Beware of jumping on the Internet bandwagon
Marking up shares just because a company launches an Internet project is pushing it
Friday 26 March 1999
The telephony story concerns One 2 One, the mobile phone company owned by Cable & Wireless and MediaOne. It is to be sold, either by a float or straight sale with a market valuation estimated to be about pounds 8.5bn. The owners invested a lot in it, of course, but it is still only number four in mobile telephony in the UK, and was only founded in 1993. That is a lot of money for a company that did not exist six years ago.
The Internet story concerns a much more venerable company, WH Smith. Its shares shot up by 9 per cent when it announced that it was joining with Microsoft and BT to develop a new free portal, or gateway, to the Internet. There are now five new free Internet access providers - the technology has essentially become a giveaway, or rather a come-on to the user.
So one of these new booming technologies is enormously valuable, a service for which companies can charge a lot, while the other is becoming free. But, as any economist would acknowledge, there is no such thing as a free lunch. WH Smith shares would not leap upwards if the market did not believe there was money in it somewhere. But where? We know there is money in mobile telephony because people are prepared to pay an enormous premium for the mobility, but hardly any of the famous Internet stocks are making money. Loss-making growth, even if the growth is astonishingly rapid, requires the act of faith that at some stage in the future, profits will accrue.
The growth in the Internet has become fairly easy to predict - the number of US users looks set to reach 150 million by the end of next year (see graph), and Europe, in relative terms though not in absolute, is growing faster. There is much more uncertainty about which areas of business will grow fastest.
There are plenty of estimates about the US, one of which, from the World Trade Organisation, is shown in the other graph. There, business-to-business use is expected to be the largest single source of revenues next year, with consumer retail - the area where companies such as Amazon.com have triumphed - being the smallest of categories listed. But note something else: the WTO last year, when those figures were done, was still reckoning on Internet access being a large source of revenue. Well, maybe it will be in the US, but with this recent rise of free access it is hardly likely to be so here.
Besides, it is not clear that US patterns of use of the Internet will prevail in Europe. Not only are patterns of technology use rather different - to generalise, Europe makes greater use of mobile phones, the US greater use of computers - but there are different patterns of retailing too. Mail order accounts for a much larger proportion of US retail sales than it does of European sales. Internet retailing fits more naturally into the US pattern than it does into Europe's.
The market, however, seems to be saying two things, the first of which I think will turn out to be more true than the second. The first is that owning the system that connects people via mobile phones will remain hugely valuable. The second is that if you have the customer list of an Internet portal you also own something that is very valuable.
Once the mobile phone contract is established it tends to stick - or at least it sticks for the best customers. The customers you lose are the ones you don't mind losing. The rates are going to come whizzing down, so that mobile telephony costs little more than fixed-line telephony, but because the technology will race on for at least another 10 or 15 years, the mobile phone will still be able to extract a lot of money from peoples' bank accounts. The next generation of phones, now only two years off, will have a range of services far beyond the present generation, including Internet access, messaging, document and video transmission, banking and so on.
The service companies will also work at developing ways to help people find their way around the options. If you are working on a PC and are familiar with a keyboard and a mouse, Internet-related tasks are quite easy to perform. But if you are using a mobile phone as your point of access and are waiting on a train platform, the tasks become fiddly and awkward. The mobile phone companies will have to find ways of using technology to make things easier to use. The more they can do this, the more they can charge. They will become purveyors of increasingly complex services rather than carriers of signals.
By contrast, I'm not sure how secure a hold a portal will have on Internet users. The glory of the Internet is the freedom it gives users to spin around the world, following the myriad links devised by millions of other people, rather than following a path designed by a large corporation. The bet the providers are making is that once you have free access from one source you'll be unlikely to switch. That's fine if there are only a few free providers. But suppose everyone does it. It is not difficult to create the portal - the problem is getting people to come through it.
It may be that large numbers of commercial institutions will offer free Internet access: these would include your bank, your supermarket or your newspaper, as well as your phone company. It will be difficult for any of these organisations to sustain an advantage in the service they offer and it is unlikely that users will be loyal unless they do succeed in being better than the pack. In mobile telephony there is a natural oligopoly, for even if it were to be completely deregulated, it is not worth more than half a dozen companies trying to establish wireless networks. But in Internet access it is open house. The entry costs, while not negligible, are pretty low.
The market's instincts to put a high value on an established (though relatively small) mobile phone company are almost certainly right, but marking up shares just because a company announces a new Internet-related project is pushing it. A general rule, of commerce as well of life, is that something given away free may not be worth very much. Free Internet access may come into that category.
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