People who say the market has lost interest in Internet stocks are obviously straying far from Homestore.com (HOMS) .

After getting burned by nearly every Internet pick they made before the

Nasdaq's

2000 peak, Wall Street's sell-side analysts at firms such as

Goldman Sachs

,

Prudential Volpe Technology Group

and

W.R. Hambrecht

have been vouching for Homestore.com's promise, using time-tested terms of endearment along the lines of "dominant Web portal," "high barriers to entry," "ideally positioned" and "large market opportunity."

All well and good, except for two major caveats: The company, by traditional measures, still isn't making money, of course. And given the weakened economy, it seems awfully possible that after a few years in which real estate prices could go nowhere but up, a bearish real estate market could be in store. And that downturn could deal the industry-entwined Homestore.com a comeuppance more often associated with pet-product portals.

Right at Homestore
Stock hangs in despite dot-com distress

But Homestore.com's supporters say their confidence is buttressed by the modesty of their expectations for Homestore.com's growth, as well as by the huge opportunity, relative to Homestore's current size, that even a downsized real estate market represents.

"We're still just scratching the surface," says Homestore.com CEO Stuart Wolff. "We think that we're fairly well insulated for the next couple years."

Homestore.com's shares jumped Tuesday following W.R. Hambrecht analyst Derek Brown's initiation of coverage with a buy rating and a $40 price target for the stock. The stock is up more than 30% from last week's lows, though it was off $1 at $24.94 Wednesday. (Brown's firm hasn't done underwriting for Homestore.com.)

Casting a Wide Net

Homestore.com is riding some positive macroeconomic trends, as Brown and others point out. An increasing number of buyers are using the Internet as part of the house-hunting process, as indicated by several sources. And, bolstered by the recent acquisition of

Cendant's

(CD)

Move.com

site, Homestore.com has little competition. (The

Justice Department

has opened an inquiry into Homestore.com's position in the Internet real estate market, but it didn't block the Cendant deal.)

But there are negative macro threats on the horizon, too. Signs of weakness in the housing market could one day topple the dominoes in related markets, just as they did roughly a decade ago. On Monday,

it was reported that new home sales fell for the second straight month, though the much larger existing home sales number fell only slightly after a relatively strong January.

Housing Downturn = Advertising Shrinkage
Real estate classified advertising in newspapers, 1982-1991

Source: Newspaper Association of America

The commercial Internet wasn't around to suffer during the housing recession of the early 1990s, but other media and businesses were. With the sales of existing homes falling 4% from 1989 to 1991 (numbers from earlier in the 1980s weren't available), real estate classifieds in newspapers fell; so did the number of members in the

National Association of Realtors

, the trade group whose members handle most U.S. home sales.

A present-day downturn could hit the population that Homestore.com is targeting as its first major market for professional subscriptions, which comprise a majority of its revenue. Following the recent deal to acquire Move.com, Homestore.com's professional subscribers jumped from about 145,000 to a projected 342,000. Given that the National Association of Realtors counts about 760,000 members, and that, according to the latest survey, about 32% of them earn less than $25,000 per year -- it seems as if 250,000 or so of them would be most at-risk for dropping out of the real estate community, or not spending a lot of money on new Internet services like those of Homestore.com. That means the penetration of that segment of the professional market could happen pretty quickly, though Homestore.com is also targeting unaffiliated real estate professionals.

Ups and Downs
Membership in National Association of Realtors

Source: National Association of Realtors

One analyst who has looked at Homestore.com but doesn't own the stock says that the Internet clearly improves the home-buying process, and Homestore.com is a clear leader in the business. But the analyst says, it's difficult to figure out how well it would weather a housing recession, both in reality and as perceived by Wall Street. "In those circumstances, would you want to own something associated with real estate?" asks the buy-sider, who spoke on the condition of anonymity.

Mulish?

But the macroeconomic risks haven't deterred analysts like Prudential's Mark Rowen, who initiated coverage of Homestore.com last week with a strong buy rating and a price target of $32. Nor has it bothered Goldman analyst Anthony Noto, who upgraded Homestore.com from market outperform to recommended list earlier this month, nor

Merrill Lynch's

Henry Blodget, who has a buy on the stock and who issued a note last Friday expressing confidence that the company, due to report first-quarter results in the third week of April, will meet analysts' expectations. (Merrill was an underwriter for Homestore.com; Prudential and Goldman weren't.)

Noto, for example, says that his estimates for Homestore.com's growth already reflect cautious growth estimates. He expects the company to add 24,000 subscribers this year, exclusive of the Cendant acquisition -- less than it added in 1999 or 2000. Advertising revenue, which grew about 200% from 1999 to 2000 for the company, will grow around 35% in 2001 and even less in 2002, Noto forecasts. Noto and Wolff say the company's ad revenue isn't as vulnerable as are those of other dot-coms, because its ad base includes only trace amounts of dot-com customers.

Like other Net-based companies before it, Homestore.com has to lay some expensive groundwork to build its franchise. And the groundwork is a little more expensive than it might seem at first glance.

In 2000, Homestore.com reported a loss of $115 million, or $1.44 a share, on revenue of $230 million, compared to a loss of $132 million, or $2.11 per share, on revenue of $73 million one year earlier. Over the first nine months of 2000, Homestore.com had $38 million in negative cash flow from operations, against a $35 million burn in the corresponding period a year earlier, though the company isn't running out of cash; it ended 2000 with $256 million in cash and short-term investments.

Analysts are saying Homestore.com is trading at reasonable multiples to its cash EPS figures, which in the wake of the Cendant deal are expected to hit 44 cents per share in 2001 and nearly double that in 2002. But analysts say that doesn't include about $12 million a quarter in noncash charges -- more than 10 cents a quarter -- related to a stock-based distribution deal that Homestore.com has with

AOL Time Warner

(AOL)

. Because this is an ongoing expense that helps drive traffic to Homestore.com, there is a case for acknowledging the cost in the EPS numbers that Wall Street watches, says Ethan McAfee, Internet analyst at

T. Rowe Price

. But, he says, "Rightly or wrongly, everybody is overlooking it." The widespread awareness of how the AOL agreement is accounted for, says McAfee, make it unlike situations with other companies that have had accounting-treatment blowups.

Besides, says McAfee, the payoff for Homestore.com over the course of the deal will be more than enough to make up for its cost, he says. (The company is T. Rowe Price's second-largest Internet holding behind AOL Time Warner.) He says he's "pretty confident" that Homestore.com will outperform the Internet subsector over the next six months to a year.

The major investment risk with Homestore.com, says McAfee, has to do with the market, not the company. "If the Nasdaq is going down 20% in the next month, Homestore will be down 20%, too," he says.