WSJ: "For Some Internet Companies, The Bubble Has Already Burst"
By GREG IP
Staff Reporter of THE WALL STREET JOURNAL
If you are waiting for the Internet-stock bubble to burst, look closely: In
many ways, it already has. Repeatedly. Despite the sector's youth, the
Internet has already seen some spectacular flameouts -- like Spyglass,
pioneer of Web browsers, and CompuServe, which once led America
Online in Internet services.
In fact, a strikingly large share of Internet stocks have flopped. But that
has been obscured by the spectacular performance of some winners. The
lesson? The current Internet mania may not be a single bubble, but a series
of bubbles. Many are going to pop, but others will expand further as the
rapidly shifting industry elevates winners and spits out losers.
Certainly, the huge advance in recent months
of Internet stocks with little earnings or sales
for support makes them ripe for a violent
correction at any point. If the Chicago Board
Options Exchange's Internet index fell 50% Monday, it would still be
double its year-earlier level.
As Byron Wien, U.S. investment strategist at Morgan Stanley Dean
Witter, notes, when Internet stocks correct, it could be from even higher
levels than today's. It's "very much a momentum market. People buy the
stocks that are going up. As long as the market stays hospitable, what's
working is likely to go higher."
On Friday, the Dow Jones Industrial Average rose 77.50 points, or
0.84%, to 9358.83, up 238 points for the week. And the Nasdaq
Composite Index, home of most Internet stocks, topped 2500 for the first
time, closing at 2505.89, up 1.15%.
Class of '96
Performance of Internet commerce stocks that went public in
1996
Stock
Change Since
IPO
Change Since First
Day Trading
E*Trade Group
+951%
+881%
BroadVision
+498
+487
Check Point Software
+246
+102
Axent Technologies
+143
+81
Sterling Commerce
+79
+48
Security First
Technologies
+65
-20
CyberCash
-4
-42
First Virtual Holdings*
- 8
-8
Open Market
-18
-63
V-ONE
-33
-33
Edify
-43
-75
Cylink
-77
-84
*Now MessageMedia
Source: Credit Suisse First Boston, WSJ research
Ultimately some Internet companies are going to emerge as even more
valuable than they are today, while the majority end up as footnotes of
history.
"Almost every great industry in America was built on the back of a Wall
Street mania: the canals in the early 1800s, the railroads, automobiles,
aerospace and early computers," says Roger McNamee, general partner
at Integral Capital Partners, a Menlo Park, Calif., investment firm
specializing in technology. "The result is that a huge number of companies
that are participants in the mania don't wind up being there when the
industry becomes a central force in the economy."
The signs are already present. Bill Burnham, electronic commerce analyst
at Credit Suisse First Boston, examined the performance of 12
Internet-commerce companies that had initial public stock offerings in
1996, when the euphoria for Internet stocks was similar to, if less extreme
than, today.
"These companies have had to deliver on the hype and promise they so
assiduously cultivated back in the heady times of 1996," Mr. Burnham said
in his December report.
His conclusion: Most failed to deliver. As of Friday, six of the 12 were
below their IPO prices, and seven below their closing price on the first
trading day, normally the average investor's first chance to buy the stock.
Mr. Burnham also found that the most spectacular IPOs --
electronic-banking software company Edify and Internet commerce
software company Open Market, which both doubled on their first day --
were among the worst performers. E*Trade Group and BroadVision, on
the other hand, had subdued first days but now are both up more than
fivefold. Mr. Burnham concludes that first-day price jumps create
expectations that are almost impossible to meet.
An analysis by Piper Jaffray of 86 Internet-related IPOs, a handful of
which date back to the early 1990s and 1980s, found that as of Jan. 13
about one-third were trading below their first-day price. The median
stock's performance was only as good as that of the Nasdaq composite
overall.
The rapid rise and fall of Internet stocks simply reflects the industry.
"Internet things move quickly," says Michael Moe, director of global
growth stock research at Merrill Lynch. "Something that seems to be dead
on today could seem completely misplaced tomorrow." Mr. McNamee
says, "If you go back to 1996, everything we knew about the Internet then
turned out not to be true. We thought browsers were incredibly important,
that ISPs [Internet service providers] were really valuable. Now we know
it's portals [such as Yahoo!] are where all the value is. My guess is 10
years from now that assumption will also be tossed out the window."
Spyglass is often credited with developing the first browser. It went public
at $8.50 (split-adjusted) a share in June 1995, rocketed as high as 60 1/2
that year, giving it a market value of $700 million, before plummeting
below $5 a year ago. It has tried to reinvent itself, but is still losing money.
It closed Friday at 12 9/16.
Netscape Communications made headlines with its spectacular IPO in
August 1995, at $14 (split-adjusted). It shot as high as $87, giving it a
market value of $7 billion. Its stock began to slide as the company came
under the onslaught of Microsoft Corp., and the share price sank to below
$15 last year. Its stock has rallied back to 73 13/16 because it is tied via a
merger agreement to the stock of AOL.
When CompuServe went public at $30 in early 1996, it had been
profitable for several years while AOL had just broken into the black.
CompuServe was soon left behind by AOL and was eventually acquired
by AOL and WorldCom with its stock at $14 in early 1998.
The CompuServe-AOL contest illustrates the danger of assuming
traditional rules will govern success in the market. Alan Lowenstein, a
portfolio manager for John Hancock Global Technology Fund, recalls
several years ago his 15-year-old son and friends joining AOL.
"If all these kids are doing it, there's something there," he figured. He
bought the stock for $12, unperturbed by the fact the company was losing
money. "If you're signing up so many subscribers every quarter, I don't
mind losing money because at a certain point the cash flow comes in and
then the earnings." AOL closed Friday at 175 3/4, giving it a market value
of $80.5 billion -- more than Ford Motor.
Mr. Moe notes AOL has had skeptics since its market value was $500
million. "That's a lot of wrong."
While it's clear manias are nothing new to Internet stocks, hedge fund
manager William Fleckenstein notes: "The level of hype then versus now is
not even comparable. We didn't have five million people trading online two
years ago."
Even fans of Internet stocks agree a shakeout is coming. David
Readerman, director of Internet research at Thomas Weisel Partners, a
merchant bank in San Francisco, said, "The Darwinian principles come
into play when you see a slight downward inflection in growth rates: when
the growth of page views begins to slow and other sort of tracking metrics.
Then the survival of the fittest begins to take place." He predicted that a
few years from now, only half the current Internet companies would still
exist and of those, only a quarter would be at or above today's prices.
But that doesn't mean in aggregate they'll be a losing investment. Look at
what happened to the 12 IPOs in the Internet class of 1996 examined by
Mr. Burnham of First Boston. An investor who bought the same dollar
amount of each stock at the first-day closing price would have doubled his
total investment by now: The gain in E*Trade alone would have made up
for all the losers.
Friday's Market Activity
Stocks rallied, lifting the Standard & Poor's 500-stock index and the
Nasdaq Composite to records. The Dow Jones Industrial Average
wavered throughout the session, but did manage to finish higher, ahead
77.50 points, or 0.84%, to 9358.83.
The S&P 500 gained 14.27, or
1.13%, to end at 1279.64, topping
the 1275.09 that had stood since
Jan. 8. The Nasdaq Composite
topped 2500 on a closing basis for
the first time, rising 28.55, or
1.15%, to 2505.89.
For January, the Dow industrials
ended up 1.9%, the S&P 500 rose
4.1% and the Nasdaq Composite
gained 14.28%.
That bodes well for the year, given the traditional rule of thumb that as
goes January, so usually goes the year.
Airline stocks rallied on the prospect of higher ticket prices. Northwest
Airlines gained 4 1/8 to 27 3/8 on Nasdaq, after the air carrier boosted its
business and leisure fares in a move seen as a harbinger of the first
industrywide fare increase in 16 months. The Dow Jones Transportation
Average gained 4%.
Eastman Kodak gained 1 13/16 to 65 3/8, after Goldman Sachs raised its
rating on the stock, and said the stock price could reach 85 in 12 months.
Technology issues boosted the Dow industrials as International Business
Machines rose 4 9/16 to 183 1/4 and Hewlett-Packard, which also won
some kudos from Goldman Sachs, gained 4 1/2 to 78 3/8.
"I continue to be confounded by the narrowness of these moves up," said
Todd Clark, head of listed equity trading at Schwab Capital Markets.
In fact, several very familiar names are doing most of the heavy lifting. Dell
Computer gained 5 13/16 to 100 on Nasdaq, a 52-week high. Intel
gained an additional 3 3/4 to 140 15/16 on Nasdaq. Drug stocks
continued strong, with Merck up 4 5/16 to 146 3/4, and Eli Lilly adding 1
7/16 to 93 11/16, reaching a 52-week high.
Pharmaceuticals leader Amgen posted strong fourth-quarter earnings late
Thursday, and announced plans to split its stock. A host of analysts raised
ratings on the issue, which rose 8 1/4 to 127 13/16, a 52-week high.
Among blue chips, Procter & Gamble was a winner, even though the
consumer products group had a mixed session. Shares of P&G gained 3
1/16 to 90 7/8.
Gillette improved, adding 1 1/2 to 58 1/2, after its fourth-quarter earnings,
released late Thursday, matched Wall Street's forecasts, prompting a host
of analysts to raise their investment rating on the stock.
Kellogg fell 1 7/16 to 40 5/8. The cereal maker's fourth-quarter earnings
matched Wall Street's expectations.
Solutia lost 2 1/16 to 19 1/4, even though the chemicals and fiber products
maker's fourth-quarter profit topped Wall Street's forecasts. The company
also said that its chief executive officer, Robert Potter, was stepping down
in favor of President John Hunter.
Eastman Chemical declined 1 3/8 to 40 5/8. The Kingsport, Tenn.,
chemical maker reported first-quarter results that were a little stronger than
analysts were anticipating, though those numbers were weaker in
comparison with year-earlier results.
Herman Miller dropped 5 1/16 to 18 15/16 on Nasdaq. The Zeeland,
Mich., office furniture maker warned that its fiscal third-quarter earnings
will fall short of analysts' forecasts.
LSI Logic gained 3 3/16 to 27 15/16. The Milpitas, Calif., chip maker
reported fourth-quarter results that were a little stronger than analysts were
anticipating. Analysts at a host of Wall Street firms boosted their ratings on
the stock.
PeopleSoft lost 2 5/8 to 19 13/16 on Nasdaq. The application software
developer reported fourth-quarter results late Thursday that fell short of
what Wall Street anticipated, and the company said it would cut 6% of its
work force. BancBoston lowered its rating on the stock.
Heico lost 7/8 to 27 1/8 in its first day of trading on the New York Stock
Exchange. The Hollywood, Fla., maker of aviation parts moved from the
American Stock Exchange.
Starbucks moved up 3 1/8 to 52 1/16 on Nasdaq. The Seattle coffee
retailer reported that January same-store sales rose 6%.
--Robert O'Brien
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