Outlook: The challenge for King is to get the economy going again

eBay makes hay; Yell bookbuilding; House prices
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The Independent Online

Not much has changed in the four weeks that have elapsed since the last Monetary Policy Committee meeting, when the decision was to leave interest rates on hold at 3.75 per cent. Not much other than just one thing. The pound has regained a little bit of its former strength.

Whether this is enough to allow Mervyn King, the new Governor of the Bank of England, to overcome his naturally hawkish tendency and lead the MPC into a renewed bout of interest rate cuts remains to be seen.

The MPC split six to three last time to leave rates unchanged. Since then house price inflation has continued to abate, though perhaps not as quickly as the Bank of England expected it to, the services sector has shown some signs of a rebound, and manufacturing has begun to contract once more. The stock market has, meanwhile, traded sideways while the international outlook looks as grim as ever.

It would certainly be a surprise if the Bank were to cut, but only because the MPC has established a such a hair shirt reputation for being overly tight with policy. After a brief uptick above target, inflation is again abating while growth remains barely perceptible. The Bank's big concern is that, by cutting rates, it might restoke the housing market and, by doing so, it may be unable to prevent a nasty demand shock further down the line when eventually interest rates have to rise once more.

This seems rather unlikely to me. Another quarter point off interest rates, even assuming it's fed through to variable rate mortgages, or even a half point, is for most home owners neither here nor there. Long-term interest rates are meanwhile rising strongly as bond prices weaken, making long-term finance more expensive. That may be a temporary phenomenon, but combined with renewed strength in the pound, it provides all the justification the MPC could need for further policy easing. Remember, the MPC is charged with promoting growth, as well as keeping the lid on inflation. Don't hold your breath.

eBay makes hay

eBay, the online auctioneer, is one of the very few undisputed winners to have emerged from the rubble of the dot.com boom. It has invented a hugely successful business - a 24 hour, online and global car boot sale - and it's seen off all pretenders to the same throne, not just in the US but in Europe and beyond as well. Furthermore, it's always been profitable. Whether any of this is enough to justify a share price which, after another sharp uptick yesterday is within a whisker of its bubble-inspired all-time high, is an interesting question.

The communications revolution of the late 1990s followed the pattern of most previous technological revolutions - an investment boom followed by a bust. Most of the eager young hopefuls that climbed aboard the bandwagon have either disappeared entirely or been taken over. Only a few victors have emerged, with market positions dominant enough to be the monopolists of the new. EBay is one of them.

Even so, investors again seem to have got ahead of themselves in chasing the price so high. You might have expected them to have learned a little from the bubble, yet some of the same fuzzy logic is being applied. At the time of the bubble, it was generally recognised that not everyone could be winners, but it was hard to identify which, so you backed the lot and prayed that the profits on the winners would outweigh the losses on the losers.

EBay has won the land grab race, the argument goes, so it actually justifies a sky-high share price. It's no longer a gamble. As it happens, the earnings multiple isn't as high as it was during the bubble, for there has been quite a bit of earnings growth since then, but at 110, it once again leaves virtually nothing to chance.

Even with earnings growing at 50 per cent compound a year, it would take four years for eBay to return to a market average rating. Anything can happen in four years, yet the market is assuming it won't, or not to eBay, anyway. Growth has to be maintained at a staggeringly high rate without hiccup well beyond normal forecasting horizons to make this share price work. In the madness of the dot.com bubble, ratings like this and the heroic assumptions that lay behind them were two a penny. Well, eBay won, and if the winner really does take all, then maybe such a ratings will indeed ultimately be justified. Hard to believe though.

Yell bookbuilding

I promised to return to the Yell flotation once the prospectus had been published. This has occurred much sooner than I anticipated, with the whole process from announcing the IPO through to first dealings on the stock market due to be completed within a week. The speed of the flotation has been depicted in some quarters as indecent haste, as if the sponsors are speeding their IPO through the system as quickly as they can before something else comes along to upset the apple cart. They've already had to pull the offer once, and market conditions, although obviously better than they were, are still fragile.

No doubt there is something in this, but it is also the case that the Yell IPO has been ready to go for more than a year now, and to paraphrase Macbeth, if it were to be done at all, it best be done quickly. At least one national newspaper has already invited its readers to "subscribe", which, perhaps thankfully, you cannot do unless you happen to be a fund manager. This is not a retail offer. It is only open to wholesale investors. By the time the small investor gets to buy, any immediate upside in the price will already have gone.

Having failed once, the sponsors do not intend to fail again. The offer will be priced to go, probably at somewhere in the middle of the 250p to 300p range, allowing a decent premium in first dealings. Most of the feedback seems to be positive, leaving little room for upset. Fund managers generally like the business, which they anticipate will become a safe yield stock with good growth potential.

Having read the prospectus, I'm not so sure. The offer is being priced at nearly double last year's revenues, and whereas this is not so unusual for a growth stock, there is little doubt about why the company needs to float: it's got too much debt. Even after the proceeds of the offer are added to the balance sheet, debt will still stand at a worrying £1,364m. This is a strongly cash generative business, so borrowings ought to be paid off quite quickly. All the same, as things stand, interest rate costs continue to ensure bottom line losses.

What's more, Yell faces a gathering groundswell of competition in the paid-for directories business. Among others, BT, Yell's very own former parent company, has declared its intention aggressively to target this business. Personally I worry less about the direct competition than the fact that growing numbers of people don't find Yellow Pages very helpful any longer, and I therefore doubt their long-term relevance and business potential.

This is because they offer no way of grading those who advertise in their pages. Phone up one of the hundreds of plumbers listed in Yellow Pages and you are as likely to get a duffer as a decent service. The flaw in the business model is that Yellow Pages cannot begin to differentiate its advertisers without losing a large quantity of them. In time, many of us might find online search engines a better way of achieving value for money than old fashioned directories. Still, for the time being the City seems willing to put aside these concerns.

House prices

Saturday's outlook referred to house price inflation having slowed to 0.6 per cent "last year". That should, of course, have read "last month". Apologies.