Many tech companies saw their high-flying stocks lose altitude this year.
Leaders in social media like Twitter TWITTER INC. TWTR 2.92% and LinkedIn LINKEDIN CORP. LNKD 2.48% fell more than 40% from their 2014 highs. Others, such as the retailer Amazon.com AMAZON.COM INC. AMZN 2.82% , took more modest drops, although shareholders might not have found them modest at the time.
These types of stocks, among others, are cheaper than they were, but are they cheap enough?
They almost certainly can’t be considered bargains by normal valuation yardsticks. The price-earnings ratios for tech companies — in cases where there are earnings — can run close to or into triple digits.
Portfolio managers are finding, however, that some businesses offer sufficient growth potential to warrant bets around current prices.
Kevin Landis, manager of the Firsthand Technology Opportunities Fund, has been adding to his position in Twitter, a longtime holding, because he expects the stock to improve over the long haul as the company evolves from an upstart held in tech portfolios into a respectable blue chip that will be far more widely owned.
“It’s only a matter of time before Twitter goes into the S&P 500,” says Landis, a Silicon Valley investor since the days of CompuServe email addresses composed of long strings of numbers. “Like Google 10 years ago or Facebook two years ago, everyone will have to own them.”
The reason that Twitter plunged in the first place, losing more than half its value, is that investors pulled back ahead of anticipated selling by corporate insiders. Many feared a massive dumping of Twitter stock once the lock-up period from the company’s November initial public offering ended. That has abated, Landis says, and the stock “really looks like it has found a bottom.”
Landis also holds Google GOOGLE INC. GOOG 2.64% along with Facebook FACEBOOK INC. FB 2.85% , which has nearly quadruped in value since late 2008, but he’s having reservations about the latter. Landis questions how much growth potential Facebook has left and warns that he may sell before the year is out.
“I’m still happy to hold it, but at over $160 billion [in market value], how much can it possibly make in the next 10 years?” he wonders. “I don’t know that we’ll hold it forever.”
Landis has no such misgivings about LinkedIn, a social-media company for professionals. He remained invested through the recent plunge and believes that the stock is worth buying today.
“We own it and would consider adding to it,” he says. “It’s a top brand. It’s hard to imagine a scenario where LinkedIn fades from view.” The $110 million Firsthand Technology Opportunity is up an annualized 20% in the five years through June 27, according to Lipper.
John Toohey, head of equities for USAA Investments, which offers the $571 million USAA Science & Technology Fund, has similar opinions about Facebook and LinkedIn, only reversed.
Facebook, a holding in several USAA portfolios, including Science & Technology, is the one with the greater growth potential, in his view, because its everyman customers are more tolerant of having ads thrust in their faces than the professionals who use LinkedIn.
“They have huge opportunities to monetize their base,” Toohey says about Facebook. Still, he encourages the company not to be greedy by saturating the site with ads or allowing ads that are targeted so precisely to users that it becomes obvious just how much information the company has on them.
“People are fine being marketed to,” Toohey says, “but they need to strike a delicate balance.”
Amazon.com, whose stock fell more than 25% earlier in the year, may need to execute a balancing act of its own. Amazon has spared little expense in growing its business to become a dominant retailer, but companies that spare little expense tend to have thin profit margins and generate anemic cash flow, Toohey notes. USAA Science & Technology delivered an annualized return of 21 percent in the past five years.
“We own some Amazon, but we’re cautious about it,” he says. “The challenge is whether they’ll ever slow down spending to ramp up cash flow and margins.”
Another possible impediment to Amazon and its shareholders is that it sends out so many packages at such short notice that delivery services like FedEx Corp. and United Parcel Service Inc. eventually may balk at doing the heavy lifting, at least at current prices.
“Amazon could shoot themselves in the foot,” Toohey warns. “If FedEx and UPS are going to be able to support all that volume with two days’ notice, they’ll have to hire people and do logistics. Are they going to get paid for it?”
Prospective buyers of tech high fliers may be asking themselves the same question.
Recalling the 2000 crash, Landis concedes that investors can get hurt in companies like these, but he highlights a difference between now and then – a dearth of opportunities for growth in other assets.
“After a long bull market, there’s nothing to go back to,” he says. “When people take money off the table and look around, they see that gold is played out, at least for now; there’s not much [to make] in bonds, and stocks of old-guard companies aren’t growing that fast.”
“You can go for dividend yield,” he says, “or you can go for growth.”