Is Care.com Fairly Valued?

Care.com jumped big on the day of its IPO, but even after a 43% gain, it might still have a favorable valuation to dot-com peers Facebook , Twitter , Yelp , and LinkedIn . But, aside from possibly being cheaper, are there other reasons to invest in Care.com over its peers?

The standard for dot-com valuations
An effective IPO is measured by its ability to raise money for the company at a high price, while also leaving money on the table for new investors. Facebook was criticized after many believed its IPO was priced too high, and while Twitter was priced with an obscene multiple, it turns out that investors were willing to pay, making it a good IPO.

The standard of a good dot-com IPO is high price/sales multiples, which are often figured based on the growth rate of the company. This logic might explain why Twitter was priced so high and why investors were willing to pay higher multiples.

To explain, look at the chart below, which shows current price/sales multiples, revenue growth rates for the last year, and expected growth rates for 2014.

The above chart is easy to assess -- the company with the fastest growth also has the highest sales multiple.

Why are sales so important? Most of these dot-com companies are still in their growth phase, meaning that margins aren't a true reflection of how profitable these companies could ultimately become. Notice that Facebook trades with a greater multiple than LinkedIn, but LinkedIn's growth is slightly more aggressive. This is where margins have some impact on the valuations of these companies.

LinkedIn has operating margins of only 4.5% and continues to invest heavily in both sales and marketing and research and development. Meanwhile, Facebook has operating margins of 33.5%, as it has reached a point in its business cycle where year-over-year spending is accelerating at a slower pace and margins are rising.

Therefore, investors have given Facebook a slight nod over LinkedIn, but clearly, this weight is not nearly as evident as the impact of sales growth.

The new kid on the block
For the most part, dot-com IPOs have all followed the same valuation model with very few exceptions.

However, Care.com, which became public last Friday, soared 43% on its IPO. Care.com is a network of caregivers and families that can connect via the site. Care.com creates the majority of its revenue via memberships. Care.com's "families" join the site to find child care, nannies, senior care, pet care, special needs, and tutoring. Care.com claims to have 9.7 million members, with the balance of families to caregivers being 5.2:4.5, thus creating a very healthy supply and demand. But, most importantly, Care.com is growing rapidly.

After its 43% IPO rally, Care.com now trades with a market cap of $720 million. According to its prospectus, the company has trailing 12-month revenue of $74.9 million, which equates to a price/sales ratio of 9.6.

Clearly, 9.6 times sales is far less than what's seen with Facebook, LinkedIn, Twitter, or Yelp. Therefore, assume that Care.com has either less growth or, as seen with Facebook and LinkedIn, it's spending a great deal of money to create growth, thus creating a smaller multiple.

Not so fast
In reality, however, neither apply. Care.com grew 81% year-over-year in the first nine months of 2013, and while current analyst coverage is minimal, early filings imply that growth in the range of 50%-65% is sustainable for 2014.

Furthermore, and perhaps most impressive, in the first nine months of 2013, Care.com's sales and marketing expenses increased just 23.5% year-over-year, which is well below its growth rate. Compared to Yelp, a company that might be closest in size and growth rate, its expenses during the same period and category soared 40%. While 40% is still below Yelp's growth rate, it is nowhere near the discount that Care.com has produced.

Final thoughts
One major difference between today's dot-com stocks and those of the late 90s is the fundamentals. Today's dot-com companies have real revenue and growth, but this doesn't mean that valuations aren't just as extreme, relative to dot-com stocks of the past.

Care.com might be an exception, a company that underwriters and Wall Street incorrectly valued at a deep discount to its industry-peers. Looking ahead, the market for Care.com is huge, and as its already proven, there is room to expand and offer new jobs in different categories to attract new families. As a result, the future looks quite bright for Care.com, and investors might find it to be a great opportunity for the future, one with a lot of upside left on the table for retail investors.