System Crashing

Buying Wired magazine may align you with the digerati, but buying its stock might sink you into poverty

The futurists at Wired magazine -- the self-described vanguard of the digital revolution aimed at the "most powerful people on the planet today" -- pride themselves on being ahead of the curve. Louis Rossetto, who founded Wired in 1993 with Jane Metcalfe, frequently waxes philosophical about the profundity of the era his cutting-edge magazine simultaneously chronicles and promotes. "It's a new economy, a new counterculture, and beyond politics," Rossetto told the New York Times Magazine last year. "In 10 or 20 years, the world will be completely transformed. Everything we know will be different. Not just a change from L.B.J. to Nixon, but whether there will be a President at all. I think Alvin Toffler's basically right: we're in a phase change of civilizations here."

Rossetto, Metcalfe, and crew not only managed to make these grand pronouncements with straight faces; they delivered, turning Wired into what is arguably the hottest magazine in the country. With a vertiginous design that often renders it all but unreadable, Wired quickly became de rigueur for the digerati, a fanzine for the technophilic. Simply put, Wired holds a virtual copyright on at least one big byte of the virtual revolution.

The franchise is growing even broader these days at the Third Street warehouse that Wired Ventures Inc. calls home. HotWired, a popular and well-designed on-line magazine that practices "way new journalism," hit the Internet in 1994. (Don't call HotWired a Website within earshot of any employees, however; they sniff that their product is a "cyberstation.") A publishing division has six hard-copy book titles planned for the fall. A televised version of "Netizen," the political forum carried by Wired and HotWired, will debut in August. And HotBot, a search engine that indexes 51 million Web documents, is up and running.

Of course, creating a media empire doesn't come cheap. That's where you come in. Wired Ventures announced on May 30 that it will soon sell stock to the public at $12 per share, which would make it worth $495 billion if all goes as planned. Wired joins Netscape, Yahoo!, and a passel of related companies that have gone public in the last year -- all dramatically increasing the population of paper millionaires. So, despite all its paradigm-shifting pretense, Wired is plainly pragmatic. Rossetto and Metcalfe can't discuss the initial public offering (IPO) because Wired Ventures is in SEC registration, but they clearly hope to benefit from the new class of investors ravenous for all things Internet.

"It's been the go-go '90s of Internet IPOs," says Connie Bagley, an attorney and lecturer at the Stanford Business School. "Everybody has this dream that if they invest $10,000 and wait six months it will suddenly be worth $100,000."

But in the case of Wired, isn't this a bit much to ask for an enterprise that is posting pretty big losses -- and freely admits it can't guarantee hitting the black anytime soon? The unspoken truth is that Wired Ventures is ultimately little more than Wired magazine, which accounts for 92 percent of the company's revenue. And, whereas the value of a typical magazine usually falls between eight and 10 times its operating cash flow, Wired has the chutzpah to ask for close to 20 times its revenue. That might be acceptable, of course, if the company's other interests sweetened the deal enough to justify it. They don't.

Wired's on-line component is considered one of the best in a crowded field, but no one has figured out how to make money on the Internet yet. Book publishing and television production face cutthroat competition and a slim chance for profit. Even Wired's status as a high-flying magazine with attitude is nothing to bank on; picked up a copy of National Lampoon or Spy lately?

Wired Ventures may have a lot going for it, but it's hard to find anyone who thinks it's worth half a billion bucks.

"To be honest, I'm a little jealous," David Bunnell, who founded several magazines including PC Magazine, PC World, and Macworld, says with a laugh. "I think a lot of people may be taking out their resentment on Wired for all the publicity and praise it's gotten in the past. I think it's a good, promising company. If it pulls this off, it will be good for publishing as a whole."

But asked if he's planning to shell out $12 a share for Wired stock, Bunnell replies: "Oh God, no way!"

Adds Richard A. Shaffer, publisher of VentureFinance, a newsletter that tracks venture capital and initial public offerings: "Most Internet companies these days don't even have revenues, much less profits. At least Wired has built a real business. It has real readers. It has real advertisers. It's a legitimate, growing concern. That's cause for congratulations. But let's be honest; basically, you've got a magazine trying to pass itself off as an Internet company. It's not worth $12 a share. That's just preposterous."

True, preposterously inflated issues are not unheard of these days. But Wired Ventures may have missed the recent IPO gravy train. Investors who paid top dollar for Internet stocks during the past few months have been crying over their keyboards every time they go on-line to check prices.

Analysts are even warning that piss-poor IPOs could spark a downturn in the high-tech sector. That, in turn, could trigger the long-awaited correction in the stock market. For once, Wired may be behind the curve.

"I definitely see the possibility of a strong investor backlash against Internet IPOs," says Mike Walsh, president of Internet Info, a market research and consulting firm. "It's getting to the point that being associated with the Internet may be a penalty to a company going public. Wired's price is extremely rich regardless of when they decided to go public, but launching their IPO now makes it a real tough sell."

Not to the major Wired shareholders it isn't. If the public purchases the 6.3 million shares -- or 17 percent of the company -- that is being offered, Rossetto and Metcalfe will be worth $71 million and $69 million respectively. Nicholas Negroponte of the MIT Media Lab will add $29 million to his net worth, and S.I. Newhouse of the Newhouse publishing empire will reap a $50 million reward for his $4.5 million investment.

In the inaugural issue of Wired, Louis Rossetto proclaimed that "the Digital Revolution is whipping through our lives like a Bengali typhoon." The typhoon, however, has not been accompanied by a financial windfall.

Wired Ventures spends more money than it makes. Since its launch in January 1993 through the end of March 1996, the company has posted operating losses of nearly $16 million. It has dropped more than $1 million a month so far this year.

And things aren't going to get better anytime soon. "The Company expects to incur operating and net losses for the foreseeable future," according to Wired's SEC filing. "There can be no assurance that the Company can maintain or increase its revenues in the future to offset its increased operating expenses."

It's a troubling admission for Anne Russell, editor of Folio, a trade publication for the magazine industry. "The thing that would scare me off as both a magazine professional and an investor is that they aren't suggesting a turnaround at some point," Russell says. "The SEC filing has the tone that not only are they losing money like madmen, but they will continue to do so at a very rapid rate into the foreseeable future. That's not very reassuring."

All the spending, mind you, has helped Wired Ventures grow. Total revenues topped $25 million last year, up from just under $3 million at the end of 1993. Magazine circulation has increased from 110,000 to more than 300,000 in three years. HotWired and SUCK -- a Website offering snotty and smart commentary on the Net that was started by HotWired rebels who have since been (financially) persuaded to return to the fold -- rack up a combined 25,000 to 30,000 impressions every day. That's double the number of visitors to the sites in September 1995.

It's important to note, however, that net losses as a percentage of revenues fluctuated between 26 and 39 percent from 1993 to 1995. For the first three months of this year, that figure climbed to 44 percent. As Wired Ventures expands, so do its losses.

And it plans to expand a lot. Wired's SEC filing proclaims that "its mission is to build a new kind of global, diversified media company for the 21st century." Wired products will be "aimed at a well-educated, affluent, technologically savvy, and influential consumer group." Judging from the various enterprises that Wired Ventures will combine to create this futuristic media holding, however, it's time to call Mr. Phelps (or, for the Wired generation, perhaps Tom Cruise). This is one mission that could be nearly impossible to pull off.

Wired did launch a pre-emptive strike by bringing the HotBot search engine to market shortly before announcing the IPO. This bolstered its claim of being an Internet stock, instead of just a magazine.

"It was a very clever move," says Rich Karlgaard, editor of Forbes ASAP. "If there was any confusion, it puts Wired into a slightly different taxonomy, where Wall Street is giving the highest valuations."

Sure. But it also throws Wired Ventures into competition with more than a dozen other search engines, including Yahoo!, AltaVista, and Excite. When analysts talk about a high-tech segment where more than a few companies will inevitably tank, they usually mention the crowded Web browser field. Last month alone, for example, Lycos' stock price dipped from $18 to $10.

What's more, HotBot didn't exactly hit the ground running, as Wired Ventures' own SEC filing concedes. Bugs are causing "improperly displayed graphics, long query times, and incomplete searches." Nor does the filing promise the arrival of a systems exterminator to save profitability. "While the Company and its HotBot strategic partner are working to solve the technical issues with the HotBot service, there can be no assurance that [it] will perform at a level sufficient to achieve market acceptance."

So what if on-line profits remain ethereal. The Wired brain trust knows how to make a buck on good old-fashioned paper, right? Don't count on it. Wired Ventures' nascent book publishing operation, HardWired, has six titles scheduled for fall release, ranging from a reprint of Marshall McLuhan and Quentin Fiore's groundbreaking The Medium Is the Massage to Digerati: Encounters With the Cyber Elite by John Brockman. But calling the publishing business competitive is like saying Wired's "innovative" design makes it only slightly difficult to read.

"Almost no magazines make money on books, especially magazines with a circulation of just 300,000," says veteran magazine consultant John Klingel. "The magazine companies that do make money -- Rodale Press, Meredith, Southern Progress -- have much higher circulations."

HardWired's own promotional materials indicate the company has a way to go before it can compete with big-name book peddlers. A pamphlet touting "Wired Style: Principals of English Usage in the Digital Age" by the Editors of Wired makes a reference to The Electric Kool-Aid Acid Test by Thomas Wolfe. It's hard to say whether Tom Wolfe would feel flattered by the confusion with the author of You Can't Go Home Again. But the mistake is American Lit 101.

Wired Ventures' plans for NetizenTV and the programming that follows are equally iffy. The magazine Martha Stewart Living has a circulation of more than 2 million, yet the Wundermaid's TV show still isn't turning a profit, according to Klingel. It's unlikely that Wired would fare any better.

If anything, Wired Ventures' plans to diversify into such unpromising realms actually weaken its prospects for profits in the near future. Instead of boldly going where no magazine has gone before, it's backpedaling into the past, weighing the company down with the "old media" it's so apt to downgrade in the pages of its magazine and on its Website, uh, cyberstation.

All that said, Wired remains miles ahead in covering the ongoing transformation to a technological society; it just has yet to download dependable, Internetine profits. Which makes its financial future, along with thousands of other on-line enterprises, unpredictable at best.

"All the Internet stocks are way overvalued because no one has shown how to make money on them yet," Klingel says. "Now we have a magazine like Wired that's remotely connected to the Internet because it has a Website and a search engine. A prudent investor would not exactly jump at the chance to buy into that operation."

Of course, Wired's franchise among the digerati gives it major chops in the magazine market. Or does it? Often obscured in all the media attention and hype surrounding the magazine is that nagging circulation of just 300,000. Again, the seemingly dissonant comparison to Martha Stewart Living is instructive. That lifestyle publication started shortly before Wired and now boasts a circulation of more than 2 million. To put it in even sharper perspective, a Berkeley-based mag called Cross Stitch topped 2 million in the late '80s before declining. Wired is trumpeting a fundamental change in the way we live our lives -- as Rossetto says so often, a revolution! -- yet it can't even attract half as many subscribers as a DIY mag or a fanzine for knitters.

"The media as a whole tends to exaggerate by a wide margin how popular the high-tech subject matter in Wired really is," says John Masterton of the Media Industry Newsletter, a trade publication devoted to publishing and electronic media. "Just because journalists get excited about Wired doesn't mean the guy in Dubuque knows or cares. It's inevitable that Wired's glow will fade. I don't see huge potential for circulation growth."

What's more, Wired's 300,000 aren't necessarily the country's most sophisticated Webheads. One veteran free-lancer for Wired who asked not to be identified declared that Wired's image as the bible for hip, young technophiles has never matched its true audience. The reader profile bears this out. The median Wired reader is a college-educated 37-year-old male with an average household income of $122,000 and a net worth of $603,000. The average HotWired member is younger (32 years old) and decidedly less affluent with a median household income of "just" $50,000.

"They position the magazine as being for the digerati," the writer says. "The real audience is middle-aged white boys who are young enough that they still want to try to be hip, but they are too old to install a Web browser on their computer without the help of a 15-year-old. So they use Wired as a kind of liar's guide to knowing enough about the digital revolution to be interesting at cocktail parties."

Again, fossil fuels such as Spy and National Lampoon come to mind.
Wired Ventures has approximately 285 employees, with 129 devoted solely to Wired magazine, not to mention a bevy of free-lancers. The large budget and staff size have raised more than a few eyebrows in publishing circles.

"As a person more interested in content than profits, I think what they're doing is great, but I sure wouldn't want to see Wired spending money as quickly as they are if I were an investor," says Folio's Russell. "I can't help but feel that if I had that kind of money to throw around, I could put out a magazine like Wired, too. It's the same feeling I get about Pamela Anderson; if I spent all that money, I could look like her, too."

But to flame Wired as merely profligate would be unfair. "Wired was the most notable new magazine of 1993, and it still has no real competitors," says Samir Husni, a University of Mississippi professor who publishes a yearly guide to new magazines. "It's stayed on top for a surprisingly long time for a magazine in a very competitive field."

Editor at Large Katrina Heron calls Wired downright "liberating" compared to the more traditional publications where she has worked, including the New York Times Magazine.

"At the Times, if someone was doing something kind of edgy or new or impolitic or iconoclastic, the editors would watch that person's progress though other media until one of the gray-suited men would decide that the New York Times could pronounce on that person," Heron explains. "And they very much felt that until it happened, that person had no standing. The great irony of more traditional magazines is that they hire young people because they are seeking innovation, but then they have a problem dealing with it. It's the exact opposite at Wired. It's not about covering a group of people who are considered worthy of journalistic attention. It's about going out and finding interesting stories, wherever they may be. A lot of subjects in Wired have never gotten that much, if any, press attention before. I find that really kind of thrilling."

For many of the roughly 130 workers at HotWired and SUCK, the troops at Wired are viewed as their more stable -- but less hip -- older siblings. While Wired's initial, frenetic turnover has slackened considerably since the magazine's early days, HotWired is virtually a revolving door.

"It's understandable that there's a lot of turnover," says Carl Steadman, who created SUCK with Joey Anuff. "The technology is moving so fast that no one is quite sure what they're doing. We're all just throwing stuff up and seeing what sticks. Everyone's job description and what you do on a day-to-day basis changes. Your relationship to people who are at least nominally your managers changes as well. ... That makes for a very Darwinistic environment. It makes for a very Wired environment. The pages of Wired speak about this sort of every-man-for-himself new world. And not everyone is ready for that. It's really tough."

Anuff adds, "It's either totally exhilarating, or it sucks. And both can happen in the same day."

One former HotWired employee, who asked not to be identified, offers a more mundane view of labor on the digital frontier, describing life in the Wired compound as more akin to a poorly run cybersweatshop than a hotbed of creativity.

"You have two or three low-paid people struggling to do a job that one well-paid, more experienced worker could handle," the ex-employee says. "Some people find that exciting. Others find it unbearable. But whichever side you take, it's not a very efficient way to run a business. And that's fundamentally what the whole thing is -- a business."

Even a simple staff meeting can turn into an exercise in futility at Wired Ventures, where workers abound but leadership is apparently quite scarce. Another exile remembers a gathering called to discuss the weighty issue of HotWired's "editorial direction." It ran for three hours, and the bulk of the confab revolved around choosing icons and colors for a HotWired section. In the end, nothing was nailed down. Other meetings were scheduled for late afternoon but didn't get off the ground until midnight. Workers were expected to wait with no word on when they could finally head home.

"If a meeting was scheduled for 2 p.m., that really meant anywhere between 2 and October," the ex-employee explains.

Still another deserter -- they aren't hard to find -- now works at Hewlett-Packard and explains that the Wired working environment lacked just four things: "respect, dignity, trust, and courtesy."

But higher-ups counter that unpredictability is an inevitable byproduct of an expanding company. "HotWired has gone from a handful of employees to more than 150 in less than two years, so there are amazing opportunities here," says Catherine Litzow, director of marketing communication. "The stress and the change are the price we're paying for pioneering a new industry and working for a rapidly growing company."

That feeling is shared by some current employees at HotWired, who feel their cyberstation is often viewed as an on-line afterthought by the hard-copy magazine, where staffers tend to be more experienced and better paid.

When a panel of federal judges struck down the Communications Decency Act (CDA) on June 12, Wired threw a South Park party with beer and a reggae band to celebrate. Todd Lappin, who edits the "Cyber Rights Now" section in Wired and also writes for HotWired, helped organize the bash while fielding calls from the media. In the process, he missed a deadline for a HotWired item on the court decision. Lappin points out that HotWired director David Weir gave him an extension, and he turned the story in the next day. But the move still irked the rank and file at HotWired.

"He was too busy talking to the old media to keep the readers of new media informed," says a disgruntled HotWired staffer who asked not to be named. "We didn't have something on the CDA the day of the court decision, and it made us look stupid. People here were really mad. [Lappin] is supposed to care about the Internet, but he's tapping a keg and talking to reporters instead of writing an important story. Too many people at Wired are using the Internet just to further their own careers and get their name out there."

Wired Ventures may set the agenda for cyberculture, but its public offering could make it part of a pack that Louis Rossetto and Jane Metcalfe want no part of: the bellwether of a market crash.

"Many of these unproven companies have higher valuations than institutions you've been buying products from all your life," says Roger Smith, founder of Silicon Valley Bank, a well-known sugar daddy for high-tech start-ups. "When these young companies collapse, a lot of people will get screwed."

A record-breaking amount of money from institutional investors such as pension funds is flowing into venture capital firms. The VCs, in turn, hunt for companies to back. With the stock market booming, retail investors are looking to score as well. When they see the astronomical returns flowing from public offerings -- the "new products division" of the market -- scads of armchair Donald Trumps are throwing their money at the IPO flavor of the week. It's a case of too much money chasing too few deals, and many companies are going public as early as possible to reap the financial rewards. Through April of this year, 85 public offerings raised $4.3 billion. Last year, 203 venture-backed IPOs rang up $8.2 billion. That compares with 1990, when just 42 IPOs raised a paltry $1.2 billion.

"There's no doubt that we are in an explosion of Internet-related and data communication IPOs," says Jim Breyer of Accel Partners, a San Francisco venture capital firm. "By any historical measure, more companies are going public at an earlier stage than they ever have before."

Public offerings have always been chancy endeavors, but they are even riskier these days. An unwritten rule once held that a company needed a product, revenues, or -- believe it or not -- profits before testing the public waters. At the very least, a business needed to avoid losing large amounts of cash. Those days are gone. Netscape made its huge public offering, which pushed its value to $6.7 billion, based on $9.4 million in losses. Yahoo! racked up a $765 million valuation on no revenues at all. Although they are very different forms of financing, IPOs could be described as a kinder, gentler, '90s version of junk bonds. And just like junk bonds, IPOs could spur a stock market swoon similar to the nose dive that occurred in the '80s.

"They're not quite as bad as junk bonds, but the danger of all these high-tech IPOs is substantial," says Stanford's Connie Bagley. "My fear is that when a lot of these IPOs begin to fail -- and many will fail -- investors could lose confidence in the market as a whole and start saying, 'Oh my God, stocks are really, really risky; stocks are dangerous; let's dump stocks.' "

Optimists who blissfully ignore the inevitability of a high-tech dip simply haven't done their homework. "Historically, a lot of different emerging technologies have had periods of very rapid growth followed by a shakeout," says Josh Lerner, an assistant professor at the Harvard Business School. "It happened with the automobile industry in the 1910s right up through biotechnology in the 1980s."

At any other time, the failure of several companies in a single sector wouldn't be enough to put the entire market in a tailspin. But today's investors are especially skittish. They know the bull market can't last forever, and they're itching for a sign that it's over. A downturn in the high-tech sector could be perceived as an omen that the long-awaited correction in the market has arrived; Paul Revere announcing the bear market is coming.

"It's not far-fetched at all to expect that a significant downturn in a sector as broad as technology would pull the entire market with it," cautions Accel Partners' Breyer. "And there will be a shakeout in the technology sector. Nineteen ninety-five was an exceptional year, but there aren't going to be many more like it. These are the good old days."

Many stock prices of high-profile Internet companies that recently went public have already sunk below the jacked-up levels achieved in the buying frenzy surrounding their IPOs. Yahoo! has dropped by one-third in the last month alone. Netscape stock has sunk by 20 percent from its top price. Investors who got schooled on the altitude drops of those high fliers may have learned their lesson.

In that case, Wired's loss could be the public's gain.

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