By Suzanne Galante
Staff Reporter
7/1/98 1:50 PM ET
SAN FRANCISCO -- Are Internet investors smoking crack? Yes, these
are the days in which that's a common refrain.
At the heart of the addiction to Net stocks is Amazon.com
(AMZN:Nasdaq). After its stock more than doubled in June, the company
reached a remarkable milestone last week -- a $5 billion market cap. That
values Amazon at nearly twice its leading competitor, Barnes & Noble
(BKS:NYSE) -- despite the fact that Barnes & Noble's 1997 revenues
were 19 times that of Amazon.com's $147.8 million. The latter was
also in the hole to the tune of 64 cents a share, while B&N posted profits
of 96 cents a share.
But lately, investors seem to be kicking the habit -- and Amazon.com
seems to be shifting its business model. Add to that increasing
competition, a seasonally slow summer quarter and Amazon's race to
add to its 2.5 million loyal customers. All that, according to analysts, is
going to put some real pressure on the company's seemingly weightless
stock, which was up another 5 1/4 to 105 Wednesday afternoon.
As a virtual bookstore Amazon hasn't had to carry much inventory. The
company collected payments and then paid distributors. But that
unbeatable model has been slipping away. Over the past year, the
company has been building up a physical presence by ramping up its
inventories and expanding distribution centers. It now has two
distribution centers boasting more than 280,000 square feet of space,
according to a spokeswoman.
Why should investors care? If Amazon.com flip-flops from its current
model and brings more business in house, it "could have tremendous
cash issues because they will have to pay before you order the books,"
said Christina Michael, a portfolio manager at Zak Capital, who has no
position on Amazon but is long Barnes & Noble.
This new model has some benefits, but it increases risk, said Genni
Combes, a senior research analyst at Hambrecht & Quist. "By
stocking more inventory ... Amazon is looking to expand gross margins,"
said Combes, noting the risk associated with added inventory because
the company has to put up some capital upfront. "It is all about asset
management, and it becomes a risk if the books don't sell as expected."
For the most recent quarter ended in March, inventory accounted for
$11.7 million, or 9% of Amazon's $132.9 million in current assets. That's
up from $9 million, or 6.5% of December quarter-end current assets of
$137.3 million. Looking back to the June quarter a year ago,
Amazon.com had just $1.7 million in inventory, representing 3% of
then-current assets of $59.2 million.
But Combes, whose firm participated in Amazon.com's May 1997 initial
public offering, was quick to point out that Amazon has put the
management team in place to handle the increase in books on hand, and
in the long term this model could help the company expand earnings by
eliminating the distributor's cut of its profits, she said. And that will likely
expand gross margins.
Good luck. In a recent filing with the Securities and Exchange
Commission, the company warned that its move into the music
business will hurt gross margins, as music sells at a smaller markup.
"I don't believe they can grow fast enough to justify the stock price,"
says Dain Rauscher Wessels analyst Mitch Bartlett, who
downgraded Amazon to neutral from buy last Friday, noting its high
stock price and a seasonal retail downturn. "They would have to grow
at 100% for next three years" to warrant the current price.
At the end of the most recent quarter, Amazon.com said it had 2.3 million
customer accounts, a 50% rise from 1.5 million accounts at the end of
the December quarter. Repeat customer orders represented more than
60% of orders placed during the March period.
"They were first and the biggest and baddest, but the cost to acquire
the next 2.5 million users goes straight up from here," said Bartlett,
noting that while acquiring a user has cost the bookseller about $15 up
till now, that cost will rise to $25 to $30 with more players crowding the
space.
Zak Capital's Michael said, "A lot of people make too much of first to
market and anyone who thinks the Internet is mature is lying to
themselves. The Internet is quicker to develop, so winners and losers
will get sorted out quicker, but in the long run, think about CompuServe
or Prodigy." Those services were first but now consumers typically go
to America Online (AOL:NYSE), she said.
Bartlett estimated that Amazon and Barnes & Noble will each spend
about $50 million in marketing this year to attract new users, heating the
fight for customers.
Another downer is that after shelling out millions for exclusive real
estate on Internet portals, or search engines, such as Yahoo
(YHOO:Nasdaq), Amazon hasn't seen the results it expected and is
suffering with low click-through rates. "The return on investment has
been very poor," said Bartlett, who believes that after the three-year
agreements expire, e-commerce players will go offline to traditional
media for advertising.
But for now, Net stock investors seem to be taking a moment to inhale. |
