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Technology Stocks : Amazon.com, Inc. (AMZN) -- Ignore unavailable to you. Want to Upgrade?

To: Mark Fowler who wrote (41352)	2/20/1999 3:11:00 PM
From: Glenn D. Rudolph	Respond to of 164684

13 advertisers are still spending huge amounts of dollars on the Web (see First USA's $500 million commitment), that the advertising-based business models have enormous back-logs to “fall back” on (see AOL's $1.2 billion back-log), that customers, registered users, and subscribers are all leading indicators of future revenue growth (and all three have been strong; see AOL's 16mm subscriber announcement). What we do know is that, someday, this sector will mature to the point where the Street has enough data points and company-specific metrics to gain comfort (or not) with buying (or selling) these stocks in markets where that might be considered risky today. In the meantime, as we wait for more information with which to discount these companies' ability to grow shareholder value, our rule of thumb is that the leaders of the space should be bought aggressively. As market conditions create the opportunity to build good, sizable positions at levels that make sense (notice we didn't say “at levels that you feel are cheap” since these stocks probably won't ever look cheap enough), we'd be all over AOL, AMZN, and YHOO, and selectively looking at the rest of the Internet universe. Why Increasing Returns Matter To Valuations Many of us on the sell-side have been speaking about the economic concept of increasing returns for a while now, but at times when confidence is low and risk premiums seem extraordinarily high, it helps to re-visit the underlying concept and determine why the dynamic of increasing returns matter to investors. So grab a cup of coffee while we digress into econometrics. Increasing returns is an concept that describes the tendency of players in certain types of markets (knowledge-based as opposed to resource-based) to continually increase their lead over the competition until their market position is unassailable. In effect, increasing returns markets naturally create temporary monopolies (for a definition of temporary monopoly, see “Wordperfect” in the Webster's New College dictionary). These processes are based on mechanisms of positive feedback that tend to reinforce success and exaggerate decline; over time, a small gap in market share between two industry participants can, and often does, become a canyon. In sum, increasing returns business dynamics are extremely powerful to companies that can leverage them. Importantly, increasing returns markets have a handful of characteristics in common with each other: high up-front costs (e.g. brand and/or technology development), customer groove-in (e.g. “stickiness”), and the presence of network effects (e.g. a greater number of users begets a greater number of users). It is our firm belief that many Internet/New Media business models operate under increasing-returns business dynamics. The characteristics described above apply to each of the Internet companies in our universe to some degree and most certainly should weigh in any Internet valuation exercise. Increasing returns are not theoretical; we are already seeing the impact they are having on these companies' P&Ls. Sales and marketing, usually an Internet company's single most important expense line, is also heavily influenced by the dynamics of increasing returns. In the case of AOL, because they have such a large (and happy) subscriber base, the costs of acquiring each incremental new subscriber over time is lower than the previous subscriber, thanks to word-of-mouth buzz, greater leverage with acquisition channel partners (like IBM, Compaq, Dell), and media buying economies of scale. We think the analogy to a software publisher's business model, though somewhat loose fitting, is apt: it