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Is Amazon Overvalued?

Contributed by mm | October 21, 2003 4:08 PM PST

SmartMoney has an interesting story in its Price Check column about Amazon. It explores value of Amazon in four valuation methods:

1) Ben Graham's Formula: P/E = 8.5 + 2G (G = annual earning growth rate). By putting G = 25%, the valuation is $33.35.

2) Discounted Cash Flow: the article uses the calculator from MoneyChimp.com with the following aggressive assumptions:

- EPS = 0.57 (consensus estimate)
- EPS to grow 25% for 10 years, with a stable growth rate of 4% thereafter
- Discounted at 10%

Valuation = $47.78

3) Capital Asset Pricing Model: Risk-adjusted discount rate = risk-free rate + beta * (benchmark rate - risk-free rate)

Amazon.com is too volatile in recent years so its three year beta is actually 2.6. The article uses a judgment call to set the beta as 1.2 (which is reasonable as Amazon is definitely more risky than the overall market). Assuming the risk-free rate to be 10-year treasury yield, the risk-adjusted discount rate is set to be 11.12%, which brings the valuation in DCF calcuation to be $38.54.

4) The Damodaran Method: Valuation = $36.42.

The article concludes that Amazon is significantly overvalued, which I concur. However, it's hard to short this market favorite now. I'm considering to buy put options sometime to play this game.

Also the calculators are pretty interesting. I decide to use them to examine my current holdings after this round of quarterly releases.

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