Eyeballs. Footprints. These were seductive words for European investors during the spectacular tech runup last winter. Eyeballs meant customers, and Vodafone AirTouch PLC (VOD) spent $12,000 for each one in its $163 billion takeover of Mannesmann (MNNSY). Footprints meant reach, and investors cheered as Dutch TV giant United Pan-European Communications (UPC) gobbled up cable companies from France to Poland.
Two months later, eyeballs and footprints have fallen out of favor. The costs associated with them frighten newly jittery investors. Vodafone’s stock is down 30% since March, dipping below the level at which it launched the Mannesmann bid in November. Other former highfliers, Spain’s Terra Networks and auction site QXL, have come down with a thud. In all the road shows he has ever done with UPC, says Charles Bracken, the chief financial officer, ‘not one investor has ever asked me about net income.’ Yet as UPC announced its first-quarter results on May 15, investors brushed aside impressive sales growth. Focusing on losses, they punished the stock, pushing it down 7.2%.
Has Europe’s tech fiesta fizzled? Not by a long shot. But the game is set to change. The big gains in share price will go to the companies that can deliver real profits, while purveyors of promise will probably continue to see their stock fall. And that shift in sentiment has big implications for the future shape of European high tech. Net players such as Terra Networks, though weakened themselves, will make grabs for rivals in a drive to consolidate. But companies now on the acquisition trail may soon find themselves among the hunted, while slow-but-solid players can use their stronger shares to make some big deals themselves. Banks and retailers, for example, may bolster their position on the Net by gobbling up dot-coms on the cheap. And with valuations attractive, U.S. companies may come a-courting.
What caused this change in sentiment? It started with the plunging U.S. Nasdaq. Doubts from across the Atlantic spread to Europe’s short roster of Internet companies, from Spain’s Terra and Italy’s Tiscali to Britain’s Freeserve. Coupled with the market shock was the disastrous debut of World Online, whose stock tumbled after a hugely hyped launch–after news seeped out that the founder, Nina Brink, had unloaded most of her shares before putting the company on the market.
Meantime, the mobile-phone companies have lost their luster. The greatest damage came in Britain’s auction for next-generation mobile licenses. There, bidding climbed to an average of $7 billion per license. Investors are now wondering how companies can spend such fortunes for licenses and still make money. ‘Telephone companies are the sandwich that two people are eating–the suppliers and the state,’ says Michael Kraland, president of Trinity Capital in Paris. And shareholders are fleeing. Deutsche Telekom (DT), whose market capitalization climbed to $315 billion in March, is down 35% since then.
The markets in Europe are in a show-me-the-money mood. So while Vodafone, Terra, and others continue to build their digital empires, investors are gobbling up shares of the companies laying the cable and building the base stations. ‘Those that sell picks and shovels to dot-coms are by definition closer to profitability already,’ says Ed Burke, manager for British funds at Perpetual Investment Group in Oxfordshire.
At the Paris headquarters of French equipment-maker Alcatel, there’s no sign of a tech slump. Business for its high-speed optical cables is booming, and when earnings blasted past analysts’ expectations on May 4, the stock shot up 15%. The same holds in Helsinki. Nokia (NOK), the market leader in cellular phones, is cashing in on a global market that’s expected to grow from 267 million phones last year to 410 million in 2000. Those are big black numbers, and coming fast: just what the market is hungry for. And STMicroelectronics (STM), Philips (PHG), and Infineon Technologies, the former Siemens (SMAWY) unit, are minting money by making semiconductors for those phones.
This European shift from sparkling visions to hard numbers restores a bit of balance in markets. The danger, though, is that a fixation on figures could short-circuit Europe’s Internet initial public offerings. This would sap a Web economy that long lagged behind America’s and was only starting to take shape. And if Europe’s dozens of challenger phone companies run short of investment capital, it could even come back and bite the equipment suppliers.
So far, tech IPOs are marching ahead, albeit more slowly, and at far lower issue prices. But it’s mostly the big companies that are venturing into a skittish market. Internet service provider T-Online, Deutsche Telekom’s spin-off, remains safely above its 17 April issue price: the new definition for success in dot-com stocks. Another big IPO on the way – though probably at a reduced price – is Chello, UPC’s Internet portal.
But a passel of other potential IPOs, including software startups for the mobile Internet, are waiting out the summer, hoping the investor mood brightens. Says Gerard van Hamel Platerink, an Internet analyst at Schroders Salomon Smith Barney: ‘IPOs have been drying up. Only the best can raise money in this sort of market.’
This erosion alters the takeover game in high tech. The New Economy companies, regardless of investors’ concerns about profits, must still pursue customers and content. But the stock valuations hurt. Take UPC. Earlier this year, the Dutch company agreed to buy out SBS Broadcasting in a $2.8 billion stock and cash deal. But UPC’s stock has fallen by more than half since the agreement, endangering the deal.
For dot-coms, the takeovers are likely to speed up. For starters, they’re cheaper now, which could entice suitors from the Old Economy. Banks especially are eager to land portals, a key for Internet banking.
And even with punished stocks, Net companies are busy piecing together global strategies. Although Terra Networks is trading at less than half of its March high, the company bagged U.S. portal operator Lycos Inc. (LCOS) for $12.5 billion, mostly in Terra shares. The same day, QXL, eager to fend off American auctioneer eBay Inc. (EBAY), announced a $1 billion buyout of German auction site Ricardo. ‘The consolidation process is beginning,’ says Miles Saltiel, Internet analyst at West LB Panmure Gordon.
This is true in phones as well. Europe’s phone companies, far cheaper than in March, may now draw American and Japanese companies eager for a piece of Europe’s coming mobile Internet. Japan’s NTT DoCoMo made the first inroad in early May, when it bought a 15% stake in the mobile unit of Dutch national phone company KPN. Of course, like other investors, the phone companies will be scrutinizing investments with a sharper pencil. The new trick in Europe is to figure out when all those millions of eyeballs will start delivering profits.
By Stephen Baker in Paris, with Heidi Dawley in London
This article first appeared in Business Week magazine
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