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eToys issues earnings warning, prepares for sale

The online toy seller says that revenues for its third fiscal quarter could be half of what analysts expected, and that it will run out of cash around the end of March.

eToys may not be playing the e-commerce game much longer.

The Los Angeles-based online toy seller issued an earnings warning Friday, saying that revenues for its third fiscal quarter could be half of what analysts expected. As a result of a revenue shortfall, eToys said it will run out of cash around the end of March. It has begun exploring options to sell the company or its assets and will announce layoffs early next year.

"This is certainly not good news," said company spokesman Gary Gerdemann. "We will be pursuing every possible avenue to maximize value for all stakeholders involved.

"We would like to tell a much better story, but in the meantime, we're going to keep serving our customers and we're going to keep getting products out."

eToys is only the latest Internet or technology company to issue an earnings warning. In recent weeks, Microsoft, Apple Computer, Compaq Computer, Gateway, Intel, Motorola and 3Com have all warned that their earnings would fall short of Wall Street's expectations.

But eToys is among the first in the e-tail sector to warn of a revenue shortfall. Its warning comes after a report from that consumers are spending record amounts online, topping $200 million in daily sales for the first time earlier this week.

Jupiter Media Metrix has projected that online spending will grow 66 percent this year over last year, totaling $11.6 billion.

Despite these rosy reports and projections, eToys said that revenue for its third quarter, which ends Dec. 31, will be between $120 million and $130 million. Those numbers stand in stark contrast to the $210 million to $240 million in revenue analysts had projected that the company would pull in.

The company's new projections also show a sharp decline in year-to-year growth, representing just 12 percent to 22 percent growth from the same period last year. In contrast, eToys' third-quarter sales last year grew by 366 percent over the same period in 1998.

The company's losses also could be bigger than expected. Wall Street expected eToys' losses to be about 22 percent to 28 percent of revenue this quarter, or between $46 million and $67 million. But with the revenue shortfall, eToys said its losses will total between 55 percent and 65 percent of sales, or between $66 million and $84.5 million.

Gerdemann blamed the revenue shortfall on a the slowing economy, the hoopla over the delay in selecting a president and the "continual drumbeat of negativity surrounding Internet retailing."

"Any one of them would have been enough, but the three together is a painful thing," he said. "In the end, we did the best we could, and the sales aren't there."

Speaking before eToys' announcement, Forrester Research e-commerce analyst Carrie Johnson said eToys will have a hard time reaching its numbers this quarter, and the fallout from not hitting them could be momentous for e-tailing as a whole.

"You hate to say it's a make-or-break Christmas because its so cliche, but for some categories it is," Johnson said. eToys (needed) to do about $210 million in the fourth quarter to survive.

"There's always been a few stalwarts, like Amazon, eBay and second-tier (players) like and eToys. If one of those guys goes down, everyone's faith becomes shaken," she said.

Gerdemann said he did not know the details of the impending layoffs, such as when they might occur or how many employees might be affected. The company has more than 950 full-time, year-round workers, he said.

In a statement, eToys said it has hired Goldman Sachs to explore merger or investment possibilities. Gerdemann said he didn't know when the company hired Goldman Sachs or whether eToys has fielded any offers yet.

"Going forward and based on the current operating realities, we will take aggressive steps to reshape the company's cost structure and to best position the company for the future," eToys chief executive Toby Lenk said in the statement.

eToys' stock closed Friday at $1.03, down 3 cents. In after-hours trading, the company's shares were down 7 cents at 96 cents.

eToys had a breakout year last year, tripling sales from the year before and trouncing online competitors such as Amazon and The e-tailer looked to be in even better shape this year as smaller competitors such as and Walt Disney-backed closed shop.

Meanwhile, bigger competitors also seemed to be in turmoil. KB Toys-backed fired its CEO and laid off 30 percent of its staff. Wal-Mart, the biggest seller of toys offline, shut down its site to redesign and update it. And threw in the towel on its Web site, choosing instead to outsource much of its online operations to Amazon.

The problems at eToys come after other high-profile e-tail wipeouts. Last month, for instance, Amazon-backed closed shop and laid off 80 percent of its work force. In October, spinoffs WebHouse Club and Perfect YardSale ceased operations.

More recently, other e-commerce and e-business players have fallen on hard times. Priceline has gone through two rounds of layoffs in the past two months, joining companies such as OpenTable, and Amazon-backed in slashing staff.