Dueling Fools
August 04, 1999

RU4 CMGI?
Bear Argument

by Bill Barker ([email protected])

Even granting that CMGI's essential business is designing, manufacturing, and selling the hottest commodity around -- shares of Internet IPOs -- there's one heck of a lot of ambitious and creative math that goes into valuing CMGI at anything approaching its current market capitalization of about $9 billion.

CMGI is essentially a venture capitalist firm with holdings in some companies that have gone public, and some other "incubating" companies that are not publicly traded yet, but probably will be soon or eventually. It is regarding these incubating companies that the phrase, "Don't count your chickens before they've hatched" seems to be most conspicuously ignored by the market -- because looking at the numbers, I think CMGI's unhatched chickens have been double- or triple-counted.

CMGI has a total of around $3 billion worth of minority stakes in various publicly traded companies. These holdings, including stakes in Yahoo! <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: YHOO)") else Response.Write("(Nasdaq: YHOO)") end if %>, Critical Path <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CPTH)") else Response.Write("(Nasdaq: CPTH)") end if %>, Lycos <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: LCOS)") else Response.Write("(Nasdaq: LCOS)") end if %>, Engage <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ENGA)") else Response.Write("(Nasdaq: ENGA)") end if %> and Hollywood Entertainment <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: HLYW)") else Response.Write("(Nasdaq: HLYW)") end if %>, are all pretty volatile stocks, and are all worth a good deal less today than they were a couple of months ago. (The exception is Engage, which has only been on the market long enough to lose one-third of its value from its opening day high.) For the sake of argument I'm willing to accept that each of these companies is actually worth something around where it is priced today. That means that CMGI only has to come up with about $6 billion worth of additional IPO sales to justify its current price.

In attempting to determine just how likely that is, consider the most recent evidence: Chemdex <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CMDX)") else Response.Write("(Nasdaq: CMDX)") end if %>, an online seller of laboratory chemicals and equipment, approximately 16% owned by CMGI. Chemdex came public on July 27, quickly moving up from its IPO price of $15 a share to an intraday high of over $34 a share -- a typical Internet IPO first day "pop" these days -- since daytraders more or less don't care what a company is or does on its first day of trading. This gave Chemdex a market cap of a bit over $1.11 billion -- for a few seconds. As I write this, about 24 hours after that first-day high, shares of Chemdex are at $22, on their way back, I suspect, to around $15.

Or much, much lower, quite possibly. Chemdex, after all, lost over $6 million last quarter to sell all of $165,000 in merchandise. That's right -- Chemdex lost about $40 for each $1 of sales. Now, maybe Chemdex ends up selling over $1 million worth of goods for the year. And, heck, maybe it sells $5 million next year -- who knows? I do know that there was a time, not all that long ago, when a company like Amazon.com <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMZN)") else Response.Write("(Nasdaq: AMZN)") end if %> didn't come public until it was selling $27 million in merchandise in a quarter. And when Amazon.com went public, its opening day market cap was only around $500 million.

That is, there was a time when the companies focused on Internet sales were coming public and were speculative, but they weren't completely, utterly and unrepentantly speculative, like Chemdex. Furthermore, unlike Chemdex, they had some prayer of increasing in value after their first day of trading. But as Chemdex and similarly marginal companies enter the market, they draw capital away from the established companies -- companies like Yahoo! and Lycos in which so much of CMGI's current value is tied. With the vastly increased supply of Internet-related companies to go around, the market is quickly becoming supersaturated, and there isn't enough demand to support both the prices of the old kings of the road (Lycos, Yahoo!, etc.) and the new pretenders. The result is that the total value of CMGI's public holdings is at least as likely to decrease as increase as time goes by and additional Chemdex's are foisted on the daytraders, err, market.

While it's true that CMGI gets a lot of credit for being out in front of the crowd as far as providing seed money to Internet ventures, at this point CMGI is just another player in an extraordinarily wide and competitive market of respected Internet venture capitalist firms. With idealab, Internet Capital Group, Safeguard Scientifics, Paul Allen's Vulcan Ventures, Kleiner Perkins, Softbank, Howard Schultz's Maveron, and dozens and dozens of others, there is no shortage of funds and companies that are out there actively seeking to support the next generation of great Internet companies.

And given the plethora of options that nascent entrepreneurial firms have to go to these days, why in the world would any strong-minded capable entrepreneurs go to CMGI after the stunt that CMGI pulled with Lycos? For those of you who forgot what happened back in February, CMGI used its 18% stake of Lycos to block it from merging with USA Networks <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: USAI)") else Response.Write("(Nasdaq: USAI)") end if %>. Mind you, CMGI initially gave its blessing to the merger, but later CMGI's CEO David Wetherell changed his position because he thought he could bluff USA Networks into paying a higher price. The ham-handed way in which Wetherell asserted himself into the deal eventually scuttled it, and today Lycos sits with about 40% of its market cap lopped off from the merger price. With friends and backers like CMGI, who needs enemies? Speaking of enemies -- or competitors -- Lycos itself is now providing seed money to small Internet firms as well.

With CMGI's recent acquisition of AltaVista from Compaq Computer <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CPQ)") else Response.Write("(NYSE: CPQ)") end if %>, CMGI does have one business that it apparently will be building itself. Now, while I'm tempted to call AltaVista "that search engine you've heard of but never used," I can't quite do so, because of my deep respect for the marvelous babelfish. But, consider CMGI's claim that it is going to turn AltaVista into a "megaportal." I don't really know what a "megaportal" is supposed to be, but I do know that AltaVista has a really, really long way to go to get there. Currently the AltaVista Sites are the tenth-ranked media/Web properties according to the latest Media Metrix numbers. According to some of the press releases, this "megaportal" is supposed to rival Yahoo! or AOL, though AltaVista currently gets a small fraction of the traffic of those sites.

This pronouncement that AltaVista is going to be a megaportal strikes me as the kind of claim that is meant to impress those who are easily swayed by the mere act of throwing a fancy Greek prefix in front of an otherwise normal word. For that reason, I request that you, dear reader remember that my argument is, in fact, a MegaArgument. While, I don't expect anyone reading this to fall for that -- I don't expect too many people to buy into CMGI's megaportal pronouncement either. Or, for that matter, to buy into the concept that there's anything close to $6 billion worth of untapped value in the current private holdings of CMGI.

Next: The Bull Responds