Net Stocks Have Their Seasons Too
From Fortune........
Why has Net usage slipped recently? Hey, normal human beings like to spend some time outdoors in spring and summer.
Bethany McLean
In recent months the action in the Internet sector has provided a whole new definition for the word "volatility." Since their April highs, eBay, Amazon.com, Yahoo, AOL, and E*Trade have combined losses of almost $150 billion in market value. It used to be that when Wall Street analysts set sky-high price targets, Net stocks covered half the distance in a single trading day. Now the movement is just as likely to be down. The euphoria is gone.
One reason for the ups and downs--as investors have known for a while--is that Internet companies are no more immune than others to such old-fashioned factors as rising interest rates, competition, and oversupply. (So far this year some 134 dot.coms have gone public, raising almost $12 billion, says Securities Data.) But a less discussed issue has some stock watchers equally concerned: Words like "seasonality" have begun creeping into the Internet vocabulary. Seasonality, says Bob Turner, chief investment officer of Turner Investment Partners, "has had as much of an impact on these stocks as the rise in rates."
While the first cracks in the virtual world began to appear in the spring, concern about seasonality started in the early summer, when data from Media Metrix showed that the number of unique visitors to AOL and Amazon had dropped in April. Then these companies reported second-quarter revenue growth that was not as thrilling as that of the first quarter. (For example, AOL's revenue for the period increased just 10%, vs. a first-quarter gain of 30%.) On top of that, in early August, Greenfield Online, an Internet market research firm, said that the percentage of people with Net access who make purchases from Websites declined slightly in the second quarter, from 74% to 71%. A report by online brokerage analyst Bill Burnham of CSFB set off a furor when he predicted that upcoming July data would show that online trading volume grew only slightly that month and could actually decline in the third quarter. And iVillage CEO Candice Carpenter actually used the "S" word, talking on CNBC about a "seasonal slowdown" in her business.
None of this is all that shocking. It's perfectly reasonable that normal human beings would spend more time outdoors in spring and summer and less time hunched over their computers, whether to buy something online or to trade stocks. And compared with offline retail's 4% annual growth, Amazon's 7% revenue growth in the second quarter alone looks pretty astounding. Exclaims James McQuivey, a senior analyst at Forrester Research: "Even if there is a summer slowdown, these businesses are still growing faster than any other industry!" For that matter, McQuivey says Greenfield's numbers actually indicate that once all those offline folks get online, an incredible 70% of them will buy something. So are the worriers overreacting? "You cannot make one or two months' numbers into a trend," says Alexander Cheung, manager of the Monument Internet fund.
But the worriers may have a point. Usually, when a new industry is born, the growth is so dramatic for such a long time that it masks seasonal variations due to, say, summer vacations or holiday shopping. But "Net stocks have grown so fast that they've developed cyclicality faster than the typical new industry," says Matt Rich, a partner at hedge fund Kauser Capital. And that fast development is ripping off their mask prematurely.
Cynics also say the slowdown may mean that some online markets aren't potentially so big as everyone thinks. Says David Brady, a portfolio manager at Stein Roe: "If these markets were that huge, you would think that so many people would be [going online] that you wouldn't see any summer slowdown yet."
One thing is certain. As CSFB's Burnham puts it, "Internet businesses are just real-world businesses in disguise." At holiday times, for example, eToys shows the same spike in sales as Toys "R" Us. And as the growth of the Net slows, eToys' growth may look more like the overall toy industry's--in which case, investors may not be willing to pay 100 times revenue for a bricks-and-mortar growth rate. "The single biggest factor driving these stocks is the growth of the Net," says Burnham.
That's exactly why everyone is so nervous. The Net is an entirely new phenomenon, and despite the projections about the number of people who will be online in a decade, the fact is that no one really knows. And even if everyone does do everything over the Net someday, there will still be fluctuations in growth along the way. "It's not going to be a straight line up," says Paul Cook, manager of the Munder NetNet fund. The problem is that maintaining a state of euphoria requires a constant stream of ever-improving news. But that's not how real-world--or virtual--businesses work. |
