Important note: GSI Commerce, Inc. (GSIC) owns 12% of Odimo.

• Piper Jaffray Internet analyst Safa Rashtchy initiated coverage on WebSideStory (ticker: WSSI) with an "Outperform" rating and $22 price target. He argued that WSSI "has a number of attractive investment characteristics including a strong market position in Web analytics, a highly predictable revenue model, increasing operating margins, and an expanding addressable market in site search, bid management, and content management."
• Yahoo (ticker: YHOO) CEO Terry Semel explained in an interview with Bambi Francisco why Yahoo acquired a stake in Chinese search company Alibaba instead of in Baidu (ticker: BIDU): "Alibaba brought [commerce] to the equation. Yahoo's going to bring communication and search. Technology in search will be a big factor down the road for the new entity". But when asked explicitly whether he tried to negotiate with Baidu, he said "Over the last year, we met with many different companies".
• Google (ticker: GOOG) purchased ad space in various print magazines to resell to its advertiser customers, in a move to become a one-stop-shop for both online and offline advertising. Forbes commented: "...Schmidt's firm [Google] said, "This limited test is part of Google's continuing effort to develop new ways to provide effective and useful advertising to advertisers, publishers and users." One translation of this statement might be: The firm doesn't wish to be seen as vulnerable to fluctuations in Internet advertising."
• Meanwhile, Google is facing challenges managing ads billed on a page-view basis (rather than a per click basis), according to Marketing Vox.
• Online jewelry retailer Odimo (ticker: ODMO) switched auditors. Switching auditors used to ring alarm bells for investors, but small publicly-traded companies are increasingly finding the costs of Sarbanes-Oxley and the higher fees of the largest accounting firms too much to bear. Odimo filed a letter from its outgoing auditor stating that there had been no disagreements with the firm. That followed the example of another small, publicly-traded Internet company, Hollywood Media (ticker: HOLL).
• eBay (ticker: EBAY) closed its acquisition of comparison shopping site Shopping.com (ticker: ODMO). eBay paid $21 per share in cash, totalling $634 million. Since Shopping.com had $148 million of cash, the net acquisition price was $486 million.
• Chinese Internet company Tom Online (ticker: TOMO) announced a partnership with (privately-held) instant messaging and voice-over-IP company Skype. More on this later. Skype CEO Niklas Zennstrom meanwhile denied a report that Hutchison Whampoa had acquired a 5% stake in his company.

Full disclosure: at the time of writing I'm long HOLL.

• Click fraud breaks out. Click fraud finally hit mainstream investors' radar screens due to a Wall Street Journal article (subscription required) that raised questions about Google's (ticker: GOOG), Yahoo's (ticker: YHOO) and Ask Jeeves' (ticker: ASKJ) revenues. Contextual advertising firm Quigo CEO Michael Yavonditte estimates that between 5% and 13% of all clicks are fraudulent. Anti-click-fraud services firm ClickAssurance LLC's Jorge Zuniga says the number is 10% to 20%, "but estimates that as many as 80% of clicks are fraudulent for some key words on certain search engines". Quick comment: Click fraud is not a problem for sophisticated advertisers because their bids for ads are a function of their return on investment (RoI) and thus conversion to sale rates, which are immune from click fraud. It's key impact is in depressing average prices per click and thus lowering the realizable value of genuine traffic. As web analytics improve, click fraud will be more easily detectable and advertisers will be able to manage more closely to RoI. Note: Internet Stock Blog analysis of the click fraud issue here and here.

• Initiations of coverage. RBC initiated coverage on Provide Commerce (ticker: PRVD) with an Outperform, on Blue Nile (ticker: NILE) with a Sector Perform, on Amazon (ticker: AMZN) with a Sector Perform, and on Overstock.com (ticker: OSTK) with an Underperform. CIBC World Markets initiated coverage on Odimo (ticker: ODMO) with a Sector Outperform.

• DoubleClick partners with AOL. America Online (owned by Time Warner, ticker: TWX) announced that DoubleClick (ticker: DCLK), will provide AOL Media Networks with ad serving, inventory management, workflow tools and delivery operations. AOL Media Networks is the ad sales, commerce and search arm of America Online, and also handles the marketing of the AOL web brands. DoubleClick's ad management platform, DART for Publishers, is being piloted on Mapquest now and will begin to be implemented across all AOL brands later this year. Quick comment: Don't get too excited for DoubleClick: ad serving is a highly competitive business with shriking margins.

• This week's Internet earnings announcements. Tuesday: Travelzoo (ticker: TZOO).

• Icahn good for Netflix? David Strahlberg of the Media Stock Blog discusses whether Carl Icahn's assault on Blockbuster's management is good for Netflix (ticker: NFLX).

• Greenfield acquisition. Online survey company Greenfield Online (ticker: SRVY) announced the
  acquisition of CIAO, the largest independent survey research provider
  in Europe, for $154 million. EUR57.7 million was paid in cash and the
  rest with 3.9 million shares of Greenfield Online common stock.

• New domain names. ICAN gave final approval to  ".jobs" for the human resources community and ".travel" for the travel industry. Preliminary approval has been given for ".post" for postal services and ".mobi" for mobile services, and negotiations continue. Probably incremenally positive for all the domain name registrars, including Register.com (ticker: RCOM), Tucows (ticker: TCOW) and Verisign (ticker: VRSN). No decision yet act on a contract to run the ".net" directories beyond June 30, though an outside company has recommended that VeriSign be given a six-year extension on its contract.

This is a critical theme for investors (rather than short-term traders). Do you own stocks in companies that are dependent on advertising and helpless in the face of rising costs? Here's a list of the victims, with the relevant stats and comments from The Internet Stock Blog's write-up of their Q4 results or recent SEC filings:

Victims of PPC Ad Inflation

AMZN - Amazon.com

Marketing expense up 44% year over year to $58 million. Net sales
up 26% year over year excluding exchange rate impact, 31% including
exchange-rate impact.

Although Amazon's marketing expense is relatively small (the company's strategy is to allocate marketing to lowering the price to customers of goods or shipping), it's highly significant that Amazon's marketing expense grew much faster than revenue (44% versus 31%).

Question: Amazon says: "We expect absolute amounts spent in marketing to increase over time." But why? If Amazon has the most efficient infrastructure and the strongest brand, that should allow it to offer the lowest prices and to boost revenue without marketing.

Sales, marketing and fulfillment costs up 13% to $4.28 million. Revenue up 3.7% to $14.5 million.

• Odimo is an online retailer of luxury goods including (grey market) watches. It priced its IPO on February 15th at $9 per share. Last night the stock closed at $7.45, 17% below its IPO price.

• Shopping.com, the largest comparison shopping engine on the Web, priced its IPO on October 25th at $18 per share. Last night the stock closed at $15.84, 12% below its IPO price.

What are the stocks' valuations now?

Cash is critical, so we need to look at enterprise values not market caps:

Odimo: valuation unclear

• Odimo's balance sheet isn't entirely clear. Here's an attempt: 3.125 million shares were sold in the IPO, but 625,000 of them were from existing shareholders. The underwriter, CIBC World Markets, was granted an option to cover over-allotments of 562,500 shares. So how many shares did the company itself sell?  Well, the stock traded down almost immediately after the IPO which also priced at the bottom of the expected range. So the underwriters' option probably wasn't exercised. That means that Odimo itself sold only 2.5 million shares, raising $22.5 million. Underwriters' fees - let's say 7% - would reduce that to about $21 million.

• According to Odimo's S-1, prior to its IPO the company had $65,000 of cash, $525,000 of restricted cash, and accounts receivable of $201,000.  Accounts payable and a bank credit line totaled $20.2 million, so net debt at the timeof the IPO was about $19.4 million. Odimo stated that it planned to repay $9.4 million of debt from its IPO proceeds.

• Deduct the $19.4 million of net debt from the IPO proceeds of $21 million, and Odimo is left with net cash after the IPO of about $1.6 million. With a current market cap of about $53 million, that gives Odimo an enterprise value of about $51.4 million, or about $7.17 per share.

• How to value Odimo? Tough one: there are no analyst estimates currently available for 2005 EPS, and while the company grew revenue in 2004 but still wasn't profitable.

Shopping.com: 8.2x estimated 2006 EBITDA

• Shopping.com is far easier: it published its full balance sheet and gave EBITDA guidance for 2005 when it reported Q4 earnings on February 3rd.

• Current assets were $155 million. Current liabilities were $19 million. There was no long term debt. So net cash is about $136 million.

• Deduct that net cash from Shopping.com's current market cap of $468 million (with the stock trading at $15.84), and Shopping.com's enterprise value is $332 million.

• Shopping.com gave EBITDA guidance for $25 million (mid-point of range) for 2005. The stock is thus trading at an enterprise value to (guided) EBITDA multiple of 13 times 2005 guidance.

• The company also stated that 2005 EBITDA guidance was depressed by the projected cost of its European expansion, which would reduce EBITDA margins from 27.3% in 4Q '04 to 19.5% for 2005. For that reason, it seems reasonable to expect a margin rebound in  2006.

• Back of the envelope 2006 EBITDA calculation: 2005 revenue of perhaps $130 million grows 25% to $162 million in 2006. EBITDA margin rebounds to 25%, giving 2006 EBITDA of about $41 million.

• With its current enterprise value of $332 million and back-of-the-envelope 2006 EBITDA of $41 million, SHOP would be trading at an EV to '06 EBITDA multiple of 8.2 times. That's significantly lower than its Q4 revenue growth rate of 33%, and the 2005-2006 growth rate of 25% that I've used.

ODMO and SHOP charts below.

Key stats:

• Revenues: 2003 $41.7 million, 2002 $27.5 million.
• 2004 (first nine months) revenue growth: 31%.
• 2003 gross margin: 28% ($11.7 million).
• 2003 operating expenses: 43% of revenue, $17.8 million.
• Spending on marketing: 9% ($3.8 million) of revenues in 2003, 12% (also $3.8 million) in the first nine months of 2004.
• Number of orders: 2003 116,440, first nine months of 2004 85,155.
• Average order size: 2003 $402, first nine months of 2004 $413.
• Product mix (first nine months of 2004): watches 41%, diamonds 29%, jewelry 15%, luxury goods 16%.

Quick comments:

• Odimo operates Diamond.com; but note that it doesn't own the domain name Diamonds.com or Diamond-USA.com.
• How comfortable will investors be holding stock in a company that sells grey imports (see quotes from the S-1 below)?
• Note that marketing costs rose from 9% of revs in 2003 to 12% in 2004. The S-1 comments: "Marketing expenses for the nine months ended September 30, 2004 increased 100.8% to $3.8 million from $1.9 million for the nine months ended September 30, 2003. The increase was primarily due to increased online advertising costs." But it gets worse: for the September 2004 quarter alone, marketing costs increased 247%!
• Note that Odimo has a very different supply chain in the diamond market than Blue Nile (NILE). Odimo is closely partnered with a De Beers siteholder, whereas NILE relies on external vendors to provide its inventory. Hopefully Odimo's IPO will trigger an intelligent debate about which model is superior.
• Odimo's IPO is a net negative for NILE. Greater capital means that Odimo can bid more aggressively for diamond-related ad key words.

Key quotes from the S-1:

Supplier Relationships

Brand Name Watches and Luxury Goods

We purchase the majority of our brand name watches and luxury goods through distribution channels outside the control of brand owners, generally referred to as the parallel market. This market often develops as a result of global differences in the price or supply of products. Our senior management team has worked together for over 10 years and has extensive experience in the retailing of luxury goods purchased in the parallel market.

The benefits of sourcing from the parallel markets include our ability to:

• acquire genuine, current season merchandise at  lower prices than we could through brand owners’ authorized  distribution channels;
• offer goods below suggested retail prices by  avoiding brand owner pricing restrictions; and
• provide value to our customers while maintaining  favorable margins.