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'Stay away from the lure of dotcoms.'

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DQI Bureau
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There is passion, conviction, belief and a clear plan for action for whatever he suggests. He has seen technology in making, the stock markets, the crazy valuations and the dotcom business. He is the person whom CNN looks for, if it wants to have a lively discussion. He is the person who gave Infosys, a C minus rating when it made its Nasdaq debut. He is Jason Pontin, Editor, Red Herring magazine. In a freewheeling talk with DATAQUEST, Pontin speaks his mind on a plethora of issues–from stock markets to valuations, from dotcom to the Indian economy, and from SEC regulation to the AOL-Time Warner merger. Excerpts of the interview:

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Do you see a thriving and booming indigenous dotcom business?



There may be a possibility for dotcom business, a few years from now. One of the things that Goldman Sachs is suggesting is that there will be 80 million internet users, by 2010 for India. I think that is unlikely. There are what I think about 2 million PCs, 700,000 internet users, 25 million telephone lines and 30 million cable lines in India. I don’t think that is a basis for the dotcom business now. Even at an exponential rate of growth, I don’t think that the dotcom business will take off in another four to five years from now. I can think of a few successful players like Rediff.com, which basically caters to the NRI 


community.





So, where do you think that the Indian IT industry should concentrate?


I do see that your software engineers are the best in the world. God knows that they are economical, to use an euphemism. So, I think that India should progress on the engineering challenges, which would arrive as we move beyond the worldwide web. It is not just India serving the global market, but India serving its own domestic technology market. There is cable network, and with 30 million users, that can be a huge market. We haven’t yet solved the engineering challenges of building an interactive broadband cable network.



Then there are the wireless internet applications. I have been told that wireless is pretty big over here, we have not yet networked with the global market and there is no idea how to go about doing it. There is the voice over IP network, which again is a big potential market for Indian software engineers. It is another huge engineering challenge. There is the machine-to-machine interaction using a language called XML, when machines start hooking over the internet. This will throw open a whole lot of applications.






So, you suggest that Indians should concentrate beyond the world wide web?



I think there will be profound engineering challenges, which will require networking and software companies building applications to cater to a host of markets. If I were an Indian entrepreneur, instead of the new paradigm based on an uncertain future, I will look into how to create a new business with the huge PC and internet market, abroad and in India. Well, take for example Sycamore. It has an Indian CEO, Indian engineers and is funded by an Indian venture capitalist, Vinod Khosla. Why could it not or why should it not have been founded in India? Your engineering skills are world famous. I have met with Indian engineers in the US and have interacted with engineers here and having seen the strengths. I

don’t think there is any reason why indigenous technology expertise cannot be developed. But having looked into countries like China, I know that there should be a fairly established PC base to go into dotcom business.






However, we see that these dotcoms are given massive valuations. What do you think about it? Would you label these valuations as crazy?


Well, such valuations that are taking place are crazy. If we look at Nasdaq, we see what great valuations the best engineering companies can get. There has been a little downward movement against the dotcom companies. eBay has lost 50% of its market share, Amazon has lost 50%. But companies that have retained the valuations are companies like Sycamore. They are acting as the pick and the shovel in putting the internet revolution. 





But there has been a mad rush in India towards building dotcom companies?


I think it is because of the glamor of the American IPOs. People over here want to replicate it and that is a bit of a delusion. I don’t think it is there yet and I don’t know how it can be there in the next two years. Two years will be needed for building the infrastructure and two years after that for building up the viewership. Four years is a long time for a company to set up a base. One thing I admire of Rediff is that, they started off in 1995 when there was nothing here. I don’t even know what was the internet penetration in India at that time. May be a few Indian universities had access.





What do you think of Rediff.com, which is planning to come out with an IPO?


I think they will do well with the IPO, because they have done many of the right things that a dotcom should do. They have built up a large potential customer base, they are giving out various services and have a rich cultural content. These are some of the things that a dotcom should do. I don’t think it is one of the best examples, but then this is the only Indian dotcom company that is known abroad. 





What do you think about the cable networks?


It is an experience worse than PCs. Without the cable networks, the TVs cannot support screening videos and sound. It is hideous. Even without the PCs, it is extreme, but India can build a dotcom business over cable. If Indian engineers tackle the challenge of building a broadband service over cable networks, it will not only open up a huge Indian market, but also serve the American market. AOL and Time Warner are spending a fortune on trying to be based all around for providing content. But they cannot create the network. There is a huge opportunity for India, both in the domestic market and abroad. The company which first serves that challenge is going to be a $3-4 billion IPO. The next two years are going to be really critical. This is where one has to move up the value chain. 





Do you think that the business model that the Indian companies are following–of being driven by services–could go on for a long time or should they change their model?


I think it could go on for a long time. It has always been an important part of the Indian software business. India is a services-based industry. But the margins are getting pretty thin. We are dependent on you to drive down our operational cost. We need you. So, don’t mess up . India can have a right mixture of software services and indigenous software companies serving the global market. That’s the next stage and already companies like HCL and Infosys are doing that. India will have to find venture funding, both from America and internally, as these companies are much more expensive than the dotcom companies. India should continue to invest in education. As an outsider I can say that it has been one of the unique strengths of India. When you got independence, you wanted to take education to the last Indian. And that’s really a unique thing to do in a developing country. But with technology coming up, India should invest in technology education as much. You have these extraordinary technical institutes and talent. Resist the
dotcoms.






With the new reforms coming on the VC front, do you think that more foreign funds will start flowing to India?


I think that is definitely going to happen. And the Minister for External Affairs told me that come what may, the financial reforms will continue. 





What do you think about the recent SEC recommendations, which have made listing in stock exchanges abroad more stringent?


I think it is absolutely unfair and strange. The Indian companies have been doing a good job following the US GAAP standards and all of a sudden they are asked to follow completely different and rigorous standards. I think that could damage foreign investment, because all these companies which were hoping for an IPO might not be able to do it now. My feeling is, it was unprepared for by the Indian companies, uncalled for by the SEC and is probably a mistake. 





Do you think that with the high valuations that the IT companies are getting in India, the recent SEC recommendations will hurt Nasdaq?


Well, there is a probability that it may hurt Nasdaq. It may be depriving itself of first rate Indian companies. These companies instead of going and listing in the Nasdaq, may go and list itself in some other good stock exchange like the Hong Kong Stock Exchange. The companies that can build up the Indian market are companies that are into cable, wireless and wireline, and these could be interesting companies. 





Another thing is that the e-retailers are getting a hard shove in the market, with investors waking up and asking where or what the bottomline is. What is your comment?


The official position of Red Herring is that, as a business we chose not to spin off redherring.com. We will take the entire company public. A correction has already begun. Companies like eBay and Amazon have already lost their market share. On the other hand, there is the case of companies with completely insane business models, like Buy.com. It said here is a dollar, we will give it to you for 80 cents. It created a lot of traffic, a lot of revenues, but Buy.com is losing $135 million a quarter. Buy.com couldn’t go public and it looks like its chairman had to resign and is being sued by his investors. There were companies, too, which have equally crazy business models like Critical Path. Its policy was to give away everything free, and explicitly said they are not going to charge for anything. Critical Path, which was $1.5 billion on the stock exchange at one point of time, is now $200-300 million. So, I think the investor has begun to become a bit strict. Having said that, the markets are really into devaluing and turning against real good companies. 





What are investors looking at in these companies?


The investors have started asking questions like do these companies have the people, do they have the management, a great idea and where is the company’s market. But I may be totally wrong. In 1996, I started saying that it is a speculative bubble, there is exuberance in the market and it is totally crazy. Do not invest in the ebiz thing.





An extension of that would be that foreign investors will start asking where or what the bottomline is, much before the Indian market has matured?


That’s true and that’s one of the reasons that India should concentrate on software networking. There is a good chance that in 2000, the markets may say we have had enough of these dotcom companies. The last thing that India needs to have is to be left with third rate dotcom companies. If India is left with companies having great management teams with great ideas, then India will survive when the market corrects. 





So, whom would you suggest as your role model for Indian entrepreneurs?


The kind of man India needs is a person like Mukesh Chatter, CEO of Nexabit. Nexabit came out of the Massachusetts Institute of Technology, out of the computer science lab. And Mukesh was a brilliant, ambitious computer science professor. He had the idea of doing something radical in chip design. He had no money and no investor would have invested in him. But he was undeterred. He built a prototype and sold his company for $900 million in the largest pre-revenue round of history. That is the Indian entrepreneur at his best. He is the archetype Indian entrepreneur to me. Mukesh is my hero and Red Herring last year gave him the best entrepreneur award. 





We see a lot of interest in the US for Indian companies. Is it the American investors or the NRIs who are pushing up Indian stocks in the US?


There are three things happening that has made American investors interested in Indian companies. It is true that there is a huge NRI population and they are investing in Indian companies, both for patriotic reasons as well as because they know the people in the market. The second reason is pure finance. Which means that your companies are under-valued by American standards. American companies cost too much now. From a purely financial angle, American investors are reveling in under-valued Indian companies. The third thing that is happening and is flattering for India, is that people do regard these companies as great companies worth investment. Well, but we misjudged Infosys and we gave them C minus, saying they will have a mediocre
IPO. 






People are skeptical about the valuation of IT stocks in India. They think it is over-valued. Your comments?


Of course, they are over-valued. They are growing at high rates and this cannot go on forever. The companies will be foolish not to get from the market the highest possible valuation they can get. The investment banks will be foolish not to take the companies out at the highest possible valuation they can get. The institutional investors will be foolish not to take it and split it to make profits. It will be retail investors who will be hit hard. The only worry is that, if there is a large market correction, it will have a macro-economic effect. So, investors should understand that they are not going to make long-term investments in these companies. Tech-stocks should be seen as the riskiest part of the portfolios and tech-stocks should only constitute a small portion of investments. 





What is your outlook for the Indian IT industry?


Well, the estimated figure of $80 billion by 2008 is, I think, extraordinary but not impossible. For that you need to do three things. You need to realize where your strengths lie and understand the risks of dotcoms for undeveloped and medium markets. You need to continue to encourage foreign investment. You need to continue to invest in education, for that is where your strength is, as Indian IT engineers are the best in the world. India should not underestimate the awe in which Indian engineers are held abroad. Indians should understand that they have a unique asset in the quality of education they have been providing. The vibrant, democratic, educated population, that’s the strength that you bring to the world. That will not fetch you the estimated figure, but will bring you near to it. 












































Rajesh Menon

with Yograj Varma 



in Mumbai

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