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JANUARY 24, 2001

STREET WISE
By Amey Stone

Alloy: A Savvy Mix of Clicks and Catalogs
Targeting trendy teens online and building a big offline presence has brought the small-cap success. Is only a dour market keeping its stock from soaring?


By Amey Stone


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Here's a riddle for the Internet Age: How do you take three business models that have each been largely discredited as ways to make money on the Web -- community, commerce, and content -- and combine them to make one profitable company?

The answer: Focus on the teen market. And it helps if you have a sizable offline presence. That's the formula that teen site Alloy Online (ALOY ) is using and -- surprise, surprise -- it seems to be working. The company calls itself a "convergence media and marketing company." What it does is sell hot products (that's the commerce) to teens, who congregate on its Web site to read the latest celebrity and music news (that's the content) and interact with each other (that's the community). Bolstering all the online activity -- the site attracts about 1.3 million visitors each month -- is a print catalog mailed monthly to 4 million to 6 million teens.

"I'm not aware of any other company that is bringing together all the elements that Alloy is," says Derek Brown, an analyst with W.R. Hambrecht & Co. who rates Alloy his top small-cap pick. He notes that the company has stuck with the same business model the past four years, brushing off early criticism that it wasn't enough of a Web pure play. "They kept their heads down and built the business brick by brick," says Brown. "Certainly in the era we've just come through, that is a very unique attribute."

VICTIM OF SUCCESS.  Another unusual trait: Alloy expects to be profitable for its fourth quarter, ended Jan. 31. On Jan. 5, it announced that holiday sales were more than double the previous year's levels, and it shipped more than $1 million in merchandise on peak days. It expects to report 2 cents in earnings per share and $35 million in sales for the quarter. The same period a year earlier, it lost 30 cents a share on only $14 million in sales. What about the slowing economy and the weak holiday season? "If it existed, we didn't see it," says Alloy CEO Matthew Diamond.

Revenues this year should total around $85 million, up from $32 million a year earlier. Brown is looking for $140 million in sales next year and $210 million the year after that. Alloy generates most of its revenues from sales of trendy clothing and accessories but has a growing chunk of high-margin advertising revenue. Gross margins for its total business are around 50%, and advertising margins are better than 90%. "For them, that just flows right to the bottom line," says BlueStone Capital analyst Kathleen Heaney.

Despite Alloy's notable success in a blighted field of consumer dot-coms, investors aren't excited about the stock. The shares have traded in a narrow range between $6 and $8 since last August, which really isn't half-bad given the steep decline most Web stocks have suffered in that time. "Its success has been recognized because it isn't $1 [a share] like everyone else," says Heaney. Although the stock may get a bounce when it reports profits, it will take a change in market sentiment for it to really move. Rather than soaring on good news, Heaney expects it to "just progressively go higher."

"DIG OR DIS."  Has Alloy found the new-media model of the future? Perhaps. "If you look at a lot of the practices that have turned out to make sense -- such as using a catalog to market yourself -- then the guys that are managing this company have been right on," says Sasha Kostadinov, an analyst with McDonald Investments who has a $20-a-share price target on Alloy.

But Alloy's strategy may not work as well for others, since much of the company's success comes from targeting the Gen Y audience. Not only are the Gen Yers very Web-savvy but they're also at an age when they care deeply about owning the trendiest merchandise. Plus, teens are eager to interact with each other and happy to weigh in on almost any topic where their opinion is sought. For example, the site has a "Dig or Dis" area, where users vote on new products. It uses the feedback to tailor its inventory to users' tastes and stay ahead of trends. "The feedback we get is critical," says Diamond. "To me, the site is market research," he says.

For advertisers, the ability to tap into the hard-to-reach teen market is critical. "They want to get kids at this age, when they are forming brand loyalties," says Heaney. She also gives Alloy credit for smart deals -- such as selling a 14% stake to Liberty Media and a recently announced marketing partnership with Sam Goody, where Alloy is getting in-store exposure in exchange for giving Sam Goody online visibility.

Alloy's blend of the Web and print catalogs is so effective that other e-commerce sites, including Amazon.com, are trying catalogs. But Diamond believes this strategy works so well because it was part of the brand from the beginning. "To teenagers, Alloy is the place to 'See cool stuff and buy what I want,'" he says. Alloy recently acquired CCS, an edgier catalog and Web site geared to skateboarding that appeals more to teen boys.

STAYING COOL.  An additional reason other sites may not be able to emulate Alloy's success: Analysts give most of the credit to its management, which has skillfully avoided the pitfalls that have sunk other Internet ventures. Its executives didn't waste money early on. Rather than spend $3 million on a one-year America Online partnership, for example, they were able to launch the print catalog with a few hundred thousand dollars, says Diamond. Now, the catalog promotes the Web site and the Web site generates names and addresses for the catalog.

"These guys have made some really smart moves," says Darren Chervitz, an analyst with Jacob Asset Management, which doesn't own the stock. "But it's tough to stay cool. Young people are not the most loyal bunch." To be sure, as for any small, fast-growing company, one profitable quarter doesn't guarantee success. But with skilled management and a model that could allow it to stay on top of teen trends, the company has a shot at a very large market. For investors that still have faith in the dot-com dream, that makes Alloy a stock to consider.

Brown, for one is convinced. "I think the cream will rise to the top, as investors start to look for underappreciated names that have a very real opportunity in front of them," he says. "This is certainly a name that will come to the forefront."


Stone is an associate editor for Business Week Online
 Edited by Beth Belton
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