overall PayPal revenues. Factoring all this in, eBay easily could attain long-term growth of 30 percent a year or better.
Valuation metrics for eBay are comparable to those for Yahoo!, and we expect similar returns over the next 10 years. Which is to say that if we're right about inflation, investors in eBay could reap gains of 20 percent a year for the foreseeable future. And if inflation stays quiet, the returns could be even greater.
Editor's Note: Stephen Leeb is the Senior Editor of The Complete Investor, P.O. Box 248, Williamsport, PA 17703, 1 year, 12 issues, $72. www.completeinvestor.com.
