123JumpIs the B2B Fad Over?
The business software space evolved at a torrid pace throughout the second half of 1999 and in 2000. Investors, analysts, economists and researchers have all experienced varying degrees of difficulty in keeping up with the speed of the industry's technological innovation and business development.
Nevertheless, most would agree that the technology boom has come to an end, with the Nasdaq Composite Index down 50% since its all-time high on March 10, 2000. During the same time frame, the S&P 500 Index is down less than 10%, and the Dow Jones Industrial Average is up nearly 10%.
Despite the overall technology meltdown - and fears that the United States is headed into a recession - there are technology industries and companies deserving investment consideration.
The focus of this series of articles is on various software companies that compete within the business-to-business (B2B) and electronic business market segments.
The objective of the series is twofold. First, it will track general economic trends in the B2B industry that affect supply and demand. Second, it will concentrate discussion and analysis on specific publicly traded companies and software markets with solid prospects for growth and profitability in the long run.
The B2B Space
There are many market segments within the business software space. Although specific definitions vary by source, generally the B2B software market is comprised of vendors who aim to facilitate commercial transactions and communication between businesses. This work is in contrast to business-to-consumer (B2C) software vendors, who facilitate e-commerce between a company and its individual customers.
Many different market segments coexist within the B2B space. Public e-marketplace operators such as Ventro (VNTR), VerticalNet (VERT) and Mariba (MRBA) are companies that host public e-markets and derive revenues by charging fees and commissions to the companies that buy and sell on the marketplace.
Private e-marketplace operators are large, multinational corporations, or consortia of companies, that get together to form a marketplace to coordinate industry supply chains, squeeze out inefficiencies, better gauge industry supply/demand and leverage group buying to reduce procurement costs.
At the same time, these industry consortia offer new markets and opportunities to suppliers, especially smaller or geographically distant suppliers, in terms of access to a large market of buyers and technological leadership.
Covisint is expected to be the largest private e-marketplace. It will be the global automotive industry exchange formed by General Motors (GM), Ford (F) and DaimlerChrysler (DCX). The technology partners for Covisint are Commerce One (CMRC) and Oracle (ORCL).
B2B market makers such as Ariba (ARBA) and Commerce One build the infrastructure for electronic marketplaces where B2B e-commerce transactions occur. Extensible markup language (XML) software vendors, such as webMethods (WEBM), enable B2B communication across disparate computer applications and between companies.
Supply chain management software companies such as i2 Technologies (ITWO), Manugistics (MANU) and Logility (LGTY) help companies collaborate with their business partners and suppliers, including information sharing, joint supply/demand forecasting, supplier sourcing, product fulfillment, and managing the ordering, shipping and receiving of goods.
Companies Converge in the B2B Arena
As global e-commerce becomes more complex, businesses continue to demand greater software functionality. Thus, other business software markets are converging with the B2B space with the aim of complementing or supplementing the B2B value proposition. Of particular note, customer relationship management (CRM) and enterprise resource planning (ERP) firms are entering the B2B space.
CRM software vendors such as Siebel Systems (SEBL) help companies to interact with customers, build loyalty among customers through better service and customized products, and leverage information about customers into more sales.
In terms of a company's back-end operations, ERP software helps integrate a company's back office systems such as accounting, finance, human resources, manufacturing, logistics, inventory management, etc.
Enterprise application integration (EAi) software, or middleware, vendors, such as New Era of Networks (NEON), Tibco (TIBX) and SeeBeyond (SBYN), connect various applications like CRM and ERP systems.
Success and Failure in 2000
Leading vendors in these software markets have had financial and operational success throughout 2000. Several top start-up software companies enjoyed revenue growth in the high triple-digits and began approaching break-even income levels, while both new and old vendors won large contracts with leading multinational corporations.
New, Internet-savvy product strategies were also the basis of turn-around strategies at several older software companies, such as ERP competitors SAP (SAP), PeopleSoft (PSFT) and JD Edwards (JDEC).
Despite successes, these e-business software vendors were among the worst performers during the technology meltdown. After success in the first quarter of last year, an index of 36 leading e-business stocks was down 48% by the end of December 2000.
Over the course of last year, e-marketplaces performed the worst, down 90% since their 52-week highs. B2B market makers, as well as XML and EAi software vendors, were also down in the 60% range since their highs. CRM vendors were down an average of 48%. Supply chain management companies have been less affected, losing an average of 17% of their value since 52-week highs.
The ERP space has best resisted the soft technology market this year, losing only 2%, although valuations were already depressed in 1999.
Software, in general, suffered during 2000. Software stocks for the most part lagged the Nasdaq by up to 10% to 15% over the year. Software was behind the technology industry average over 2000, consistently trailing by up to 25%.
For more details on what happened to e-business stocks throughout 2000, refer to Year in Review, B2B E-Commerce.
Looking Ahead
The macro-trend going forward involves an emphasis on quality. This involves, first, enhanced software functionality, security and reliability. Successful companies are, and will be, the ones with more than just business plans. Products have to be in the market, be earning revenues and they have to be good.
Second, leading companies are also working on building customer satisfaction and loyalty. It is not enough to have good software. To stand out from the crowd, vendors must install the software seamlessly and quickly, and thereby maximize ROI for the client.
Third, companies have to focus on making a profit. Leading e-business software vendors are projecting break-even quarterly results in fiscal 2001, if they have not broken even already.
Furthermore, as part of the race toward profitability, there is a strategic focus on high-margin lines of business. For instance, software license fee revenue is a higher margin business than consulting fees.
This is developing into a key trend, as e-marketplaces are increasingly focusing their efforts on building software that enables other e-markets to function - thereby slowly exiting the business of operating independent e-marketplaces.
Leading e-marketplaces such as Ventro, VerticalNet and e-steel have all made similar moves in this direction. Ventro, despite being one of the oldest and most well-established e-marketplaces, is selling two of its public marketplaces (Chemdex and Promedix) and has recently laid off 200 staff after posting third-quarter 2000 transaction volume of $30 million and an EPS loss of $1.69.
Ventro's objectives, in entering what it calls the marketplace service provider (MPS) space, is to concentrate on high-margin software license fees.
The key driving force behind e-marketplaces' push into new businesses has been the problem of poor margins. Many analysts and investors may have miscalculated the earning power of e-markets that offer purely transactional services. An illustration of companies in the low margin marketplace industry can be found with respect to the NYSExchange and the Nasdaq Stock Market.
During 1999, the average trading volume was 1 billion trades per day for each exchange. However, revenue was approximately one quarter of 1 cent per share, and profits were well under $100 million per exchange.
Convergence is another key trend in the software industry. Companies are making strategic moves to leverage existing expertise in one area of software functionality into success in other market segments where there are prospects of higher growth rates and/or higher margin. For instance, supply chain management firms are entering the B2B market making space.
One of the best examples of this is supply chain management market share leader i2 Technologies competing against market making leaders Ariba and Commerce One. Also, CRM leaders such as BroadVision (BVSN) and Vignette (VIGN) are entering the B2B space with myriad products for e-procurement, catalog management and Web site personalization.
Despite problems in the e-marketplace space, research indicates that there is reason to be optimistic about e-business markets such as supply chain management, logistics, customer relationship management, XML software and integration software, especially with respect to integrating front office (CRM) systems with back-end systems (e.g. ERP and supply chain management).
Market research from leading IT research firms such as AMR Research, International Data Corp., InformationWeek Magazine, the Hurwitz Group and others indicate a similar story.
There are opportunities in the various B2B and e-business software spaces. But a lot needs to change with respect to the value propositions offered by these companies, including changes in products, marketing strategy and overall strategic direction.
There are rewards for the companies that can make the necessary adjustments. The e-business software market has the potential to be a viable, stable and large economic subsector within the software industry.
Aside from reasons that have led investors and analysts away from e-markets, there are reasons why decision makers in the corporate world have not embraced B2B technology as quickly as some anticipated. These include problems with integrating business and IT systems and a lack of software functionality.
A study by AMR Research said, "The reality is that first generation B2B models failed because they made market aggregation the centerpiece of their value proposition. With the explosive growth of private exchanges, it is clear that the top priority is streamlining operations."
The most valuable areas of software functionality appear to be product searching capabilities, order tracking capabilities, product catalog capabilities, vendor search capabilities, integration with other enterprise applications such as ERP and CRM systems, and buyer/supplier software integration capabilities.
Some of the least valuable areas of software functionality (which, unfortunately, too many companies focus too many resources on) include dynamic real-time auction capabilities, collaborative product design capabilities and news services.
Due to these problems, less than one third of Fortune 500 companies purchase strategic goods via B2B technology - although a higher proportion purchase general supplies via the Internet.
Approximately 25% of business managers do not believe there is a business case for joining an e-marketplace and 23% believe there will be negligible ROI.
Growth in B2B
Notwithstanding these areas of concern, B2B technology is expected to play an increasingly large role in terms of the way businesses do business. The difference between this prediction and what analysts and investors believed nine months ago is that dot-coms and other Internet-based business models will not drive the growth of B2B.
Large, multinational corporations and brick and mortar (BAM) companies will drive the growth of B2B technology. This will not be an overnight revolution. Rather, the development of the B2B space will be an evolutionary progression within the business world as competitors strive to reduce costs, streamline processes and become more flexible to adapt quickly to market changes.
These corporate objectives will manifest themselves in the B2B universe in many ways. Companies will be able to reduce the size of purchasing departments, reduce average prices of purchased goods, reduce inventory levels, gauge demand more accurately, understand supply better and work to bring supply and demand into equilibrium. They also will be able to order goods and services more quickly via the Internet.
Eighty-five percent of the investment into B2B goods and services is expected to come from BAMs. Already, leading B2B market making software vendors such as Ariba and Commerce One derive at least 90% of their revenue from non-dot-coms. And in terms of investing equity into the B2B space, in 2000 BAMs invested five times more capital than venture capitalists.
This trend is expected to continue as entire industries move toward an Internet-based model for supply chain management and purchasing. IT spending is expected to increase 5% between 2001 and 2002, and the proportion of the average IT department's budget spent on e-commerce software is expected to increase from 19% to 23%.
The proportion of the budget spent on ERP and other older, less Internet-based technologies is expected to decline.
Additionally, small businesses are expected to become more active in terms of e-commerce, including B2B. International Data Corp. estimates that by 2002 twice as many small businesses will earn 5% or more of their revenue via the Internet versus 1999. This trend also represents a potential source of demand for e-business and B2B software vendors.
The B2B and e-business software markets are entrenched in the software industry. Large companies - and eventually smaller ones - are expected to invest more in these types of technologies. Vendors will have to make several changes to their products and strategies going forward, but the ones that adapt successfully to new demand are expected to be profitable, successful, stable and viable businesses in the long run.
Future installments of Is the B2B Fad Over? will focus on companies that are poised to take advantage of market conditions and are most likely to succeed in the industry. They will also discuss the key trends that shape and define the industry, including the latest critical success factors.
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