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2HRS2GO: Internet access is a shaky business, even overseas

I believe in international investment.

If you're serious about information technology, communications and the Internet, you have to look abroad, because the world is a lot bigger than the United States. Asia, Europe and Latin America not only have more people, but in many cases a less developed or more arcane communications infrastructure than in the United States -- meaning more room for market growth and more money to be made.

But on ISPs? I have my doubts.



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This week's stock buyers can't get enough of overseas Internet access. American depositary shares blazed higher this week for Internet service providers in South Korea (Korea Thrunet, Nasdaq: KOREA), China (China.com, Nasdaq: CHINA), Hungary (Euroweb International, Nasdaq: not HUNGARY, but rather, EWEB), and various Spanish- and Portuguese-language countries (Terra Networks, Nasdaq: TRRA).

Traders and investors are always desperate to find new Internet plays, and with money continuing to flow into the market, it has to go somewhere. There's just one problem: few publicly-traded companies have ever made anything resembling a sizable, steady profit on ISP services, even in more developed Internet markets such as the United States.

Smaller providers such as Prodigy Communications (Nasdaq: PRGY) and Internet America (Nasdaq: GEEK) continue to report losses. Earthlink Network (Nasdaq: ELNK) remains in the red. Mindspring Enterprises (Nasdaq: MSPG) appears profitable only if you discount special charges; but when you rack up those charges in each of the last three quarters, they start to look like recurring items on the statement of financial operations, even if they aren't technically.

America Online (NYSE: AOL) is profitable, but not on its ISP business. AOL would be a money loser without the cash generated by massive doses of advertising and e-commerce partnerships; unfortunately, AOL's set-up is unlikely to be matched by anyone else, because only AOL gets away with proprietary online software that forces users to look at ads and places hordes of self-contained content around the Web browser.

Overseas ISPs such as Pacific Internet Services (Nasdaq: PCNTF), China.com (Nasdaq: CHINA) and Internet Initiative Japan (Nasdaq: IIJI), or would-be ISPs such as StarMedia Networks (Nasdaq: STRM) don't expect profits for at least a few years.

Even if and when these companies do break into the black, remember that the Internet access business, whether in the flat-fee local calling world of the United States, or the pay-per-minute variations in Asia, Latin America and Europe, is a low margin field, just like most areas of communications services. But the ISP field is far more competitive than local telephone service or even long distance, which is essentially dominated by a few large players (each of which is seeing lower and lower margins from voice services).

And larger players such as America Online plan to increase that competition even further. They want that overseas market too, and though it's natural to think that local companies would have an edge in their own countries, keep in mind that AOL and its ilk tend to operate with local partners anyway. Besides, the likes of StarMedia (based in New York) or Terra (headquartered in Spain, though most of its business is in the western hemisphere) can hardly claim to be more local than AOL or another multinational corporation.

Most of these Internet access players portray themselves as content providers as well, and point to advertising and e-commerce services as a source of revenue. Unfortunately, most of them have little or nothing to show along those lines so far.

Each of the world's various Internet access markets will eventually produce winners, obviously. But this week the market seems to be betting all the publicly-traded players will be victorious. It's an idealistic view, but if business history is any guide, hardly a realistic one.

Other issues:

  • Eidos Interactive
  • (Nasdaq: EIDSY) Merrill Lynch analyst Timothy Steer downgraded his near-term rating on the game software company to "accumulate" from "buy". Going into today's trading, American depositary shares of Eidos -- producer of the well-known Tomb Raider series of games -- had risen more than 80 percent since Steer started covering the stock in early August, so it may be time for a short breather. Long-term holders certainly can't complain about their investment's performance, given the stock's more than sevenfold improvement over the past year. 22GO>