Justin Bieber, Madonna and Kim Kardashian-West tweeted about the launch of EDbyEllen.com.
An investment of $1,000 in Amazon.com in May 1997 when the online book retailer went public was worth $39,000 eighteen months later in December 1998. When software retailer Egghead Inc. closed its stores in 1998 and adopted an Internet-only selling strategy, its stock price surged from $5.37 a share to $20.80.
The run-up in the stock prices of Web-based sellers has been one of the most widely reported financial stories of the last year. And the stock of publicly traded Internet retailers, malls, shopping services, auction houses and other business-to-consumer electronic commerce development companies remain among the hottest on Wall Street.
But behind investor fascination with Internet retailing stocks and the ga-ga coverage of stock prices in the news media has always lurked a key question: When will these companies start showing a profit and justifying their stock prices?
The short answer: Not any time soon.
“We lost money last year and we will lose money this year and next year,” says Jeffrey S. Tauber, chairman and CEO of CyberShop International Inc. CyberShop, an online retailer that sells everything from clothes and furniture to fitness equipment and gourmet food, went public in March 1998 at a price of $6.50. Its stock today sells for $7.50, after peaking at $30.
In fact, with the exception of eBay Inc., an Internet auction house, and a few others, most business-to-consumer electronic commerce companies are not profitable and do not expect to be profitable in the near future. Amazon.com lost 22 cents per share last year. Egghead.com lost $5.5 million just in the quarter from April 1 to June 30, 1998.
And according to a 1998 survey by Forrester Research Inc., 69 of 100 Internet retailers-both virtual retailers and traditional retailers that started Web sites-are losing money. “There aren’t many pure virtual retailers that are profitable,” says Robert L. Smith Jr., executive director of Shop.org, a trade association for online retailers.
That has some analysts questioning the long-term viability of e-commerce investments and the motivations of their investors. “The buyers of e-commerce stocks make the tulip investors of the seventeenth century look like value investors,” says Richard Berry, director of equity research, J.P. Turner & Co., a broker/dealer based in Atlanta. “People are not trading on profitability; they are trading on avarice. It’s the biggest speculative bubble we’ll see in our lifetime and it will burst.” Based on sales revenue and his market experience, Berry believes the value of e-commerce stocks will decline 50-90% in the next 12 months.
While current profitability has little impact on stock pricing, one of the factors that is driving the price of e-commerce stocks skyward is the enormous growth in sales that these new companies have been posting. In all of 1997, Amazon.com had sales of $147 million. In the third quarter of 1998 alone, its sales hit $153.7 million. Adding fuel to the fire were preliminary 1998 holiday sales figures which were up 275% for Internet retailers as a whole, and as much as 500% for some individual Internet retailers, stronger than even the most optimistic estimates, says Elaine K. Rubin, president of ekrubin Inc., an online commerce consulting company based in Woodbury, N.Y.
In all, Internet retailing had a stellar year-in sales. But just how stellar is in question: Boston Consulting Group estimates that online sales in 1998 exceeded $13 billion; PricewaterhouseCoopers LLP says $8 billion.
And this is just the start. Boston Consulting estimates the top-10 publicly traded online retailers experienced year-over-year revenue growth in excess of 160%. Forrester Research Inc. estimates Web sales to consumers will surpass $108 billion in 2003, growing 69% annually.
What is driving the stock prices of e-commerce companies, say analysts, is the anticipation that the explosive growth in sales revenues of these companies will continue. Wall Street analyst, Henry Blodget, executive director, CIBC Oppenheimer & Co., New York, predicts that Amazon.com will reach the $400 mark (unadjusted for stock splits) by December, although the subsequent meteoric rise in the company’s stock price may mean that Amazon.com’s stock may reach that benchmark even sooner. Blodget set the $400 price because he believes it will ultimately be a major global retailer. “They didn’t exist three years ago, and next year they’ll probably do $1 billion in sales,” he says.
But even with this huge surge in sales revenues, e-commerce companies are still posting losses, and are likely to continue doing so for several years. While past sales growth would indicate that e-retailers would be out of the red by now, industry insiders say the wild speculation by investors in future growth has allowed these companies to invest enormous amounts of capital back into the business instead of posting profits for shareholders.
Most Internet retailers are not profitable, says Karl R. Haller, principal consultant, PricewaterhouseCoopers, because, unlike most other publicly traded companies, they are not forced to be profitable. In other words, they are not punished, in terms of lower stock prices for not showing profits the way most other companies are. “Profitability,” says Haller, “has not been a key driver of stock prices.”
In fact, some Internet retailers say their investors don’t even expect the companies to be profitable. “It’s not really about profits,” says CyberShop’s Tauber, who expects to create a $100 million company. “Our investors are looking for us to build a multimillion dollar business.”
Furthermore, says Haller, many Internet retailers could be profitable today if they wanted to. What keeps them from profitability is that they are spending large amounts drumming up sales. “The money they spend on advertising and marketing is significant in comparison to traditional retailers,” says Haller.
Getting consumers’ trust