OCTOBER 20, 2000 VOL. 26 NO. 41 | SEARCH ASIAWEEK
It's A Buyer's Market
Dotcoms in China are heading into tougher times as the Internet shakeout continues. Plenty of companies are seeking partners, but many aren't worth the paper their devalued shares are printed on
By ALLEN T. CHENG
China's Internet business, built on the frothy and as-yet unrealized promise of hundreds of millions of Web surfers, is finally getting real. Last month, more than a hundred failing mainland websites were left for dead after a government-sponsored asset auction produced but a single purchaser. Those sites were small fry, but now the country's top portals, facing many money-losing years ahead, are coming to grips with the fact that they may not survive unless they join forces with their competitors. A painful industry consolidation is in the offing.
The urge to merge is increasingly becoming a Darwinian imperative. The reality was underscored late last month, when Sohu.com, one of China's three largest portals in terms of audience, swallowed up lesser-player ChinaRen in a $30-million stock-only transaction. Joseph Chen, chairman and CEO of ChinaRen, says the ongoing depression in the shares of dotcom companies and the evaporation of the IPO market led him to the inescapable conclusion that he needed a bailout partner. ChinaRen raised $10 million in funding, but unlike Sohu, the company was not able to go public before stocks crashed. Launched in November 1999, ChinaRen, which caters to mainland youth, claims 18 million page views daily but generates little advertising revenue. "The sector was too competitive in China," says Chen, who will become a senior vice president in the merged organization. "It was prudent for us to think about working with someone else to build a No. 1 position."
The Sohu-ChinaRen deal follows the recent buyout of 163.net, one of China's most-visited websites, by Hong Kong-based Tom.com. Similar deals are expected to follow in China and throughout Asia. "There will be some pretty major acquisition activity within the next few months," says Pete Hitchen, regional internet analyst at Salomon Smith Barney in Singapore. It is not just those that failed to go public that are likely to be absorbed. The plunge in technology stocks means that the primary currency of dotcoms their outstanding shares is worth far less than it was in March. "There are a lot of fairly large-sized companies that were half-a-billion dollar market caps six months ago that are now less than $100 million," says Hitchen.
Since many Internet companies received public or private funding in the first few months of the year, before the Spring tech stock meltdown, they've had the cash to postpone the inevitable. "It normally takes until companies begin to reach their last few months of funds before management teams are finally willing to concede that they must reach agreement to be acquired or merged," says David Williams, a partner at venture capital firm Draper Fisher Jurvetson. Analysts expect the pace of consolidation and outright closures to pick up over the next several months as smaller, unlisted companies exhaust their early-round venture funding, which generally amounts to less than $20 million.
There's little reason to hurry. Those who wait can pick up bargains, says Matei Mihalca, a Net industry analyst for Merrill Lynch. "If you buy today, should you do so because it will be more expensive tomorrow? No, it will likely be cheaper," he says. "Many valuations have nowhere to go but down."
Acquisitive companies such as Sohu, which earned a scant $2.2 million in ad revenues in the first half of the year, are optimistic they can build their empires. ChinaRen's strength was its stable of online communities, which analysts say balance well with Sohu's superior news content. Sohu chief executive Charles Zhang says he believes that with the ChinaRen merger he can post double-digit ad revenue growth in coming quarters and break even operationally by late 2002.
However, Merrill Lynch, which recently initiated coverage of Sohu, does not expect the company will earn a profit until 2004 an eon in Internet time. Although the company has about $79 million in cash, its ongoing expenses, or "burn rate," could force it to seek additional funding before then, the brokerage says.
Sohu's plight sums up the accounting puzzle posed by the phenomenon of profitless companies merging with each other. The vast majority of dotcoms are little more than a collection of dubious assets: peripatetic staff, some used computers, a fickle audience and a questionable brand. "Most companies you'd want to acquire should have some type of asset," says Jay Chang, internet analyst at CS First Boston in Hong Kong. "It's difficult to acquire somebody when you're just acquiring burn rate."
Can zero plus zero ever be made to add up to one? "To grow in the portal space you need a lot of marketing and the economics just aren't right," says Danny Toe, chairman and CEO of Internet Century Holdings, a sports portal and Net consultancy. "For every dollar you put in, you lose $5. You have to re-engineer yourself into another type of Internet company." Toe's answer: head for the new frontier of Internet content tailored for mobile phones and other wireless devices. Maybe that's where the money is.
With reporting by Belinda Rabano/ Hong Kong
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