Heard on the Street
Web-Gear Firms Show Signs
Of Drawing 'Internuts' Mania
By SUSAN PULLIAM and TERZAH EWING
Staff Reporters of THE WALL STREET JOURNAL
Sure, at least some of the air has been let out of the
Internet bubble. But a mini-bubble has emerged in recent
weeks to take its place.
The new mania? Companies that provide the hardware
and software to Internet concerns themselves. And the
craze to buy the equipment companies that provide the
switches and networks for the Web is beginning to show
some of the hallmarks of the mania that led the bigger,
and more familiar, Internet stocks into the stratosphere
this spring.
Consider the explosive rise in the shares of Juniper
Networks, which provides Internet infrastructure
systems. Its shares have rocketed to 206.8125 from 138
on July 20. At Wednesday's close, Juniper is trading at a
multiple of more than 136 times projections for this
year's sales. It is anyone's guess when it will turn a
profit. From its IPO, the stock has sextupled.
Meantime,
many new
issues have
zoomed,
even as the
overall
market for
IPOs has
hit the
skids. Red
Hat Inc.
climbed from its IPO price of $14 last week to a high of
$90.6875. Wednesday it closed at 71.50, up 4.25.
SilverStream Software Inc., which nearly doubled on its
first trading day Tuesday, fell back 20% Wednesday, or
6.3125, to 25.1875. Since its late July offering, Gadzoox
Networks, a computer-networking company, has soared
to 78.50 from its offering price of $44.375.
Redback Networks traded at 150 late last month;
Wednesday, its shares closed at 212.25. Redback's
valuations are the variety that are possible only in
dot-com land: It is trading at 88 times this year's
projected sales and has seen a ninefold run-up since its
offering. Its market value at Wednesday's closing price
is $4.5 billion.
Here is the theory behind the Internet-infrastructure
craze. Net service providers are being forced to upgrade
their technology to accommodate the huge growth in the
number of Internet users. "The Internet needs to get to a
level of scale that it didn't need before. Right now there
are a couple of hundred million users on the Internet, and
traffic is doubling every 100 days [meaning the number
of people using the Internet at any one time]. The Internet
was designed for one level of usage, and we've gone
way beyond that," says Credit Suisse First Boston
analyst Paul Weinstein.
The upshot: a need for more of the chips, wires and
software that Internet so-called infrastructure companies
provide.
But along with these red-hot valuations on equipment
and software stocks have come red flags. Says Kenneth
Heebner, portfolio manager at Capital Growth
Management: "There are two things investors are
ignoring here: There is no way they can grow into this
valuation. And there is going to be competition." That's
particularly so, he says, with access to capital so freely
available from venture capitalists and the public
markets.
Even if Juniper were (by some miracle) able to begin
earning $30 million this year, for instance, it still would
trade at 300 times earnings at its current valuation.
"Work the arithmetic," Mr. Heebner says. "There is no
way the earnings can get high enough to support this
valuation."
Still, flashbacks to the earlier, heady days of Net stocks
abound. Remember when analysts would set price
targets for Internet favorites, like Amazon.com, that
would be surpassed within days? They are having the
same problem again. On July 27, Mr. Weinstein initiated
coverage of Juniper Networks with a one-to-two-year
price target of 200.
Instead of two years, it took only two weeks for Juniper
to blow through that target. That is what is called
"Internet time."
Mind you, Mr. Weinstein doesn't plan to downgrade
Juniper from a strong buy anytime soon. To the contrary,
he says: "As long as they keep beating expectations, I'll
keep raising my price target. People want to own
infrastructure stocks because we are at the front end of
the cycle, and it's a multiyear, durable cycle."
Yet the popularity of Net infrastructure companies could
turn on a dime. Indeed, e-commerce stocks got a sudden
boost Wednesday after Merrill Lynch analyst Henry
Blodget told clients in a conference call that he believes
sentiment is turning back toward those issues. That could
be bad news for infrastructure.
"We are throwing our hat into the ring," Mr. Blodget
said. He advised buying some down-and-out Internet
retailers, including Amazon.com, Barnesandnoble.com
and eToys, along with service providers such as America
Online and Yahoo!, on the theory that they will benefit
from a strong back-to-school and holiday season.
"This has been a rocky summer for this sector. But if you
are committed to holding until December and you buy
them at this level, you'll probably make significant
money," Mr. Blodget said. He even put together a
"holiday basket" with eight Internet stocks he thinks will
"benefit disproportionately from strength" in the sector
later this year. His list included not only Yahoo,
Amazon.com, America Online and Barnesandnoble.com,
but also eToys, Lycos, Excite At Home and Inktomi.
Mr. Blodget's picks got a lift Wednesday amid an
overall rally in Internet stocks. Yahoo closed at
145.0625, up 6.1875; Inktomi closed at 119, up 3;
Amazon.com closed at 113.125, up 3.875.
But some investors insist not all e-commerce stocks will
bounce back from their fall this summer. One big
manager, for instance, says he believes certain Internet
retailers -- such as OnSale, which has slid to 16.25 from
a peak of 108 -- are unlikely to come anywhere near
their old highs.
So far this year, IPOs of Net infrastructure companies
have outperformed their e-commerce counterparts. The
94 nonretail Net IPOs this year are up an average of
71% through Tuesday from their offering prices,
according to Thomson Financial Securities Data. The 40
Net retailers, meanwhile, have seen their shares rise by
only 28.3%.
The argument for Internet infrastructure companies
nevertheless has struck a chord among some institutional
investors. Jay Tracey, a small-capitalization mutual-fund
manager at OppenheimerFunds and an avowed believer
in the future of the Internet, says he favors equipment and
software concerns over e-commerce companies because
they represent a more general bet on the Net.
If a company leads the market in network-oriented
equipment or software that performs an e-business
function more efficiently, he notes, that company will
have as customers "not only dot-coms flush with cash but
also Fortune 500 companies eager to compete on the
Net." |
