Music Companies Feel Dotcom Meltdown

Private and initial public offering funding for new players has all but dried up over the last year, while equity valuations for stocks in the sector already have bottomed out amid fears over the impact of file-swapping technologies on bottom-line profits and a generally weakening advertising climate both online and offline.

Start-up Internet music companies, along with some parent companies of the major labels and many retailers, wholesalers, and distributors, posted double-digit percentage declines from a year ago, with many stocks trading at near 52-week lows at the close of 2000.

"This is not a must-have investment idea right now," says Sanford Bernstein analyst Michael Nathanson of the current environment for music stocks. "You have slowing demand, you have pricing pressure at retail, and you have the fear of piracy."

Among the few winners of the year: Musicland Stores, which is up more than 50% from 1999's levels, powered by news of its merger with Best Buy, and, on a more modest level, EMI, whose U.K.-listed shares were up 4%, thanks in part to speculators betting on a change in ownership at the major record company.

Not surprisingly, the biggest losers of 2000 were the stocks of new online music players, which were plagued by a broad decline in technology investing, along with mounting losses individually, scarce capital, lawsuits from the major labels, and the rise of Napster.

That's anything but good news for cash-strapped independents as they brace for a more focused push into digital music from the major labels and their high-profile Internet partners in 2001. In fact, analysts say the bottom falling out of music stocks over the past year could translate into major carnage for start-ups over the next 12 months, as they wither away without the support of strong equity currency.

But technology companies were not alone in experiencing stock problems in 2000. They were joined by a handful of small-cap retail and distribution names that found it increasingly difficult to compete in an environment where size and scale are paramount.

Meanwhile, the parent companies of the major labels that are publicly traded experienced a shaky year on Wall Street, too, coinciding with a wave of consolidation that has seen attempts to sell Seagram, Time Warner, and EMI, with varying degrees of success. And virtually every music company is trying to grapple with the impact of a slowing economy—a phenomenon most directly evident in promotion and ad spending.

These conditions are particularly hitting the online space, where the share prices of one-time heavyweights like Real Networks, MP3.com, and Musicmaker.com have declined more than 80% in the past year. Real shares, which traded as high as $96 last February, ended 2000 at $8.68. MP3.com stock, which traded as high as $40.12 that month, closed the year at $3.59.

Once highly praised digital rights management and commerce services companies like InterTrust, Liquid Audio, and Preview Systems have experienced equally steep declines. InterTrust shares, which traded as high as $99.75 last February, hit a 52-week trading low of $3.25.

"A lot of unfounded hopes were dashed, and reality began to set in [in 2000]," says Jupiter Communications analyst Aram Sinnreich of the general climate.

Indeed, shares in ArtistDirect and EMusic both ended 2000 valued at less than 50 cents a share, after trading as high as $12.75 and $11, respectively, earlier in the year. And Musicmaker traded well under $1 during the fall before executing a reverse stock-split late in the year.

However, while the backlash has been severe, it wasn't wholly unexpected.

"To any realist, I don't think the events of the last six months to a year have been a big surprise," says Sinnreich. "People are being more realistic about the scope of what the Internet is going to do to the traditional music industry."

As for the major labels, the stock performance of their parent companies was by and large a judgment on the media sector in general rather than on music specifically, Nathanson says.

Shares in Time Warner closed down 26% from the year before, with its stock hitting a 52-week low of $51.51 Dec. 21, as investors saw the year close without Federal Communications Commission approval of the company's merger with America Online (AOL). The stocks of both Time Warner and AOL (down 58% on the year) are also thought to be victims of the current advertising slowdown scare.

U.S.-listed shares of Sony, which traded as high as $157 last February, also hit a 52-week low Dec. 21, of $67. The Japanese electronics and entertainment conglomerate, which is in the midst of transforming itself into a more Internet-oriented company, reported declining overall profits during the year, and its stock ended down 50% for 2000. Universal Music Group parent Seagram, which saw its stock trade between $42.88-$65.25 in the last year, merged with French conglomerates Vivendi and Canal Plus at the end of 2000. New Vivendi Universal shares closed Jan. 2 at $63.75.

In retail and distribution, concerns about losing market share to pure E-commerce companies subsided in 2000, but that didn't do much to improve investor enthusiasm.

While Musicland shareholders may have benefited from the Best Buy deal, Best Buy shareholders weren't as lucky. The acquisition was not favorably received on Wall Street, and the stock ended the year down 48.8% at $29.56. It had traded as high as $88.88 in April.

Shares in Trans World Entertainment were off 11% on the year, closing Dec. 29 at $8.93, and Handelman shares, off more than 50% on the year, closed 2000 at $7.50 after hitting a 52-week low of $6.44 Dec. 21. Meanwhile, Valley Media shares ended 2000 on a 52-week low of 75 cents. The stock traded as high as $9.38 during the year.

Also ending the year below $1 were K-tel International and National Record Mart (NRM), which were both delisted from the Nasdaq National Market due to anemic trading levels and market capitalization issues. K-tel stock hit a 52-week low of 15 cents a share Dec. 29. The stock traded as high as $8.63 earlier in the year. NRM stock, which traded as high as $6.13, hit a 52-week low of 9 cents Dec. 28. Shares closed Dec. 29 at 19 cents.