B-to-B Ain't Dead Yet

Baldwin Louie — Thu, 01 Jun 2000 15:00:00 -0700

NEW YORK - Business-to-business Internet companies, particularly electronic marketplaces, are as popular with investors these days as the mumps. But most analysts say there's still enormous potential for b-to-b startups. Following the venture capital might offer some clues about which marketplaces are likely to succeed.

Some VCs have abandoned startups that run marketplaces. They're turning instead to those that provide the software for building marketplaces, or companies that provide services such as logistics.

The Goldman Sachs Group (GS) and other firms recently ponied up $45 million for WebVision, a supply chain software vendor. Battery Ventures and Bessemer Venture Partners recently injected $10.6 million into ePit, which makes marketplace software.

Many early stage VCs, including Charles River Ventures and Rosewood Venture Group, say they haven't given up on Web marketplaces, but they are no longer backing startups in industries like aviation, energy and telecommunications, where powerful coalitions have announced plans for their own online exchanges. They're now focusing on more-fragmented industries where there are lots of inefficiencies and no dominant players, such as construction, food and plastics. And they're paying closer attention to the experience of the management team and whether the startups can build marketplace features for which buyers and sellers would be willing to pay.

Investors have been treating independent b-to-b marketplaces like unsavory distant relatives because they believe that the indies will never be able to compete with coalitions of powerful industry players, more than 60 of which have announced plans to launch their own marketplaces.

Investors perceive that startups have little chance against the likes of Alcoa (AA), Boeing, Chevron (CHV) and DuPont, yet fragmented industries have caught the eye of more than one VC because they allow marketplaces plenty of opportunity to make money by boosting efficiency. According to a new report from Credit Suisse First Boston (dossier), chemicals, construction, food production, metals and plastics are among the industries in which the top five companies account for less than 20 percent of sales.

"Industries that are very fragmented, while unlikely to give birth to a consortia, will see funding at a fairly aggressive rate," says Christopher Vroom, managing director of e-commerce equity research at Credit Suisse. "There's great potential for b-to-b marketplaces to streamline business processes."

The rate at which Web marketplaces are getting funded seems to have slowed, but deals are still being made. Among those announced since the stock-market correction:

* DealerSource.com, a marketplace for off-lease and used business equipment, supplies and services, recently received $9 million from Trident Capital, Apex (AVCT) Investment Partners and Lunn Partners.

* Fasturn, a global apparel marketplace, closed $40 million in financing from Lehman Brothers Venture Partners, BCI Partners, CIT Venture Capital and others.

* OneMediaPlace, a media marketplace formerly called Adauction.com, secured commitments for $67 million in private-investment financing, including $25 million from CMGIAtVentures.

* WholesalePortal.com, a wholesale marketplace and transaction service for the specialty-food industry, secured $4.4 million in financing from The Argentum Group.

* Net Market Partners, an accelerator company that provides management advice, capital and connections to potential partners, recently invested in ForRetail.com, an independent Internet marketplace for the $300 billion giftware, home-accent and home-furnishings market.

"The companies in this sector are all small," says Mitch Tuckman, a general partner at Net Market Partners. "Selling costs and write-downs of inventory cost them $72 billion a year. If ForRetail can create a solution where those efficiencies are greatly reduced, then there will be a lot of money to be made."

One criticism of electronic marketplaces is that they can charge only a small transaction fee, so their revenue potential is limited. Tuckman notes that's true only in industries that are efficient and have thin gross margins.

"With ForRetail.com, we're having no problem getting everyone to agree to a 5 percent transaction fee," says Tuckman. "In fact, we're getting reps willing to give us a third of the amount of the commission they make today for expanding their market. They're going to make twice as much by paying ForRetail 5 percent."

Most of the VC funding going into Web marketplaces is in the early stage. For Jonathan Guerster, a general partner of Charles River Ventures, which has invested in about a dozen Web marketplaces, the downturn hasn't affected his company's strategy.

"We're focused on first-stage companies, so the collapse of b-to-b stocks hasn't affected us much," Guerster explains. "It has affected later stages. Investors are more valuation-conscious than they have been."

Guerster said his company has become more conservative because competition among marketplaces has intensified. Rather than looking for fragmented industries, he said he looks for opportunities that haven't yet been exploited and for companies with management teams that can adapt as competitors jump into the market.

Rosewood Venture Group, another early stage VC company, only recently began backing b-to-b firms. Anne Martin, a partner at Rosewood, which recently closed a new $100 million fund and is raising $200 million more, says she's not shying away from marketplaces.

"We're looking for companies in a big market - $60 billion, not $1 billion or $2 billion," says Martin. "We're also looking for companies with a strong management team with domain expertise. People have tended to overlook that."

Startups in industries where dominant buyers or suppliers have announced their own marketplaces are having a tougher time getting VC backing. AviationX launched an online marketplace for replacement airplane parts earlier this year with $1.6 million in funding from Tim and Nick Stojka, cofounders of PlasticsNet.com, and WiredAtlantic, a private e-commerce VC fund.

But when AviationX CEO Henrik Schroder recently went looking for a second round of funding, he found few VCs eager to listen because Boeing, Lockheed Martin (LMT) and other industry giants had already announced that they were teaming up to build their own Web marketplace.

"It's a pretty tough period," says Schroder. "Many VCs seem to believe that big consortia of companies have an advantage over pure-play marketplaces because they bring their business to that marketplace. They hold the transaction hostage."

But Schroder, other entrepreneurs and venture capitalists all say there's a silver lining in the collapse of b-to-b stock prices and the sudden closing of the IPO window.

"In some ways, it's good because it will filter out some of the stuff that doesn't deserve to be funded," Schroder says. However, if the Boeing coalition and others fall apart in six months, it might already be too late for some ventures that do deserve to be funded.

The Industry Standard - B-to-B Ain't Dead Yet - Comments

B-to-B Ain't Dead Yet