Rx for Trouble
Open wide and say, “Uh-oh”: Why Austin’s drkoop.com is in such bad health.
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What’s in a name? If you’re former U.S. surgeon general C. Everett Koop, try $88.4 million: That’s the sum raised last June by drkoop.com when it sold nine million shares of its stock to the public. The cachet of an association with a famous, respected physician helped drive the online health information provider’s initial offering price of $9 to more than $45 within a month. The bull market for e-health stocks valued the Austin start-up at more than $500 million last summer, an astounding amount when you consider that its revenues the previous quarter were just $404,000.
Just as astounding, as of early 2000 drkoop.com was—well, choose your favorite health-related cliché: severely under the weather? on its last legs? on its deathbed? In mid-March the financial newsweekly Barrons gave the company just three months to live based on its rapidly dwindling supply of cash, and a report by drkoop.com’s auditors to the Securities and Exchange Commission similarly called its long-term survival into question, noting that it had “sustained losses and negative cash flows from operation since its inception.” Twice before, the auditors had warned about the company’s financial health, but investors paid no attention. This time, however, they did: The dire news slashed the price of drkoop.com’s already depressed shares another 43 percent to $3.56 on March 31. On April 29 the stock was trading at $2.75.
Whether the condition is truly critical remains to be seen. A spokesman for drkoop.com maintains that the auditor’s report was “not a prediction that the company is about to fold” and says a “host of strategic financing options” are being explored with the help of investment bank Bear, Stearns and Company. But whatever happens, the year-long roller-coaster ride offers plenty of lessons and warnings for dot-com investors and entrepreneurs—first and foremost, that celebrity is no guarantee of success on the Web.
It’s easy to see how, in this case, it might have seemed otherwise. “Dr. Koop has a brand name in the way that the Mayo Clinic has a brand name,” says Claudine Singer, a senior analyst at New York-based Jupiter Communications, a leading e-commerce research firm. That’s why Donald W. Hackett, a computer industry veteran, courted him for several months to sign on to a health-related Internet start-up. In 1997 Koop finally agreed to join Hackett’s online consumer health care network, Personal Medical Records, which relaunched as drkoop.com in March 1999. “I’ve had two major messages that I’ve tried to get out to the public all my professional life,” says the 83-year-old Koop, who in addition to chairing the company’s board is Senior Scholar at the C. Everett Koop Institute at Dartmouth College, in Hanover, New Hampshire. “One is to take charge of your own health. The other is that there is no prescription I can give you that is more valuable than knowledge.” He says he became convinced that a commercial Internet venture was the only way to get the word out: “I’ve tried the non-profit world, and the non-profit world is not interested in supporting those messages on the Internet or in any other way.”
The Web site that would eventually become drkoop.com went live in July 1998, offering a mix of content (the imparting of medical information) and e-commerce (the selling of health-related products). Among its notable features were pregnancy due-date and body-mass calculators, a forum for users to chat with and ask questions of doctors and each other, a Drug Checker (which warns of dangerous medicinal combinations), a database of hospitals and doctors, and a virtual mall where you could buy health insurance, prescription refills, and health and beauty aids. In the nearly two years since, the company has added a Community Partner Program, which connects physicians and health care organizations like Methodist Hospitals of Dallas to Internet users through co-branded Web sites, and has begun providing medical news to 22 TV stations as a way to build brand awareness.
With other online health sites offering similar goods and services, company officials know they need something special, and that’s where Koop comes in: By leveraging his good name (and his familiar bearded-and-bow-tied image), they’ve been able to create a trustworthy brand to which people, tech-friendly and otherwise, can comfortably turn. The number of registered users visiting the site rose from 280,000 before the IPO to more than 1.3 million this past March. Revenue from advertising and sponsorships, meanwhile, swelled from a mere $15,000 in 1998 to nearly $7.7 million last year, and total revenue—including e-commerce and the syndication of drkoop.com content to other sites—jumped from $43,000 in 1998 to $9.4 million last year.
Still, the company had losses of $56 million in 1999. Why? For several reasons.
It’s giving too much away. Most of the site’s content is available free of charge. “A lot of what we do is public service,” insists Hackett, who is drkoop.com’s CEO. Good works, however, don’t translate into good profits.
It’s growing too fast. In just three years the company has gone from 3 employees to 185, burning up cash along the way.
It’s overspending. Hoping to drive traffic to the site, officials of drkoop.com paid dearly for access to two popular Internet portals, hoping to tap into their mass audiences. Last July the company signed a four-year, $89 million deal with America Online that made it the highest-profile health-content provider to the service’s 20 million subscribers. More recently it signed a similar deal for an undisclosed amount with the Go Network, the Internet division of the Walt Disney Company, which has 22 million unique visitors. Yet the surge in traffic has been far less than expected, leading analysts to have second thoughts about the wisdom of the deals—and to wonder aloud if they could hurt drkoop.com’s chances of being acquired should ever the company be put up for sale. “The question facing a potential buyer is, Do we acquire these contracts?” says Mark Mulcahy, an analyst with San Francisco-based Pacific Growth Equities. “If the answer is yes, drkoop.com becomes less desirable, because it comes with implied liabilities.” Perhaps in response to such concerns, drkoop.com renegotiated its portal deals on April 25.
It’s underselling. In 1999 e-commerce accounted for less than one percent of the site’s revenues (ad sales and sponsorships were responsible for 81 percent, with the rest coming from content syndication and software licensing). The company’s goal had been for e-commerce to account for one-third of its total revenues by late 2001.
And those aren’t the only problems. Drkoop.com has also been struggling to be heard over the din of competition. When it first went online there were 15,000 health-related Internet companies, and there are many more today, including high-profile ones in Texas (Austin’s Rx.com, for instance) and around the country (Bellevue, Washington’s drugstore.com, San Francisco’s PlanetRx.com), as well as some bricks-and-mortar companies like drugstore chains CVS and Walgreens that are building a Web presence as well. The leader of the e-health pack these days is Healtheon/WebMD of Atlanta, which was founded by Netscape’s Jim Clark and is, by far, the biggest company that links consumers, doctors, hospitals, and health plans via the Net. In February Healtheon capped an eighty-deal, eighteen-month buying binge with an agreement to acquire two competitors, Medical Manager and CareInsite, for $4.8 billion in stock. In fact, Healtheon expressed interest in buying drkoop.com last year but was rebuffed, Hackett says, because of a disagreement over strategy.
There are also questions about the editorial independence of drkoop.com. The way it and many sites make money is based on the number of “impressions”—that is, the number of times an ad on the site is viewed by the site’s users. The more impressions a site gets, the more that advertisers will pay for ad space, in the same way that a magazine with more readers can charge higher rates than one with less. Niche impressions are even more valuable: In theory, by delivering a highly targeted community—say, users interested in diabetes—a site like drkoop.com can charge an even greater premium for its ad space. Advertisers can, if they wish, place an ad for an insulin pump next to a story on diabetes, thus pitching their products to a receptive audience. Dennis Upah, drkoop.com’s chief operating officer, calls this phenomenon “contextual marketing.”
Upah is careful to point out that advertisers in no way get to influence the editorial content of drkoop.com stories. Yet failure to distinguish between content and advertising was one of the ethical blunders brought to light by the New York Times last year in a critical article that accused the company and Koop personally of ethical lapses on the drkoop.com Web site. For example, visitors to the site had no way of knowing that hospitals described as the “most innovative and advanced health care institutions across the country” had paid $40,000 to become a home-page link to health care providers (the problem has been fixed). The Times and medical ethicists also took the company to task for not disclosing that drkoop.com was paid a fee for each volunteer it recruited to participate in clinical trials.
To make matters worse, Koop and the drkoop.com team were humiliated last fall when reports of securities law violations came to light. Two of the company’s directors—Richard D. Helppie and Nancy L. Snyderman—violated a federal statute known as the short-swing profit rule when they sold shares too soon after the initial public offering. In addition, Koop and the company’s chief financial officer failed to file forms disclosing indirect stock purchases on the day of the offering. And in February four members of drkoop.com’s eight-person board of directors sold large quantities of stock, federal filings show. Koop, who held 11 percent of drkoop.com’s stock following the IPO, sold about one-tenth of his holdings—91,000 shares—at prices ranging from $9.38 to $10.95. Vice chairman John Zaccaro sold 75,000 shares, while Snyderman and Helppie sold 250,000 and 697,500 shares, respectively. “Obviously, when they are trying to dump stock it doesn’t build confidence,” says Singer of Jupiter Communications. The sales were legal because they occurred after restrictions on the sale of stock following an IPO expired. Still, the selling didn’t look good, especially after the auditor’s report was released several weeks later and the stock price tanked.
Koop and Hackett both admit that mistakes were made, but not intentional violations of policy. “We are in a brand-new business that is growing at the speed of light,” says Koop. “The rules are made up as you go along, and people do make mistakes.” Late last year, in an attempt at damage control and to set standards for the nascent online health industry, Koop helped launch the Hi-Ethics Alliance, a consortium of twenty competing Internet health care companies working to develop privacy and ethical standards for online health information providers. Drkoop.com has also put reassuring messages from Koop on the site touting the company’s commitment to ethics and privacy.
SO WHAT’S THE DIAGNOSIS? It’s probably too early to place a “do not resuscitate” order on drkoop.com, but the prognosis may be bleak. After April’s stock market carnage, investors are especially wary of dot-com companies with unproven business plans and a history of losing money—yet investors are exactly what drkoop.com needs. “If your stock is trading below the offering price, you can’t do a secondary offering,” says Mulcahy of Pacific Growth Equities, who doesn’t think the company will be any more successful at issuing bonds. And as money from institutional investors and venture capitalists dries up, so do drkoop.com’s options.
Of course, the company could put itself up for sale, which is what many observers think is happening now that Bear, Stearns is on board. “There is nary a content player out there that isn’t a good takeover target,” says Singer, referring to the Darwinian winnowing that’s currently occurring in the Internet health care industry. And even if drkoop.com is cash poor, it’s certainly content rich. But then all the money spent building the brand could be down the drain: If control of the company indeed changes hands, Koop can terminate the agreement conferring the rights to his “name, image, or likeness.” “If the brand can walk out the door with ninety days’ notice, it certainly makes it harder to pitch the company as a viable candidate for acquisition,” Mulcahy says.
As of now, the official line is that the brand is staying put. Investors may want to get a second opinion.