Dot-Com Death List Slays Whole Truth

Goldman Sachs’ Anthony Noto is highly respected as one of the most knowledgeable analysts in the dot-com world. But his recent listing of several online companies — separating firms that are in the pink from those gasping for air — should have everyone casting a more skeptical eye toward all “industry analyst predictions.” The three-tiered list is top-heavy with Goldman Sachs underwriting clients.

Noto’s list of dot-coms in trouble made headlines throughout the e-commerce world when it was released a month ago. Although the list does not explicitly predict the demise of any companies, the message about cash positions and burn rates is clear enough.

The Strong Survive

The report was instantly dubbed “the deathwatch list” by some pundits. At the time it was released, Noto said it was based mainly on a calculation of how long companies could continue to sustain current operating losses before hitting the capital markets.

More recently, Noto said he looked at more subtle measures, such as whether companies were instituting money-saving initiatives or could expect to see income increase in the short term.

Not surprisingly, Amazon and Priceline placed in the top tier of companies — those Noto considers the most likely to survive in the long term. But, as the Wall Street Journal reported earlier this week, Noto’s list of the fittest also includes Ashford.com.

When the list was compiled, Ashford reported having $46.5 million (US$) in cash reserves. By comparison, several companies in the third tier — those considered most in danger of failing — had what appeared to be much stronger cash positions. For instance, third-tier Buy.com had $144.5 million worth of cash in the bank when the list came out.

Full Disclosure

One difference, as the Journal article points out, is that Ashford and Priceline are Goldman Sachs clients while Buy.com and other third-tier companies, including Network Commerce and Onvia — which also had more cash on hand than Ashford — are not.

Overall, Goldman Sachs counts 7 of the 8 top-tier companies among its clients, compared to 0 of the 15 in the bottom tier. While some executives may be wont to publicly criticize the massive investment bank — for fear of losing it as a potential underwriter for an IPO one day — someone should stand up and say publicly what one dot-com chief told the Journal anonymously: That the facts seem to reduce the credibility of Noto’s report.

Separation of Powers

Noto points out that his work on the research side is independent of the banking side at Goldman Sachs and that he used an established and complex formula to come up with his rankings. In other words, he did not do a simple cash-burn calculation, but looked at factors such as cost controls, competition and so on.

Still, whether or not Noto’s rankings are justified, it will likely be impossible for the bottom-listed firms to erase the “third-tier company” stain — and Noto himself predicted that those are the companies most likely to be hitting the capital markets in the next few months.

Imagine how much harder it will be, in light of the Goldman Sachs list, for any of those dot-coms to convince venture capitalists that their businesses are not burning cash too fast and are on track to be profitable.

The Truth Is In There?

Because of the tremendous impact Noto’s list would be sure to have, the analyst should have stated up front and center who is and is not underwritten by the bank. Failure to fully disclose Goldman Sachs’ relationships with the firms on the list sent up a red flag that is now casting a shadow over all industry research and analysis.

Interested parties should not be required to heavily salt “independent research” that forecasts who will be left standing in the e-commerce world a year from now. And such research should not be designed — even if unwittingly — to contribute to the outcome it purports to predict.

The problem is that the firms with the resources to undertake top quality analyses are often those who have clients in the same industries. While firms such as Forrester Research excel at evaluating the health of public companies — which are required to disclose their financial data — they cannot get an equally solid handle on the fiscal strength of private companies.

Everyone Suffers

The consequences of the Goldman Sachs report go beyond the irreparable harm the list may cause to companies ranking in the bottom two tiers. Noto’s list damages e-commerce as a whole, by skewing the views of potential investors and creating a cloud of doubt around the entire body of industry research.

The wild fluctuations of the Internet-heavy Nasdaq stock market are proof enough that a herd mentality often governs the sector. A single damning observation from a well-respected analyst like Noto can drastically affect a company’s future.

Good analysis — which is what Goldman Sachs typically delivers — always includes enough supporting data to allow careful readers to make their own decisions. But analysts like Noto should be well aware that “careful” readers are few and far between. Many dot-com decision-makers go strictly by the bullet points.

Since it is nearly impossible to keep track of who has linked with whom in the e-commerce universe — given the speed of Internet wheels and deals — responsible industry analysts should take extreme care to be upfront about their financial relationships with the companies they bless — or condemn.