DECEMBER 13, 1999 "It's not mania -- it's manna." -Barron's
Loss Leaders
By Rhonda Brammer
Mania.
Who said mania? Bite your tongue. What you recklessly dub as mania is simply the marvel of New Age investing.
No argument that VA Linux Systems had a nice little pop on its first day of trading. Offered at $30, the shares closed Thursday at $239. In the process, the firm was endowed with a stock-market value of nearly $10 billion. Roughly equivalent to that of Southwest Airlines, Ralston Purina or Deere.
And, we say, a very fair valuation.
Predictably, Luddite investors trapped in the Old Era (or is it Old Error?) howled that it was absurd and probably immoral to place so rich a value on a company that over the past year, on revenues of $30 million (yes, that's million), managed to lose $24 million. Nothing proprietary either, they cried, in peddling Linux-based computers. Giants like IBM, Dell -- you name 'em -- already sell them.
In its parabolic rise, VA Linux is merely following in the moonbeam of Red Hat, a distributor of the free operating system called Linux. Red Hat, too, is losing money. Its shares, which came public in August at $14, closed Friday at $273.
Both dramatically illustrate that to outperform an index -- and we mean to bury the Dow, say, or the S&P -- investors must pay heed to the wisdom of Salomon Smith Barney strategist L. Keith Mullins and buy shares of those companies, and only those companies, that are losing money.
Losses are what count. Losses, not earnings, are the new yardstick of value.
The beauty of the likes of Red Hat and VA Linux is that you count on them to show losses from here to infinity -- which is why their stocks deserve infinite multiples.
After all, as the fervid fans of Linux have boasted for years, the whole idea of its free software is to remove Microsoft-style profits from the operating-systems business forever.
Minuscule revenues and generous portions of red ink no doubt also explain the remarkable rocket launch of FreeMarkets on Friday, which was priced at $48 (original estimate: $14-$16), opened at $248 and, last we looked, was trading at $290, flashing a market cap of $9.8 billion.
It's not mania -- it's manna.
Pity the poor investor who owns an S&P 500 Index fund. While an index like the Nasdaq 100 has blitzed ahead 70%-plus so far this year, the S&P is up a ho-hum 15%.
The problem is that the S&P folks have strived mightily to, in their own words, "add companies to the Index that are relatively stable and will keep turnover low."
So, in years past, they've loaded up on companies that produce such prehistoric stuff as chemicals, oil, minerals -- or that sell mundane things like insurance and underwear.
Lately, though, S&P has seen the light. In place of TransAmerica, it gives the world Qualcomm; Nalco Chemical is replaced by ADC Telecommunications; Asarco by Comverse Technology; Mobil by Citrix Systems; and Fruit of the Loom is shed for Adaptec.
The greatest coup for the postmodern index revisionists came last week when stodgy old Laidlaw, operator of school buses and Greyhound lines, was dumped in favor of the Internet bellwether, Yahoo.
Already up 68 points in the five previous sessions, on Tuesday, just prior to its entry into the 500, Yahoo jumped another 67 points, gaining 24% in a day! Some 66 million shares, or roughly two-thirds its entire float, changed hands.
Alan Newman, a saavy technical analyst and editor of HD Brous & Co.'s Crosscurrents, points out that in one session, Yahoo traded a dollar amount equal to 86% of the day's total GDP. Next week, 100%?
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