February 3, 2005
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Is the Internet bubble half empty or half full?
By Gary Rivlin
With Google's stock on a roll, rising more than 7% Wednesday to close at $205.96 and prompting some analysts to predict it will hit $290 or more in the coming months, it can seem like the late 1990s again on Wall Street.
Shares in Google have been trading for less than six months, but they have risen 142% and the company has a market value of $56.2 billion, equal to that of Starbucks, Nike and Southwest Airlines -- combined.
Shares in another Internet star, Yahoo, are up 73% in the last 52 weeks.
But try convincing the chief executives of eBay and Amazon.com, two undisputed kings of the Internet era, that investors have had a relapse of irrational exuberance. Even though eBay's profits for all of 2004 were up 76% from a year earlier, the share price is down by a third since the start of January, primarily because the fourth-quarter results reported last month fell a penny short of analysts' forecasts.
And when Amazon.com reported growth in profits and revenue on Wednesday after the market closed, investors sent its stock tumbling as much as 15% in after-hours trading because those results, too, fell short of analysts' expectations. The company's stock, trading below $36 a share in the aftermarket, was down 33% from its high of $54.70 in mid-2004.
The tale of two trajectories among Internet leaders has prompted a debate.
"Of course we're in a bubble again," said Fred Hickey, editor of The High-Tech Strategist newsletter in Nashua, N.H., and a longtime technology stock analyst. But others say that Internet investors have learned to draw distinctions that many failed to make during the dot-com craze.
More discriminating
"The good news here is that investors are certainly proving themselves more selective," said David Garrity, an analyst at Caris & Co. in New York. "It's not like we're seeing Internet stocks go up wildly across the board. This isn't the 1990s when all a company had to do is put out a barrage of press releases and see the price go up."
John Tinker, an analyst at ThinkEquity Partners, an investment bank in San Francisco, agreed that investors so far were proving themselves far more discriminating than in the late 1990s -- even if he detected over-reactions in both directions. "This is a market that is over-rewarding for strong performance and over-penalizing when a company falls short of expectations," he said.
Google's latest stock surge came on the strength of the company's announcement, after the close of the market Tuesday, that its sales and profits grew much faster than expected in the fourth quarter. Profit for the period was up sevenfold compared with the final three months of 2003. And revenue for the first time broke the billion-dollar mark for a quarter, more than twice the level in the fourth quarter of 2003.
Tinker said such performance justifies Google's current share price -- and then some. "Sure, the share price of Google is high, but we're talking about a company with a revenue growth rate that is accelerating, not decelerating," Tinker said. "These aren't a couple of guys right out of college talking about how they'll make money down the road."
The company's results seemed to have touched off a bit of one-upmanship among analysts on Wednesday to see who could be the most upbeat about Google, which has now surpassed eBay as the Internet stock with the greatest market value. Among analysts who revised their forecasts, Tinker projected that Google stock would hit $290 a share within the next 12 months, while Garrity predicted a price of $300 share "or better."
Most Net stocks flat
The company sold shares for $85 each in its initial public offering in August. But while Google's stock price has soared, Internet stocks generally have remained relatively flat. Shares in the Morgan Stanley Internet index have risen 20% during the period.
Even while others perceive investors' drawing distinctions, Hickey still sees signs of giddiness. Hickey provides any number of examples to make his point. Volume in the penny stock world has doubled in recent months, he said, and he points to the "wildly inflated valuation" that the market has assigned to Travelzoo, which conducts online marketing for the travel industry. Shares in Travelzoo have soared nearly sevenfold since the start of 2004, though the company reported net income of less than $2 million in the third quarter of 2004, its most recent numbers. Travelzoo's stock closed at $57.83 Wednesday, putting the company's market value just below $1 billion.
Yet it is Google that raises Hickey's voice an octave or two. The crucial number for those analysts in awe of Google was its advertising revenue, up 122% from the previous year's fourth quarter. The bulk of that is from Google's AdWords program, in which it lets advertisers bid on key words -- "asbestos" for lawyers, say -- with the highest bidders having their ads appear whenever someone performs Web searches using those words. The bidding can run from 5 cents to $100 a click, according to Google.
"Basically what we're seeing is a temporary land rush going on where legal firms are paying something like $35 a click for words they see as valuable," Hickey said. "Whether that's economical or not, we don't know. But I suspect it's not because I hear lawyers say it's not worth it at that price."
"What happens when Microsoft is ready to really push its search engine?" Hickey asked. "It's basic supply and demand. When supply increases, prices fall."
To Hickey, the result will be 1999 all over again. "Everyone was crazy over banner ads," he said. "Banner ads, banner ads, banner ads. But guess what? It turns out banner ads weren't worth as much as people thought, and the result was that companies like Yahoo saw their share prices fall by 70 or 80%."
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