Like magpies, investors are often drawn to shiny things that glitter but turn out to be glass, not diamonds. Idea of the Week frequently focuses on valuation issues, trying to ascertain what is discounted in current valuations and whether that judgment is fair in light of company and industry dynamics. The challenge is most acute with companies that forge new ground and are “disruptive innovators,” or companies simply creating new markets. We look at online diamond jewelry retailer Blue Nile (NILE.O).
You can’t walk into a Blue Nile store and pick out an engagement ring. Based in Seattle, Blue Nile was established in 1999 as an online retailer of fine jewelry, specializing in diamonds. It went public in 2004 at $20.50 per share and the stock has gone from strength to strength. It’s shown a bit of weakness in recent years, but stands at double its IPO price. (See chart below.) Blue Nile seems to have found a Web niche not yet dominated by Amazon (AMZN.O)
Looking at valuation
Blue Nile wins few points from a valuation standpoint – trading at three times the StarMine IV model’s valuation and at a forward 12 month P/E of 43.1. (Although the stock has a long track record of looking expensive, its P/E is about in line with its 10-year median of 41.5.)
The shorts like it
The valuation has clearly attracted the attention of the hedge fund community; the short interest model scores Blue Nile in the bottom decile – translating to about 18.5% of the available stock being held in short positions. Looking at the chart below, however, it appears NILE is a perennial favourite of the shorts and current levels are perhaps less concerning in this context. Looking at short term earnings forecasts – the StarMine SmartEstimate is flat for the next quarter (the number is 0.4% below the IBES consensus, which isn’t statistically significant). However when you look out to the second quarter (Mar ’14), there’s a large positive Predicted Surprise– currently +5.9%. This also means there’s a strong likelihood of the consensus drifting higher as the quarter gets closer.
Does it sparkle?
NILE is an interesting stock – clearly focused on capturing the attention of the tech-savvy consumer who is happy to make big-ticket purchases online – yet trading at a fraction of the valuation of the bigger/better known names. It’s also trading at a significant multiple to the overall market and is not for the fainthearted – but certainly offers a structural growth story in a sector that still relies primarily on bricks and mortar. With a valuation at a fraction of some of the bigger players in the online retail space – NILE may offer an investment that’s like its diamonds – tops in cut, color and clarity.
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