TCS Daily

Should You Invest in Tech IPOs?

By James K. Glassman - September 25, 2000 12:00 AM

Ever since the Justice Department won round one against Microsoft last spring, these have been tough times for tech stocks. Small, money-losing dot-coms have been hit particularly hard. Many Internet companies are trading well below their highs, and more than a few have instructed their investment bankers to "pursue strategic alternatives." Translation: "Somebody please bail us out before we have to fire the staff!"

The news is equally bad for start-ups that have had to cancel IPOs and the venture capitalists who now spend time trying to resuscitate the stinkers in their portfolios instead of chasing the next billion-dollar opportunity.

All of which means that I like this environment. I'm a contrarian at heart and I smell opportunity for those considering buying stock in newly-public tech companies. Faddish investors allowed some companies that should never have gone public to enjoy huge valuations. As investors have lost confidence in technology, there may be opportunities to buy at more attractive prices. And the markets are applying increasing scrutiny to dot-com business models, so you're unlikely to see something like a coming public in the next year.

Now, I wish I could tell you that, in tune with the more hard-headed tenor of the times, the latest crop of Internet IPOs is showing strength by traditional measurements - robust earnings growth and solid fundamentals. But I can't. The tech magazine The Industry Standard recently said this about Net IPOs in the third quarter of 2000: "...the financial underpinnings of Net firms remain weak: Median revenues were $9.1 million, while median net income fell to negative $6.1 million."

So these are still fairly risky bets on the future. We're talking about young companies, typically little more than two years old, with meager revenues and losses almost as large. And for short-term traders, there seems to be little chance of a big score. The median 90-day performance of Internet IPOs this year is 0%, compared to 80% last year and 34% in 1998. Still, what that really means is that many of these firms aren't getting the opening-day pop that their predecessors once did. For the average investor, who often had to wait to buy the earlier tech IPOs until they had already soared far above their offering prices, this may be good news.

And the new stocks are being offered at more reasonable prices, at least by one measurement. In the second half of 2000, the median price-to-sales ratio of Internet IPOs is lower than it's been since the first half of 1998. So IPO investors are now paying about $32 for each dollar of a company's annual revenues, compared to $56 in the second half of 1999 and a whopping $69 in the first half of 2000.

By this measurement, Internet IPOs are still more expensive than other kinds of IPOs, such as biotech companies. But if you're bullish on some of these young techs, you can pick them up for less than you might have had to pay in an earlier period. Does that mean that you should dive right in?

As usual, let me offer the caveats that you should have balance in your portfolio - companies in different industries and of different sizes -- and you should be an investor, not a trader. The short-term gains just aren't there. But if you're excited about a young company's technology, if you use their products and you're a happy customer, if you're impressed with their management, look to seize the day now that other investors have grown skittish. As the market grows more skeptical, the offering valuations get cheaper and cheaper. So this could be the perfect time to add a brand new public company to your portfolio.

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