The Last Days of Net Mania

Marc Andreessen was there when the dot-com boom began. His IPO for Loudcloud marks its end

Internet legend Marc L. Andreessen is running on adrenaline. It's the late afternoon of Mar. 8, and he has just completed a backbreaking, initial public offering road show that landed him in 70 meetings in 16 days with moneymen scattered across North America and Europe. Andreessen has been trying to wow institutional investors with his 18-month-old Internet startup, Loudcloud Inc. (LDCL ) Now he's hunkered down with a handful of Loudcloud associates in a sixth-floor conference room at investment bank Morgan Stanley Dean Witter's (MWD ) Manhattan headquarters. Outside, dark clouds engulf New York's steel towers. But the road-weary Andreessen and his pals have their own storm to contend with.

Loudcloud is going public at the worst possible moment. A day earlier, Web portal Yahoo! Inc. (YHOO ) sent the market reeling by announcing a massive sales shortfall. Today, chipmaker Intel Corp. (INTC ) warns it will badly miss first-quarter revenues and will cut 5,000 jobs. The Nasdaq Composite Index sheds 55 points and is nearing a 26-month low. The cratering conditions are ominous for the startup, which runs complex Web sites for businesses. When Loudcloud first filed to go public 164 days earlier, it was valued at $1.15 billion, in spite of losing $107 million on only $6 million in revenues in the three quarters ended Oct. 31. At the most recent price range of $6 to $6.50 a share, it would be worth just $440 million. Even at the new price, the salespeople from Morgan Stanley and co-underwriter Goldman, Sachs & Co. (GS ) aren't having an easy time selling all the IPO shares to institutional investors. Finally, at 5 p.m., they finish. The thrift-store price: $6 a share.

There's no whooping it up. Somebody rolls up a cart loaded with Taittinger champagne, soda, and cookies. But everybody is too busy to take a break. The cart is gone by the time the deal is done. Andreessen, who is Loudcloud's chairman, grabs a moment alone in a banker's office. On a phone call to a reporter, he sounds chipper in spite of the gloomy outcome. "We raised the money!" he nearly shouts. "We needed to raise it. We got it done." He's relieved. It's over. It's the end of what must have seemed, at times, like the IPO from hell.

Stepping back, this bittersweet moment for Andreessen could mark the end of an era for Wall Street and for the Internet bonanza. And in one of life's little ironies, it's fitting that Andreessen is the one to witness its passing. It was his first company, Netscape Communications Corp., with a browser elegant in its simplicity, that opened up the potential of the World Wide Web. When Netscape went public in 1995--with zero profits, but lots of promise--its stock rose 107%, whetting appetites for more Net IPOs. Over the next five years, some 420 Web companies would go public before Net mania turned into Net aversion. Many had hoped that Andreessen's cachet could get things going again. Instead, it seems likely that Andreessen has just presided over the last of the old, Internet-style IPOs. "There's no question the whole mind-set of businesses and investors has changed. An era has ended. Loudcloud confirms it," says John H. Freeman, a professor at the Haas School of Business at the University of California at Berkeley.

RACING THE CLOCK. In fact, Loudcloud's drubbing has all but slammed the door for other Internet offerings. And even when conditions improve again, it's unlikely investors will bet their money on long-shot Net companies without a whiff of profits. Since Loudcloud's Mar. 9 IPO, no tech firm has filed an application to go public. Meanwhile, 12 Net firms have withdrawn their IPO paperwork. Still waiting nervously in queue: WebGain, Instinet, and eRoom. "If Andreessen can't do it, nobody can," says Sheldon Laube, CEO of CenterBeam Inc., which provides computers and Net connections for small businesses.

It's a disappointing turn of events for the 29-year-old Andreessen. Today, just four weeks after going public at the nadir of the steepest sell-off in Nasdaq history, the news for Loudcloud isn't improving. Goldman Sachs spent at least three days propping up Loudcloud's stock price by buying millions of shares, according to Scott Ryles, CEO of Epoch Partners, a secondary underwriter. Goldman declined to comment. The stock still sank to a low of $3.88. It has since drifted back to $4.53.

Now Andreessen's once-promising startup is in a race to build revenues and profits before it runs out of money. Loudcloud has about $225 million in the bank after raising $150 million in its IPO, but it's burning through about $10 million per month. Although Loudcloud has booked $120 million in contracts for the next two years and boasts blue-chip customers such as Ford (F ), News Corp. (NWS ), and Nike (NKE ), many of its 46 customers are startups and several are in trouble. One, Scudder Weisel Capital, announced on Mar. 29 that it will fold. Even the analysts for Loudcloud underwriter Goldman Sachs don't expect Loudcloud to break even until sometime in early 2003. Unless the company can ratchet down its burn rate or sell more stock, it might not survive that long.

Loudcloud's a brand-new sort of business. Operating out of leased data centers with leased computers, it provides super-reliable Web sites for everything from media outfits to e-tailers. And it does it fast. Loudcloud's secret sauce is a layer of software, Opsware, which quickly integrates e-business software programs made by different companies--from Oracle's database to Vignette's software for handling Web pages. That way, Loudcloud can manage its customers' Web operations, updating and expanding as needed.

Living conditions are harsh, though. Other small-fry like Logictier and Totality offer similar services, but the real threat comes from tech behemoths such as EDS Corp. (EDS ) and IBM Global Services and an up-and-coming powerhouse, Exodus Communications (EXDS ). The bigs offer corporations the option of handing over the keys to their information systems to proven and trusted service providers. Companies have been slow to turn over their Web sites to upstarts like Loudcloud. More than 500 Web hosters have sprouted up over the last few years, but analysts expect up to 60% of them to fail by this time next year. "Loudcloud has really had difficulty reconciling its business with the fact that the market for Web hosting is disintegrating so quickly," says David B. Yoffie, a professor at Harvard Business School.

DEFYING THE ODDS. If Loudcloud fails, the damage to Andreessen's reputation could be considerable. In his first business foray out from under the wings of past mentors, Netscape co-founder James H. Clark and former Netscape CEO James L. Barksdale, Andreessen is determined to build a company that doesn't end up like Netscape--which, he says, Microsoft Corp. (MSFT ) turned into a "smoking crater in the ground." An avid reader of business history and strategy, Andreessen is driven by Netscape's fate and his desire to build a long-standing business success. Should Loudcloud emerge as a winner, Andreessen will cement his status as a visionary. If not, the Internet's wunderkind could be a has-been at the tender age of 30.

What happened? Andreessen and CEO Benjamin A. Horowitz created a company in one business environment, and when the world changed, Loudcloud didn't. The basic problem is that Loudcloud's business is so capital intensive. The company charges customers for three months of service up front and a monthly fee thereafter, but it has to spend its own money first on engineering the software and getting customers set up. At the same time, the company decided to delay reaching profitability, instead spending money aggressively to grow as quickly as possible. This plan may have seemed smart in earlier Internet days, but in a world where money is hard to get and dot-com customers are vaporizing, it no longer looks like a winning formula. Yet they kept plunging ahead as if they could defy the IPO odds.

Andreessen bristles at the suggestion that he should have seen the warning signs and reined in spending sooner. He says he has no regrets about going public when he did. "People keep forgetting, there was no way to tell what the market would do," he fumes, his face turning red. "As you know, it's impossible to make decisions in hindsight."

Whether Loudcloud succeeds or fails, it will have been a remarkable journey filled with big money, larger-than-life reputations, a cast of hundreds, arrogance, pathos, and intrigue. BusinessWeek gained exclusive access to the company's odyssey, sitting in on dozens of meetings and conducting 100-plus interviews in and around the company. Here's Loudcloud's tale:


It's late in the summer of 1999, six months after America Online (AOL ) acquired Netscape. Andreessen, Horowitz, and fellow Netscape alums Timothy A. Howes and In Sik Rhee are itching to leave their employer and strike out on their own. The market is booming. The Nasdaq is still six months away from topping out above 5,000 points, and a stunning 253 Net companies will go public in the year. Valuations of dot-coms such as Yahoo! are poised to surpass established competitors like Walt Disney Co. (DIS )

Still employed by AOL, the quartet begins exploring e-business ideas. To keep the AOL brass from finding out, they all sign up for non-AOL e-mail. Ducking out for clandestine meals at places like Late for the Train near their Mountain View (Calif.) offices, they knock around business ideas, but none catch fire. Knowing that whatever their idea will be they'll need a Web site, Rhee and Howes set out to build the software that will assure their site can handle any volume of visitors without crashing.

Within days, the idea hits them: Building a fail-safe foundation isn't a problem they have to overcome on their way to creating their business. It is their business. They run fail-safe computing systems for others. By late September, they all quit AOL and are sketching out a business plan under the towering Redwood trees in the yard of Andreessen's Palo Alto (Calif.) home. They are back in the startup business.


It's a year later. Loudcloud is up and running, and it confidently files its paperwork to go public. One blazing hot afternoon, Andreessen hops into his silver, convertible Mercedes SL500 for the four-block jaunt from his Sunnyvale offices to Hobee's restaurant for a late breakfast. This IPO plan is iffy, considering that the company has racked up less than $2 million in sales. Internet stocks are under fire to show profits--money-losers like Inc. (AMZN ) and Inc. (PCLN ) are off 52-week highs by 79% and 95%, respectively.

Why even go public when the market has gone sour? It's a no-brainer, says Andreessen. Loudcloud is in a capital-intensive business and will need the money to stay on its ambitious growth trajectory. Equally important, Loudcloud wants the credibility of being a public company to help it win corporate contracts. "Customers are just more comfortable working with public companies," Andreessen explains.

What really worries him is not a down market but the possibility that Loudcloud's IPO will be too much of a good thing. His fear is that its stock will rocket and that it will be difficult to meet expectations. He had learned at Netscape that the ensuing commotion can make employees lose sight of the task at hand. "When your stock goes up like that, you start to believe the hype. You begin to think you're as wonderful as everyone says," explains Andreessen. "It makes going out in a down market much more attractive." Andreessen is about to get a wake-up call.


Loudcloud wants to push its IPO out quickly. If the company can start the road show immediately after Thanksgiving, it could go out by mid-December, just days before the public markets go into sleepy mode for the holidays. It's a tight squeeze, but things are looking up. Chipmaker Transmeta Corp. (TMTA ) soars in its Nov. 7 IPO, jumping 115%, to $45.25. Loudcloud is heartened.

The optimism is fleeting. On Nov. 13, the Loudcloud gang troops into the posh, dimly lit conference room of Benchmark Capital, its top venture-capital backer that has put $20 million into the startup. About a half-dozen of the partners, including Loudcloud director Rachleff, David Beirne, and Kevin Harvey, drift in to hear the pitch. Andreessen, Horowitz, and Loudcloud CFO Roderick Sherwood speed through a dry-run presentation of their company. Sherwood is a 47-year-old veteran finance man with experience at the likes of Chrysler Corp. (DCX ) and Hughes Electronics Corp. (GMH.BA) The goal: to test the seaworthiness of the startup before embarking on the IPO road show. Less than 15 minutes in, one of Horowitz' PowerPoint slides sets off alarms. It shows that nearly half of the company's revenues come from running the Web sites of the beleaguered dot-com crowd. "Investors are going to throw up when they see that," pipes up one of the VCs.

Still, they don't discourage the IPO. Instead, they explore ways to downplay Loudcloud's vulnerability. "Why not call them `New Economy companies,' instead of `venture-backed startups?"' suggests one. "How about divvying up the software-company customers between the enterprise and dot-com categories. Will that dilute the dot-com numbers?" asks another. Andreessen and Horowitz are adamant. Potential investors will certainly ask about their dot-com exposure. "This is a good business model," says Horowitz. "We don't want to seem like we're hiding anything."

The dot-coms hang over them like--well, a dark cloud. Later in the week, the company's lead bankers, Morgan Stanley and Goldman Sachs, call to say they're lukewarm on an IPO before Christmas. With momentum quickly turning against an IPO, Andreessen and Horowitz decide to postpone their run for the money.

They break the news that Thursday to 200 employees at an all-hands meeting. Since they don't have a room big enough to contain the burgeoning staff, it's held in the parking lot behind their offices. Above the din of jumbo military helicopters taking off and landing at nearby Moffet Field, staffers toss out questions about the delay. One bold staffer asks point-blank whether Loudcloud might be acquired rather than go public. Horowitz is firm: "We're not for sale." The crew cheers. Little do they know, their best chance for a strong IPO has just slipped through their fingers.


With the IPO on ice until January, the pressure is off. The Horowitz household becomes a hangout for Loudcloud staffers. One Monday night, a group of 20 employees piles down in front of Horowitz' 70-inch TV screen to watch the Denver Broncos grind out a win against the Oakland Raiders. A couple weeks later, Horowitz invites some of Loudcloud's bigwigs over for Thanksgiving, where he puts his collection of seven barbecues and three smokers to use. This year, he's deep-frying a turkey. "That's his passion," says wife Felicia. In fact, Horowitz often grills competitively in contests across the country.

There's time for fun around the spacious third-floor office shared by Horowitz and Andreessen. Andreessen likes to prod Horowitz over his distaste for vanity, putting up his buddy's photo as his computer screen saver. Horowitz laughs about Andreessen's old Netscape habits, where the young whiz was known to plow through a bag of Chips Ahoy cookies and a quart of milk in an hour-long meeting. Today, Andreessen is a health nut, his lanky 6-foot, 4-inch frame slimmed by more than 50 pounds to around 225 pounds. His office mini-refrigerator is stocked with healthy snacks prepared by his personal chef.

Andreessen, a bachelor, taps Horowitz for dating advice. During lunch one Sunday, Andreessen is flipping through his e-mail pager and spies a message from a woman he went out with a couple nights earlier. "What do you know?" he says, pleasantly surprised. Against Horowitz' advice, Andreessen had called her the day after their first date to ask her out again. When she initially declined, saying she was tied up with work, Horowitz was quick to say: "I told you so." Now she was dropping Andreessen a note to say her schedule had cleared up." Andreessen taps out an I-told-you-so-back message to Horowitz.

For all the ribbing, the two make a good team. Horowitz, 34, who ran divisions at Lotus Development Corp. and Netscape before taking a job as VP of AOL's e-commerce technologies, has a reputation as a patient, highly effective people manager. That leaves the mercurial Andreessen free to make sales calls and envision future products. The arrangement makes them happy. "I could be a CEO, but nobody would like me," concedes Andreessen. "I manage like the Incredible Hulk."


Partying is over. It's Jan. 8, time for another go/no-go decision. Before 9 a.m., CFO Sherwood and Horowitz are working the phones, powwowing with bankers and advisers for hours. Benchmark Capital and most of Loudcloud's executive staff are itching to pull the trigger. The bankers are dead-set against going out. Their reason: Loudcloud's comparables--the stock prices of other similar companies--are down another 40% to 50% since early December. The bankers tell Loudcloud that even at a price of $5 to $6 a share, it will be a challenge to sell all the stock. Again, Loudcloud decides to hold up.

That afternoon, at the company's executive-staff meeting, Horowitz and Sherwood break the news. "The bankers' economists are telling us there's a 45% chance of a global recession," explains the gravelly voiced Sherwood. Andreessen, who has arrived about 15 minutes late, licks his finger and holds it up in the air. "That's 45% and not 44%," he muses. Adds Horowitz: "Yeah, it's very scientific."

Nobody laughs. Unlike two months ago, this IPO delay will have greater implications. Despite the crumbling market, Loudcloud has quadrupled its staff in the past nine months, to 586 people. Now, to conserve money, Horowitz is considering postponing a move into some new office space. Loudcloud's Mathilda Avenue offices are bursting at the seams. Immediately there's protest. "It sends the wrong message" to the staff, says Jonathan Heiliger, Loudcloud's COO of product operations.

Andreessen disagrees. "I'm not sure that sends any message," he argues, rocking back in his chair. "The window for an IPO is completely shut right now." Horowitz eventually puts off the move for just one more month. "We're already sending a message by saying we're holding back the IPO. We're saying the sky isn't exactly blue," he says. "We need to give employees a positive message, too."


Cash has become a worry. Loudcloud puts out feelers for a third round of venture backing, but offers trickle in at about two-thirds of what the bankers believe they can fetch with an IPO. That would put their valuation roughly in the neighborhood of $375 million. It's a slap in the face, considering that the second round Loudcloud attracted last summer put the company's worth north of $700 million. With bankers still confident that Loudcloud could be valued between $550 million and $650 million on the open market, a third push for an IPO begins in early February. This time, it's kept quiet, in part to minimize impact on employee morale should they be forced to postpone again.

The biggest question: How do they price the deal? Most public competitors are down more than 50% since Loudcloud first set its pricing last Halloween. That would put its asking price between $5 and $6 per share. Worried about the psychological impact of having a low, single-digit stock price, the company works a reverse stock split, essentially turning every two shares of stock into a single share. On Feb. 16, Loudcloud files its final IPO paperwork. The reverse stock split has allowed it to price between $8 to $10 a share--a valuation 47% lower than it had hoped for just months earlier.

It ends up a ragged day for the Loudcloud team. They pile into the 35th-floor office of Internet analyst David Readerman, at Thomas Weisel Partners LLC, one of their secondary underwriters. The view of the San Francisco Bay is stunning, but they're focused on the stock market news on Readerman's jumbo-size computer screen. After posting back-to-back solid days, the Nasdaq is down a freaky 120 points. "We've got cojones. That should be our slogan," bellows Readerman. Horowitz smiles wanly. "We're the only company that can go out right now," he says.


It's an unusually warm New York City afternoon on Monday, Feb. 20th, when a black limousine pulls up in front of Morgan Stanley's world headquarters in bustling Times Square. Andreessen, wearing an elegant black coat, is the first of five Loudcloud execs to step onto the curb. They're there to give a 4 p.m. pitch to the Morgan Stanley sales crew. They can't miss the giant electronic ticker, 40 feet above street level, reeling off one stock disaster after another. Nasdaq is down 106 points for the day. "This is like an old-fashioned foot race," says Andreessen. "We're going to sell hard, and we're going to raise money."

Then it's a sprint. Over the next 16 days, they will notch 70 meetings in 26 cities. The audience is tough. At every stop, money managers are shell-shocked--some sitting on portfolios that are down well over 50% in a year. They ask why the Loudcloud team is there and why now, recalls Marketing Vice-President Scott Dunlap. "We go into conference rooms, and there's dust on the table," says Dunlap. "It's like nobody has been in there in months."

Many fund managers turn out for meetings because of Andreessen's pedigree. But that's not enough to convince them to invest. Managers with PIMCO Equity Advisors' Innovation Fund, for example, listen to the road-show pitch but opt out. "All of their comparables are on shaky ground," says Dennis McKechnie, a PIMCO portfolio manager.

As the road show nears completion, obstacles keep piling up. During their scamper across Europe, Goldman Sachs's research arm releases a report that tells investors to be wary of the Net sector Loudcloud is in. Livid, Andreessen calls his underwriters at Goldman. "Did you have to release this right in the middle of our road show?" he asks. "Are you trying to kill our IPO?"


It's IPO day. Andreessen left New York on the redeye the night before for California. In the morning, an exhausted Andreessen doesn't make it to Loudcloud's offices in time to see the LDCL ticker make its debut. Horowitz does a few TV interviews. Loudcloud staffers don't pop any champagne. The only celebration is an impromptu gathering of about 40 employees eating Krispy Kreme doughnuts and watching their CEO on TV. There are a few laughs and cheers, then it's back to business. Loudcloud got its money. But that's all.

Today, Loudcloud looks a lot like any other post-meltdown Internet company. It has a low-single-digit stock price, some employee stock options are under water, and most of its investors are in the red. Andreessen and Horowitz understand now that there are no exceptions to the new rules of the Internet economy. The company is conserving cash. It has delayed a costly TV ad campaign, it's hiring more slowly, and has eased up international expansion. "It was a whole different set of rules when we started," concedes Horowitz. "Everything about our business has changed. Now we're optimized for profits, not growth." With luck, Horowitz and Andreessen will one day look back on Loudcloud's early miscalculations as a bullet dodged, not one taken to the heart.

By Ben Elgin

With Steve Hamm in New York

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