NetZero To Hero?

By Dave Marino-Nachison (TMF Braden)
September 24, 1999

Free Internet service provider NetZero (Nasdaq: NZRO) hit the ground running today, its shares rising more than 70% in their first day of trading. The company, the first American "free ISP" to go public, raised $160 million by selling a 10% stake -- 10 million shares at $16 each.

Despite the warm initial public reaction, there are plenty of reasons for investors to take their time in looking over NetZero and other free ISP offerings.

Simply put, consumers have proven themselves willing to pay for Internet access and services -- and a host of companies, from America Online (NYSE: AOL) to recently betrothed MindSpring (Nasdaq: MSPG) and EarthLink (Nasdaq: ELNK) and on and on -- have determined that the subscription business is a good starting point for a profitable enterprise.

Taking that into consideration, it's important to keep in mind what hook, exactly, companies like NetZero and U.K. ISP Freeserve (Nasdaq: FREE) believe they can offer not only consumers -- that one's obvious -- but investors concerned with profitability.

In the case of NetZero, the company's investor hook is the ZeroPort (click here then look for the link on the right for a virtual tour), a nifty-looking car-stereo-esque apparatus that sits on your screen as long as you're online bearing banner ads and links to the services features -- email, a stocks/sports/news ticker, more -- and to its partners in shopping, finance and other categories. Naturally all the companies provided easy-access space on the ZeroPort have paid for the privilege.

The ZeroPort can't be closed or even resized -- and we'll assume that all of you can quickly see how that might become a bit tiresome after a while.

So the question for the users NetZero hopes to attract is whether they will put up with the intractability of the interface in order to get the service for free -- leaving the consumer entering into the relationship from a position of weakness, so to speak. With so many choices in the market, going from simple dial-up all the way to high-speed DSL and other technologies, it would seem that free ISPs should be bringing more to the table.

"The value of NetZero's proposition is evidenced by our growth," reads the company's prospectus. "Between our October 1998 launch and June 30, 1999, approximately 1.17 million users registered for our service." Say, that's a pretty darn good number for nine months of business!

Wait a moment. "During June 1999," continued NetZero, "approximately 613,000 of these users accessed our service." In one fell swoop, the number of consumers potentially generating revenue for NetZero has been cut in half.

Wait another moment. What investors should really want to know is how many of those 613,000 are using the service regularly. Did 613,000 people sign up, check it out once or twice and then head back to AOL's Backstreet Boys chat areas? Or do all 613,000 use the service every day to check email and surf the Web? It's probably somewhere in between; whatever the actual number is, that's the metric advertisers will be (and investors should be) keying on.

Think about it: you could sign up for a dozen free ISP services just for kicks one slow winter day, but you're probably only going to use one even if you drop your pay service -- and that's the one you're probably most likely to use given that you've paid for it, unless you truly don't mind being bombarded with ads and plied for your consumer data.

Of course, as competition in an industry heats up you can bet there'll be price competition -- Microsoft's (Nasdaq: MSFT) has already indicated that it's willing to undersell the rest of the field as it doesn't need the ISP business to make money. Does that mean across-the-board free service is an inevitable reality? Given the expenses historically involved with establishing and maintaining a competitive ISP, that seems unlikely.

Throw into the mix a history of losses seen repeating itself into the foreseeable future and the fact that despite its free designation, NetZero still competes with the fee-based services that have considerable resources at their disposal.

A generous host of free products and services -- from newspaper content to financial information to Internet access -- have found their way onto the Web of late with their catch generally being that they are advertising-supported. But is that enough? Given the volume of comments TheStreet.com's J. J. Cramer makes that I find personally disagreeable, I'm hesitant to quote him, but today I read a line of his that seemed applicable here. "If you find a Web business with just one revenue stream," he said, "that business will fail."

Are NetZero and other free ISPs doomed? It's probably premature to make such a declaration today. But, from what I can see, the future of gratis Internet access might not be its current form, but rather as an offshoot of, perhaps, a software business or media company that positions Web access as a springboard to its other offerings.

Related Links:
NetZero Home Page
News World, 9/23/99, "EarthLink Links Up With MindSpring"

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