Fool's Eye View

[ March 22, 2000 ]

Crash & Burn

By Rob Davies (TMF Essex)

Great Titchfield Street, London -- There are times when some hackneyed expressions are more apposite than perhaps the originator ever dreamed of. The phrase "crash and burn" can be applied to stocks that go into a dive from which they never recover. In fact for one company, Iridium, the saying is particularly poignant. This US satellite phone company has been unable to secure further funding for its activities, so the company has gone bust. However, its principal assets are 66 satellites whizzing around the earth. In the absence of additional funding they will be redirected into a lower orbit where eventually they will be caught by the fringes of the atmosphere and dragged down to a fiery end as artificial shooting stars generating a $7bn firework display.

This story is perhaps more dramatic than most start-up failures, but it makes the point very well. New ventures that are consuming cash need to have fresh injections of funds at regular intervals to sustain themselves. As the companies are not generating cash they cannot pay interest and therefore cannot use debt. This obliges them to use equity capital.

This phenomenon will be familiar to Internet investors, as we have seen a veritable deluge of IPOs and secondary issues in the last 12 months. Large amounts of money have been raised, but already some companies are coming around for second helpings. And one thing that tends to upset investors is being asked for more money just after you have invested a whole wodge. A bit like kids asking for extra pocket money with the excuse that they have already spent the first lot.

So this article will look at the new range of cash-hungry Internet companies and make some rash assumptions about how long they can go before burning up. We won't look at page views, site visitors, registered users or any of that malarky. It'll be a very simple look at balance sheets and net cash consumption rates.

Let's start with Freeserve (LSE: FRE). This company is currently capitalised at £5bn, but that is not our major concern. Of more interest is its cash pile of £75.7m at 5th February 2000. In the three months prior to that the company chewed through £8.8m. That implies 25.8 months before crash & burn (C&B). However, that may be a little optimistic because half its revenue comes from phone connection charges. With the advent of flat rate Internet connections that side is going to shrink, although e-commerce commissions and advertising will compensate to some extent. So let's call it 25 months, which makes deorbit month March 2002.

Next we can look at the current favourite, Lastminute.com (LSE: LMC). After its successful (for it) IPO it should have £113.5m in its piggy bank. This is assuming the greenshoe (the 15% over-allotment) is not exercised. (See this Foolish Lunchbox from 1999 for an explanation of the "greenshoe"). If it is, the company will be £17m better off. But as the shares are now trading at a discount to the issue price we have to assume that is unlikely. At the end of the year the company had net debt of £2m, so let's assume it now has net funds of £111.5m. In the three months to December 31st 1999 it ploughed through £5.5m before cash injections and that means it can now keep going for 60.82 months. Of course we don't know what it spent on advertising for the IPO; probably quite a lot, but nevertheless let's assume a steady cash burn. That makes the C&B date December 2005. Not bad, really.

Then we come to QXL.com (LSE: QXL). This online auction house came to the market in October and raised £111.5m roughly equally in the US and UK. However, it put its hand out again in February for another £40m. At the last published balance sheet date, 31st December 1999, it had net cash of £60m, so its cash reserve now should be of the order of £100m. It didn't quote a figure for cash burn in its last three months, but for the last nine months of 1999 it got through £25m. If that rate is maintained the company is good for another 36 months, taking its C&B date out to 2003.

Moving on we come next to 365 Corporation (LSE: TSF). It raised a net £58.5m in December 1999 and had net cash of £59.9m at the end of the year. Extrapolating its £2m cash burn in that last quarter gives it 87 months to C&B, or way out to March 2007.

Nearing the end we come to interactive investor international (LSE: IIN). This company only came to the market in February, when it raised a gross amount of £82.5m. After expenses that probably leaves it with £75m and adding that to its net debt of £3.4m gives it an implied cash reserve of about £71m. This company does not give quarterly data so we have to rely on the cash consumption for the year to September 1999, although the company is almost certainly spending more now. Nevertheless, it burnt £5.08m in that year giving it another 14 years in orbit, so its C&B date is 2014. That's pretty good.

Finally there is the Exchange (LSE: EXC). Listed in August 1999, when it raised a net £88m, it had £54.8m of net funds at the end of last year. But it also spent well and got through £13.87m in the twelve months. At that rate it can keep going for almost another 4 years giving it a C&B date of November 2003.

It seems therefore that some of these companies have actually got a reasonable future, but the table below sums up the conclusions:

Company      Market Cap       C & B date

Freeserve      5,000          March 2002
Lastminute.com   503       December 2005
QXL            1,308       December 2003
365              513          March 2007
iii              426            Mid 2014
the Exchange     400       November 2003

Of course these dates are purely illustrative. In reality these companies will raise more money and adjust spending rates to take account of events. Despite that it is interesting that the company with the highest valuation has the shortest life expectancy.

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