When dotcoms become dotbombs

by Scott Thurm and Suein L. Hwang

How do you run a new economy company with a falling stock price?

Until now, that's been largely an academic question. Internet companies of all stripes have used buoyant stock -- and the prospect of even bigger payoffs -- to recruit employees, make acquisitions, even pay lawyers, landlords and electricians.

Now, wildly gyrating share prices are putting this business model to the test. As the prospect of a stock market in free fall becomes all too real, Internet darlings are finding they have to pay employees more, treat them better, grovel for support services and, most of all, lay out a convincing path toward profitability.

In short: Falling stock prices change everything for the industry that was supposed to change everything. Now, says Jon Holman, who runs an executive-search firm in San Francisco, "the dotcom companies will have to start doing all of the things other companies on the planet do."

For starters, that means attracting and keeping talent with lures other than surefire stock-option gains -- a task made particularly hard for Web retailers by the recent fall from grace. To snare Chief Executive Frank Newman, for example, San Francisco online pharmacy More.com Inc. offered a $500,000 salary, a guaranteed bonus of $250,000, a $500,000 relocation package, as well as a $1 million signing bonus in restricted stock and stock options valued at 5 percent of the company.

Business-to-business Internet companies, until recently considered hot properties, are fighting recruiting wars as well. Lu Cordova, chief executive of Acteva Inc., a San Francisco-based Internet "marketplace" for event organizers, says a recent candidate for chief financial officer demanded a $350,000 salary, plus "huge" stock options. Cordova demurred.

Plunging stock values are making it harder for Internet companies to retain employees too. Silicon Valley workers often monitor the company stock price obsessively and are quick to flee when share prices stagnate or fall.

"People are very focused on the upside of the stock, on quick wins," says Janice Roberts, senior vice president of 3Com Corp., a maker of computer-networking equipment that struggled to recruit and retain employees after its stock lost half its value early last year.

At Nextcard Inc., a San Francisco issuer of credit cards over the Internet, officials have turned weekly Friday lunches into morale-boosting sessions. Nextcard shares, which hit a high of $44 last June, were at $14.375 in 4 p.m. Nasdaq Stock Market trading Wednesday. "We're saying, 'Hey, this is an absolutely exciting time for us as a business, and we need to separate the market's gyrations from the great success we're having every quarter,'" explains Dan Springer, the company's chief marketing officer.

Some companies may consider reissuing stock options at a lower price. The strategy can help keep employees, but it also can hurt earnings and anger investors. "It's not fun and not easy to reset your option strike price," says Marc Bruneau, president of the consulting firm Renaissance Strategy Worldwide Inc., in Boston.

Good for venture capitalists
Falling stock prices are also making it nearly impossible for prospective Web retailers to obtain start-up money. When they do cut deals, start-ups will find themselves calling far fewer shots than has been typical in recent years.

This is a welcome change for venture capitalists such as Tom Dyal, a partner at Redpoint Ventures, Menlo Park. Calif. After the most recent market sell-off, Dyal said: "As long as this debacle doesn't continue, it's probably the best outcome for the [venture capital] business."

In other sectors, late-stage financing deals and initial public offerings will be delayed, scaled down or canceled. "People who need to do financing in a short time period will find themselves in a real tough squeeze," says Nextcard's Springer.

Companies also could find it harder to grow by acquisition as their stock becomes a less-compelling currency for purchases. New-economy paragons such as Healtheon and fiber-optic component maker JDS Uniphase Corp. have been aggressive acquirers, courting companies, as they do employees, with the prospect of rising share prices.

Still, JDS CEO Kevin Kalkhoven says stock swings won't deter acquisitions, since, prices for targets are likely to rise and fall in tandem with JDS's own shares. "We did deals when our stock price was half of today's, and we'll do deals when our stock price is twice what it is today," says Kalkhoven, who announced a US$750 million acquisition on Tuesday.

Internet companies will find support services harder to come by. Melody Haller, president of the Antenna Group Inc., a San Francisco public-relations firm, stopped taking on new Internet-retailing clients six months ago. "The game is done there," she says, arguing that some prospective clients have less of a business plan than a "delusion" of success.

Even when support is available, it's likely to be more expensive. Lawyers, ad agencies, PR firms and headhunters have accepted -- in some cases demanded -- stock as payment for their services in recent years. Holman, the recruiter, says he will still take stock in start-ups but will demand more shares -- or more cash.

An Internet shakeout will affect these supporting industries as well. Internet companies spent $3 billion on advertising last year, to uncertain effect, and many companies are now cutting back. In particular, newcomers formed to take advantage of the Internet boom may suffer.

Ann Grimes, Wall Street Journal, contributed to this article.