Netscape's Initial Public Offering

company's scheduled

proposed to the

August 8, 1995 had taken an unexpected turn for Netscape Communications Corporation's board of directors. Earlier that morning the day before the company's scheduled initial public offering (IPO), Netscape's lead underwriters proposed to the board a 100% increase in the original offering price from $14 to $28 per share. This recommendation came in response to the remarkable oversubscription for Netscape's shares, which had already prompted the underwriters to increase the number of shares to be offered from 3.5 million to 5 million. Under the current proposal, a company with a net book value of just over $16 million that had yet to tum a profit, was suddenly valued at over $1 billion.

to $28 per share

The Board faced a pricing dilemma within the context of an extremely unpredictable industry. While its members wanted to be responsive to Wall Street's current meal, they also wanted to make sure that the fundamentals of Netscape justified such a dramatic increase in valuation

Netscape Communications

Founded in April 1994, Netscape Communications Corporation provided a comprehensive line of client, server, and integrated applications software for communications and commerce on the Internet and private Internet Protocol (IP) networks. These products enabled the growing network of servers on the World Wide Web to communicate through multimedia, including graphics, video and sound. Designed with enhanced security code, these software products provided the confidentiality required to execute financial transactions and to sell advertisements on the Internet and private IP networks.

The company's most popular product, Netscape Navigator, was the leading client software program that allowed individual personal computer (PC) users to exchange information and conduct commerce on the Internet. Navigator featured a click-and-point graphical user interface that enabled users to navigate the Intemet by manipulating icons and windows rather than by using text commands. With the user-friendly interface as a guide, Navigator offered a variety of Intemet functions including Web browsing, file transfers, news group communications, and e-mail. Initially shipped in December 1994, Netscape Navigator generated 49% and 65% of total revenues for the quarters ended March 31, 1995, and June 30, 1995, respectively.

Netscape's server software provided enterprises with the basic capabilities necessary for creating and operating Web server "sites," or places on the Web which browsers could visit.

Research Associate Kmdall H. Backstrand wrote this case under the supervision of Professor W. Carl Kester as the basis for class discussion rather there to illustrate either effective or ineffective handling of an administrative station Copyright 1996 by the President and Fellows of Harvard College To order copies or request permission to reproduce materials, call 1-800-545-7685 or write Harvard Business School Publishing, Boston, MA 02163. No part of this publication may be reproduced, stored in a retrieval system, sed in a spreadsheet, or transmitted in any form or by any meanselectronic, mechanical, photocopying recording, or otherwise without the permission of Harvard Business School

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Incorporating both browser and server functions, the company's integrated applications software programs were designed to provide enterprises with the capability to manage large-scale commercial sites on the Internet. Such applications enabled these enterprises to conduct full-scale electronic commerce through a seamless system. Together, server and integrated applications software accounted for 36% of total revenues in the first quarter of 1995, and 28% of total revenues in the second. Of these revenues, the majority were generated by one of Netscape's three server products, Netscape Commerce Server1 Revenues from Netscape's server and integrated applications products were expected to increase as a percentage of overall revenues in the future.

In addition to product revenues, Netscape generated service revenues, which were attributable to fees from consulting, maintenance, and support services. These revenues amounted to approximately 5% and 7% of total revenues for the quarters ended March 31, 1995 and June 30, 1995, respectively.

Financial Performance

Netscape had incurred total losses of $4.3 million on total revenues of $16.6 million for its first two operating quarters ended June 30, 1995. The company expected to continue to operate at a loss for the foreseeable future. Exhibits 1 and 2 provide Netscape's financial statements since its incorporation in April 1994.

Operating activities for the six months ended June 30, 1995 had generated $7.3 million in cash. Cash flows from financing activities of $20.5 million were primarily attributable to the net proceeds of $17.3 million from the issuance of Series C Preferred Stock and borrowings of $2.2 million under a debt facility agreement. Cash used in investment activities of $22.1 million related to $16.6 in short-term investments and $5 million in capital expenditures. At the end of the second quarter of 1995, Netscape's principal sources of liquidity were $8.9 million in cash and the $16.6 million in shortterm investments. The company expected total capital expenditures for 1995 of approximately $12 million.

Industry Background

The demand for Netscape's products had evolved out of the development of the Internet in the late 1960s. The Intemet was a global network designed to facilitate communication between some 35,000 computer networks using the enabling code termed Internet Protocol. According to International Data Corporation (IDC), in mid-1995 there were approximately 57 million Internet users. Of those 57 million users, IDC estimated that approximately 8 million were accessing information on the World Wide Web.

Engineered in the early 1990s, the Web was a technology that linked one bit of information on the Internet with another so that users could share "webs" of ideas. The Web consisted of a network of Web servers that posted information in a common format described by the Hypertext Markup Language ("HTML"). Internet users were able to access information on the Web by implementing the appropriate Hypertext Transfer Protocol ("HTTP). Because it necessitated complex coding the Web had remained largely undiscovered by nontechnical users who simply wanted to browse, a popular pastime which came to be dubbed "surfing the Net."

Bundled packages of Netscape Navigator and Netscape Commerce Server accounted for about 10% of total revenues in the first quarter, while its contribution in the second quarter was immaterial

Netscape's Initial Public Offering

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Netscape's Entrance

Meanwhile at the University of Illinois at Urbana-Champaign, a group of computer science students working at the National Center for Supercomputing Applications (NCSA) developed the graphical software program that gave rise to the notion of "surfing." Named NCSA Mosaic, the software program enabled nontechnical users to access and retrieve information on the Web. The Mosaic code organized Web information into neat collections of graphical electronic menus on which users could simply click-and-point to browse their contents.

Mosaic code orden enabled nonte fave rise to the nomputing Applicatio group of comp

In April 1993, the founders of Mosaic, under the leadership of then senior Marc Andreessen, began distributing the software for free to anyone who had the technical means to fetch it electronically. The superb results of this strategy-two million Mosaic users within one year-made for more than cocktail conversation among high-tech gurus in California's Silicon Valley. Jim Clark, the founder of Silicon Graphics, Inc. (known for its workstations that turned data into 3-D computer images), was among those who were impressed not only by Mosaic itself but by the broader vision of its creator, Andreessen.

After hearing that Andreessen had moved to Silicon Valley in early 1994, Clark sent him an email asking if they might meet to discuss the future of Mosaic. This exchange and subsequent discussions formed the launching pad for Mosaic Communications, which was shortly renamed Netscape Communications Corporation. In addition to dropping the Mosaic name, Netscape paid Spyglass (the company that had engaged in an exclusive licensing arrangement with the University of Mlinois) a one-time $2.4 million fee for the rights to certain Mosaic code. With the original code, Clark's management experience and $3 million in seed money, and Andreessen's vision and technical expertise, Netscape made its entrance into the highly dynamic Internet market.

Netscape entered the broad Internet market via the Web browser market, where it faced two challenges: it had to set a new industry standard, and it had to make money. The former challenge was the immediate concern. To set a new standard, Netscape had to create a program that would destroy Mosaic, which in 1994 wielded 60% of the Web browser market. The rival program was Initially named Mozilla and then changed to Netscape Navigator at the time of its debut in December, 1994. Using the same "give away today and make money tomorrow" strategy that Andreessen's team had used to popularize Mosaic, by the spring of 1995 Netscape had succeeded in capturing 75% of the Web browser market. Mosaic, under the guise of Spyglass, trailed far behind with 5% of the market. Having set the industry standard, Netscape was poised to make money by selling server software to companies that wanted marketing access to potential consumers.

The Competitors

Netscape was the indisputable leader of its kind. As the Internet community and its demands continued to increase, however, so did the multitude of competitors. Netscape faced potential competition from new entrants in the Web browser, server and service markets, PC and UNIX software vendors, and on-line service providers. Financial information on the following competitors is provided in Exhibit 3.

Spyglass, Inc. was Netscape's nearest competitor with its Enhanced Mosiac Web browser technology. However, while Spyglass marketed the only current rival product to Netscape's Navigator, it did so to a distinctly different market. Instead of focusing on the commercial browser market dominated by Netscape, by mid-1995 Spyglass had honed its strategy on the code market. As a code vendor, Spyglass produced the code and then sold it to other software companies wanting to incorporate it into their own programs. Spyglass also sold the computer code for creating server software. By employing this strategy, Spyglass attempted to capture the corporate market, which would ultimately compete with Netscape on the end-user front. Microsoft, for example, was among Spyglass' licensees and a rising competitor for

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As the de facto gatekeeper of computing, Microsoft was perhaps the most formidable of Netscape's competitors in the long-term. In August 1995, the powerful PC software company was only weeks away from releasing its long-awaited Windows 95 operating system, which included a rival browser it had created from Spyglass code. The Microsoft browser would allow Windows users to access Microsoft Network, the company's proprietary on-line service, and would also offer broader Internet access. Further, Microsoft was scheduled to release its server software in mid-1996.

The on-line computer service providers also had made strides recently to move into Netscape's market. For example, both America Online and Prodigy had created independent browsers. Compuserve had licensed Spyglass software code for its recently released Web browser software. In mid-1995, these three on-line services had a total of approximately eight to nine million subscribers. As the on-line market became increasingly threatened by the rising popularity of the Web and its access providers, it was imperative that these companies compete for Netscape's market if they hoped to participate in the unfolding future of on-line commerce and communication.Initial Public Offerings (IPOs)such a move.

Part A

Case: Globalizing the Cost of Capital and Capital Budgeting at AES

1. Using the approach developed by Venerus calculate the cost of capital for Kelvin project in South Africa. (You can find all the necessary information in exhibits 7a, 7b, 8. 9a, 9b, 10 and 11, assume that EBIT coverage ratio is 2.6X. You should also include WACC adjustments for Unsystematic risk)