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STREET WISE By Sam Jaffe September 23, 1999


Suddenly for Web Companies, Profitability Matters
Wall Street is starting to reward those that make money -- and punish those that don't

Every quarter, during the conference call with analysts to discuss his company's financial performance, Amazon.com (AMZN) CEO Jeff Bezos finds that the first question is almost always: When will you become profitable? The answer is always the same, too: "We have no reason to believe that we will reach profitability in the near future."

Such a declaration from a CEO in any other industry would cause the company's stock to drop. But investors in Amazon.com, along with most other Internet companies, haven't shown the least alarm. "If Amazon.com were to show a profit tomorrow, I would sell the stock immediately," says Robert Loest, manager of the IPS Millennium fund (IPSMX), which holds Amazon.com. "It has no business making a profit now. It needs to concentrate on investing in an enormous opportunity that it will never face again. When it becomes a mature business, then it can start making money."

While investors are happy to wait for Amazon.com, at least for now, time may be running out for many other money-losing Net stocks. "Wall Street demands profits now," says Faye Landes, an analyst with Thomas Weisel Partners. "We take it very seriously. We can't wait forever anymore."

"GETTING IMPATIENT". In fact, the summer-long decline in Net stocks that saw many of them lose half their market value had a lot to do with the lack of earnings. "The downturn was due to people getting impatient with companies' income statements," says Paul Cook, manager of the Munder NetNet fund (MNNCX). "There's a set of investors out there who have become disenchanted with the lack of profits, and they aren't coming back until these companies start turning corners."

As long as that's the psychology, it will be hard for Internet stocks as a group to make another charge at the highs they reached earlier this year. Instead, investors have gravitated toward those few Net companies that do have solid earnings. Most notable among them: Yahoo! (YHOO) and America Online (AOL), both of which have been in the black for years. Yahoo! CEO Timothy Koogle claims that the company never embarks on a new investment unless it's sure it will make money on it reasonably quickly.

 

E*Trade is a case in point: A Net play that's losing money and seeing its stock tumble
 

The focus on making money is far from the minds of most Net executives, many of whom are desperately trying to build market share while the Web is in its infancy so they'll be on top when it matures. At least, that's a convenient excuse in an environment where the rapidly rising cost of hiring people makes profits elusive anyway. "It's extremely difficult to find experienced people in all important fields on the Internet," says Weisel's Landes. "To get them, you have to pay top dollar."

In the competitive Web environment, moreover, big marketing and advertising expenditures are a must -- and can take a toll. Brokerage firm E*Trade (EGRP) is a case in point. Despite more than doubling its revenue so far this year, the company lost 10 cents per share in its most recent quarter and 14 cents for the past nine months. Analysts expect it to lose 33 cents next year. And this comes after the company turned a profit in 1997 -- before it became fashionable for Internet stocks to lose money. Not surprisingly, E*Trade's stock price has fallen 65% since last April.

E*Trade is in good company. Of the 50 stocks that make up the Internet Stock Index, or ISDEX, only 14 are currently profitable. Some 45 companies in the index are pure Internet plays, meaning that they get all of their revenue from the Web -- and 82% of those lose money. Such numbers are starting to turn money managers away from the sector. "It used to be that a grace period was given for a company to build its brand and its market share," says Lawrence York, manager of the WWW Internet fund (WWIFX). "Now we want to see them marching into profitability, or we're not interested."

 

InfoSpace joined the money-making club this month -- and has gotten investors' attention
 

So which newly profitable Net companies have been getting the most attention from investors? One of the most notable may be InfoSpace.com (INSP), which sells phone and e-mail directory information, plus data such as stock quotes, to portals and other Web sites. It joined the money-making club this month, when it declared that it earned one penny per share for the previous quarter. Although the stock has been relatively flat since then, it is one of the few Internet stocks to have increased in price this year -- more than doubling, to $41.50, as of Sept. 22. CEO Naveen Jain says the company reached the black by broadening its client list and increasing its advertising revenues, while keeping a tight lid on costs. "Our focus has been on profitability," says Jain. "We're very comfortable with it now."

So, Jeff Bezos: When will you be able to say that?

Sam Jaffe writes about the markets for Business Week Online.


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RELATED ITEMS

NOTE: This story is part of a series. See also:

9/20/99 "Internet Growth Is Slowing? Don't Bet on It"

9/21/99 "For Dot.Coms, Second Place Isn't So Bad"

9/24/99 "Net Advertising: Reports of Its Death Are Greatly Exaggerated"
WEB POINTERS
To visit some of the sites mentioned in the story, click here:
Amazon
AOL
Yahoo!
E*Trade
InfoSpace
IPS Millennium Fund
WWW Internet Fund
Munder NetNet Fund


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