IPO market goes to the dogs

The online pet store seemed to have everything going for it early this year when it sold shares to the public, including

• financial backing by e-tail giant Amazon.com;
• a simple, easy-to-remember Web address;
• a successful branding campaign built around a sock puppet dog, including a TV campaign in which $2.6 million was spent to advertise during the Super Bowl;
• and timing, considering it was going public when the Nasdaq and IPO market were nearing a crescendo.

Pets.com was able to launch its IPO in February, raising about $82 million by selling 7.5 million shares at $11 each. The stock later climbed as high as $14.

Then the wheels fell off as the Nasdaq tanked, the IPO market imploded, and Pets.com investors realized that it's difficult to make a profit selling chew toys and dog food online.

A mere nine months after its stock market debut, Pets.com folded, and its assets such as the domain name and the rights to the puppet were sold. By mid-December, it held the distinction of being the worst-performing IPO of 2000.

"In the final analysis, the only thing you really had equity in is the sock puppet," said Randall Roth, an analyst with the IPO Plus Aftermarket Fund. "It's the one thing in that company's remains that had any staying power."

For seasoned investors who had nervously questioned how profitless companies often lacking tangible products could climb to such high valuations in the IPO market, the year 2000 answered their queries: They could not, or at least not for long.

Last year, executives and investors focused on revenue growth and market share as a means of determining value, particularly among e-tailers. The year 2000 saw the return of a more conservative standard--a shift that occurred almost overnight and blindsided many unprepared investors.

Profitability, or at least a clear path to it, and seasoned management returned as important benchmarks for companies going public. Internet companies that were postponing their break-even dates, sometimes indefinitely, were harshly punished, with newly public dot-coms suffering the brunt of the sustained market drubbing.

Although the year's 451 IPOs posted average first-day gains of about 55 percent, the vast majority tumbled by year's end to an average loss of 15 percent from the offering price, according to Thomson Financial Securities Data.

"Even well-received IPOs were finding themselves doing an about-face not too long after going public," said Mark Dicioccio, managing director of Lehman Brothers.

By comparison, the average IPO in 1999 had a first-day gain of 66 percent and ended the year up a stunning 194 percent.

All told, just 6 percent of this year's deals are trading up 100 percent from their IPO offering price, compared with 46 percent at the end of 1999.

The week of April 10, when the Nasdaq composite index lost 19 percent of its value, served as the catalyst for the downturn in the IPO market.

David Menlow, president of the IPO Financial Network, described the correction as "more deeply damaging to the marketplace than any other phase of the new issues market in the last decade."

The pessimism spread well beyond the e-tailing, content and Net sectors, enveloping even such Wall Street darlings as optical networking, semiconductor and telecommunications equipment.

As Dicioccio describes it, the momentum investing that drove many IPOs to dizzying heights also worked against them.

"Everyone had become very enamored with the optical-networking companies," Dicioccio explained. "An institution could say, 'OK, I'm buying this whole sector.' Later in the year that same psychology (worked) in the other direction."

Investors disenchanted with a sector sold not just one company but the whole lot. In reaction, IPOs--by definition a risky proposition--slid along with their more established counterparts.

As for 2001, analysts expect the new year to pick up where this one ended--a medium to light calendar of offerings marked by strength in select infrastructure companies.

Dicioccio said that when he goes and meets with prospective companies nowadays, they are much more interested in hearing about alternative financing options to an IPO.

"A year ago, it was very myopic. Everyone wanted to go public. It was, 'We're going public; do you want to take us public?'" Dicioccio said. "This correction has made management teams more aware of the risk of being a public company. They think more about all of their alternatives."