Study: Dot-Coms Should Make Cuts in Operations, Not Marketing

Dot-coms seeking to become profitable should focus on cutting operating costs instead of sales and marketing costs, according to a new study released Wednesday by New York-based consultancy Getzler & Company

Getzler, which specializes in corporate restructuring, studied some 190 tech companies, and compared the second and third quarter performance of firms that cut marketing costs with firms that cut operations costs.

Surprisingly, from the second to the third quarter, the firm said average losses remained constant at companies that cut operations costs — but more than doubled at firms that cut marketing costs. That might come as a shock to many restructuring firms, which typically cut marketing, advertising and public relations staffs and budgets when looking to shave costs.

“While sales growth among the two groups remained approximately the same, there was a dramatic difference in profitability,” said Getzler & Company vice president Brian Mittman. “These results indicate that marketing costs remain a far greater driver of profitability for dot-coms than operations costs.”

It’s not all bad news for the Internet industry. During the third quarter, the industry maintained healthy revenue growth — more than 50 percent annually — while making some progress in reducing operating losses.

Roughly 40 percent of the firms in the study underwent restructuring during the third quarter, up from 27 percent during the second quarter, with restructuring being defined as job cuts, significant management overhaul, and consolidating lines of business. Of the 190 firms in the study, the average firm lost $12.8 million on $25 million in sales during the third quarter, up from losses of $13.4 million on second-quarter sales of $22 million.

Nevertheless, Getzler’s Mittman remains cautious.

“The bottom line is that virtually all dot-coms are still losing money. The ratio of their losses to sales remains high, and though losses are narrowing, it’s not happening fast enough,” said Mittman. “At that rate of improvement, in the current market environment, most firms won’t be around long enough to become profitable.”

The Getzler study pegged companies like Priceline.com and Buy.com as companies unlikely to turn around anytime soon. Both came close to profitability, but saw sales drop in the third quarter.

More likely success stories, according to the firm, include companies like financial information provider Multex.com, online real estate broker Homestore.com, and B2B community operator VerticalNet. The three companies had losses less than 9 percent of their revenue. And those losses were down from second quarter, while quarterly revenues were up by at least 20 percent.

The study also highlighted a number of firms whose financial performance was particularly poor, especially in contrast to traditional firms.

“We saw certain firms which had, according to traditional metrics, absurd performance. Companies like estamp, Stamps.com, and quepasa, whose marketing budget alone was as much as seven times their sales levels,” Mittman said. “Such firms ranked among the worst in their prospects for becoming profitable and for their proportion of expenses to sales.”

The study also highlighted firms that, despite making sizable increases in their sales, ad and marketing efforts, still experienced dropoffs in sales. Those included high-profile financial Web site TheStreet.com and online community play TheGlobe.com.

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