Aftermarket: B-to-b Marketplaces Surprise Wall Street

Weak third quarter earnings reports from a myriad of industries helped knock the wind out of Wall Street this month. Yet reports last week from companies in the emerging b-to-b sector indicate some are riding through the storm relatively unscathed, much to the surprise of marketwatchers who believed the Internet was a sinking ship.

Several b-to-b digital marketplaces issued earnings reports last week that exceeded expectations. Ahead of schedule by previous predictions, the industry stands on the verge of profitability within coming months, thanks to strong revenue growth coupled with strategic partnerships.

However, while positive Q3 results have provided the sector with some breathing room, analysts following the development of digital marketplaces like Ariba and PurchasePro still find themselves with no edge week-to-week.

“A lot of us were wrong right away when these companies first began to deploy their technology,” said Patrick Walravens, a San Franciso-based b-to-b analyst for Lehman Brothers. “The big lesson that has been learned is that b-to-b is evolving in waves, the first one being infrastructure, actually selling the software,” Walravens said. Horizontal service and vertical marketplaces deployment are next in line, he said.

Results from PurchasePro, the first b-to-b marketplace to report last week, showed 82% sequential growth with $17.3 million in quarterly revenue, slightly above estimates.

The revenue mix for the quarter was 29% network access, 65% software licensing, 4% advertising and 2% other. The company also posted a loss per share of $0.07, beating the analyst consensus of a $0.17 loss. Cash and operating expenses were also 18% lower than expected.

While the numbers look good, PurchasePro – which maintains a food and hospitality digital marketplace – only hit the market in September 1999. The digital marketplace is still deploying its technology, a key revenue area that has yet to peak, and the company will come to rely on network access fees to generate revenue as software licensing fees drop.

“Recurring revenues, such as subscription and transaction fees, will pick up once you get real usage of these systems,” Walravens explained.

Overall, the report shows PurchasePro on the upswing. “Anytime you have 82% sequential growth, you have to chalk up the quarter as strong,” said Walravens. “As long as they beat my estimates, I’m happy.” He predicts the company will turn a profit next quarter.

If A Report Falls In The Forest…

Despite the earning reports, shares of PurchasePro fell by 19%, to $32.56 in the following day’s trading. The same downturn was seen in Ariba’s stock, which announced its quarterly results one day after PurchasePro. Ariba plunged $11 to $116.06, despite the fact the industry leader, which debuted on the market in June of last year, surpassed expectations on both the top and bottom line.

“The model still has to be proven out,” said Doug Augenthaler, a b-to-b analyst with CIBC World Markets. “But it was a surprise, no one expected them to beat the estimates. They beat our revenue estimate by 40%,” he said, characterizing it as a “blow-out quarter” for Ariba.

Expected to show a loss of five cents a share, Ariba recorded revenue of $134.9 million, 67% higher than last quarter, and posted a breakeven EPS. License revenue accounted for $99.1 million, or 73% of revenue while network services and maintenance collectively accounted for $35.7 million, or 27%. Transaction-fee revenues more than doubled during the quarter and revenue was up by 687% from the same period last year. Additionally, the company will hit profitability four quarters ahead of schedule.

“Profitability is imminent,” said Ariba’s Chairman and CEO, Keith Krach in a conference call last Wednesday with analysts and media. Ariba expects to report profits of 2 to 3 cents a share in Q1 of next year, said Krach.

“Ariba has sold a lot of software, but there’s not a lot of evidence in its transactions [revenue] yet,” said Augenthaler. “But it’s still early in that game.”

None of the b-to-b players have complete product lines yet, although sources agree that these companies are headed in that direction. In a recent First Call report on Ariba, ABN AMRO Inc. analyst Robert Johnson raised his fiscal Q4 estimates to $0.02 from a loss of $0.04.

“We continue to believe Ariba is very well positioned to capture a large portion of the e-procurement market,” he wrote. “We originally did not expect a breakeven quarter until June 2001.”

He did note, however, that recurring network revenue grew more slowly than he would have liked.

During Q3 Ariba added 114 new customers, up from 110 and 79 in the past two quarters. PurchasePro directly sold and launched 22 private marketplaces directly, during the quarter, and sold another 27 to resellers, including 10 to America Online, 10 to Sun Microsystems and seven to others.

“Investors should keep in mind that it’s hard to modernize b-to-b; it’s not a natural process,” added Augenthaler.

Competition is still ripe in this emerging market, although digital marketplaces are rapidly becoming segmented between public and private ones. Commerce One , FreeMarkets , i2 Technologies and VerticalNet , all operate proprietary software for digital marketplaces in addition to Ariba and PurchasePro.

“Yes, this is a hectic market, but that’s why there’s an opportunity to make so much money,” said Walravens. “I think the industry is well poised for 2001.”