Online Extra: Web Newbies Among the Blue Chips

Here are the additions to the BusinessWeek Web 20. Some stocks are newcomers, while others are more familiar

We scoured the Web universe to find five new names for the BusinessWeek Web 20, our portfolio of blue-chip Web stocks. We ended up turning to some old friends who had been in the Web 20 before, plus plays on the emerging markets of online content and e-health. The new members, in alphabetical order:

Audible (ADBL )

Price: $12.32

P-E Ratio: 176

Something is in the air when Standard & Poor's, BW's conservative corporate sibling, likes a high p-e growth stock as much as it likes Audible. Audible is a bet that the rise of downloadable music heralds the rise of other downloadable media like audiobooks and magazines -- which are the niche of the Wayne (N.J.) -based company. Bolstering the bet: An exclusive deal to distribute "spoken media" -- not music -- through Apple's industry-leading iTunes service.

If you believe people will use their ubiquitous iPods for more than just music, Audible's the way to play it. Plus, the company hopes to deliver content to wireless devices. The downside: Other people have already made this bet, driving the stock up from below $2 since July, 2003. To justify Audible's price, you have to think in terms of 2006 earnings, since the company hasn't been profitable for long and will make only about $2 million this year.

But analysts think profits will rise sixfold on a small base next year. The Web 20 will occasionally grab a high-valuation faith stock when its market is expanding fast and profits are just reaching a tipping point. Audible fits that profile to a T.

Expedia (EXPE )

Price: $21.60

P-E Ratio: 19

We're betting against a skeptical Street on Expedia, which IAC/InterActiveCorp spun off Aug. 9. Most analysts rate it a hold, but we think forecasts that profits will be flat next year seem awfully conservative, given that they grew 23% in the first half of 2005.

Hotel chains are trying to drive down Expedia's margins on hotel rooms, but the impact is small enough that greater efficiency stemming from scale and the back-end merger of systems for and can offset the chains' moves.

Successful efforts to fix the problem areas that account for Expedia's low price can also ease margin pressures. A redesign of the company's site is in the works, and a customer-loyalty program is due in the fourth quarter. If they work at all, Expedia's market-leading U.S. franchise and strong international growth will deliver better results than today's forecasts assume.

IAC/InterActiveCorp (IACID )

Price: $25.21

P-E Ratio: 15

We like IAC for two big reasons: Newly acquired search engine Ask Jeeves and underappreciated LendingTree. Ask Jeeves will be the hub of a media network that will enhance existing IAC outfits like CitySearch -- an entertainment-search site that fits naturally into what Jeeves does -- and Web contractor-referral service ServiceMagic. The common element is that all these sites can be magnets for what used to be Yellow Pages advertising dollars.

Consultants at Kelsey Group see $4 billion of Yellow Pages money moving online by 2008. With money like that on the table, IACID is worth a bet. At LendingTree, the core business of referring borrowers to banks has been supplemented by IAC's newly acquired mortgage bank. Also boosting LendingTree is IAC's promising portal, which offers the group a slice of the $60 billion real estate brokerage industry.

Among IAC's biggest outside shareholders is Bill Miller's fund at Legg Mason. A bet on this Web group follows some very smart money.

Netflix (NFLX )

Price: $21.04

P-E Ratio: 71

Netflix was a charter member of the Web 20 in 2002, when we called it the Real-World Internet Index. The Web-based DVD-rental-by-mail service was a charmed flyer for a long time, rising from its $7.50 IPO price in 2002 to as high as $40 a share. But shares collapsed last year after marketing expenses stayed stubbornly high, and Blockbuster launched a nearly identical service.

We bailed around $11, taking Netflix out of the Web 20 in April and lived to regret it. Blockbuster (BBI ) announced it would raise prices after taking huge initial losses building up its service, easing the pressure on Netflix.

CEO Reed Hastings argues that over time, Netflix can reduce marketing spending, now 17% of revenue, and Blockbuster's retreat from a price-driven strategy may mean Netflix can back away from some of the price cuts it imposed to compete. That means profits could grow faster than the 20% annual rate a still-skeptical Wall Street forecasts.

Quality Systems (QSII )

Price: $65.35

P-E Ratio: 40

Irvine (Calif.)-based Quality Systems makes software that help doctors automate their medical records, billing, and track outcomes of different treatment strategies. It should be a major beneficiary of the government's push to get doctors to automate so Americans can have electronic health records within a decade. Indeed, the key contracts for a National Health Information Network will be awarded next month -- meaning the rapid expansion of e-health is probably closer than many people realize.

At 40 times this fiscal year's projected earnings, with profits expected to grow 30% a year, Quality Systems is not expensive relative to all the power and money being marshaled to make e-health a reality after years of delay.

(All prices are as of market close on Aug. 22. All PEs are as of Aug. 22, based on 2005 estimates)

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