Q&A: InfoSpace CEO Naveen Jain

As the chairman and CEO of InfoSpace.com (Nasdaq: INSP), Naveen Jain can't help but be pleased with what his company has done so far.

InfoSpace, which provides content and services for portals and portal and other websites, consistently tops Wall Street expectations, even to the point of reaching profitability two quarters ahead of analyst estimates. It's a high margin business, with continued strong growth that could rocket even faster if InfoSpace successfully expands its revenue stream beyond advertising to cuts of transactions, through its recently introduced merchant services.

The recently-reported third quarter not only saw the usual better-than-forecast results, but also reasons for continued optimism, such as a backlog of $38 million in guaranteed revenue -- not bad for a content and services company with a third quarter top line of $10.1 million.

ZDII spoke to Naveen Jain a couple of days after his company's third quarter conference call. Excerpts from the telephone interview:

ZDII: You managed to boost your gross margins year-over-year --

Jain: And even quarter-to-quarter for that matter.

ZDII: Given that your own company is trying expand its e-commerce services, how do you maintain your gross margins?

Jain: What's very interesting is that when we talk about e-commerce, we really are not the merchant. We're providing the e-commerce technology and the e-commerce platform for other merchants, local merchants and e-tailers, right? Basically, the goods that we're selling is really our technology, bits and bytes, right? Basically the only thing that we're touch is really the bits and bytes and the money, which only stands to bring higher gross margins than touching any goods.

ZDII: As you roll out more products and presumably continue investing in research and development, how do you keep those margins up?

Jain: Again, technology is what we continue to leverage. Once we build the core technology, building the new applications from that core technology becomes a lot easier. To give you an example, to build an address book and a calendar, the community type of products, it took us about a month to do that. And there are several companies who essentially are spending a year doing nothing but building those products, because they had to go build a database technology, they had to go build their registration system. All that stuff had already been done for other products that we have done, right? So we're just taking the existing technology, leveraging it into other applications becomes easier and easier as we build the library of technology that we've already developed.

ZDII: Your backlog at the end of the third quarter was roughly quadruple your revenue for the period. What kind of target do you have in mind for that backlog, if any?

Jain: The backlog really is not a true indication of how strong the business is. These are the signed contracts that do not include any upside performance from transaction revenue, any upside revenue performance from how well the apps perform, or how well the transactions perform on our site. This is a guaranteed revenue, if we were to close the shop today and do nothing else, right?

But I think the business is a lot stronger than what it looks like, and our goal is to increase not just the backlog, but to continue to increase the upside performance to the contracts that we signed by delivering more value to people who are spending money with us, using our technology.

Have an opinion on this?

ZDII: Consumer services now contributes 70 to 80 percent of your revenue?

Jain: In the coming year, we expect that our merchant.com business, which is the second-fastest growing business for us, will contribute about 25 to 30 percent of our revenue. And our wireless business, which is the fastest growing business for us, will be contributing about 10 percent our revenue next year. And less will come from consumer services; but most of the revenue in consumer services will come from the transaction revenue rather than from advertising.

ZDII: Is that a matter of the consumer services markets maturing or...?

Jain: What's happening is that the consumer market is continuing to grow, but the other markets are growing at much faster rates, so even though in absolute terms the consumer services will still be the largest chunk of our revenue, in terms of the percentage growth, you will see wireless and merchant.com business picking up.

ZDII: How long do you think consumer services will remain the largest portion of your revenue?

Jain: I suspect if you start to look at 2001 and 2002, the consumer services will not be the majority of our revenue anymore.

ZDII: You just bought a company to move into India, you already have operations in the UK and Canada. How much contribution do you ultimately see from overseas activities?

Jain: I think that if you look at the next three to four years down the road -- just like any mature business, companies like Microsoft (Nasdaq: MSFT) now derive approximately half or more of their revenue from international markets -- and I wouldn't be surprised that as the market matures and as the market develops in other countries, I think our revenues will be substantially higher coming in from the international ventures.

We have done very, very well in our UK market. In fact, I just received an e-mail that we have over 100 partnerships with some of the largest sites in the UK, doing exactly the same thing: providing a private label solution, building our merchant.com business, building our wireless.com business. And the relationships are very similar, things like AOL, Lycos, The Financial Times, BBC and things like that, and we have been we have been extremely successful launching the same type of cookie-cutter approach in Canada, where you will see our partnerships with America Online (NYSE: AOL), MSN, and Canada.com, and AT&T (NYSE: T), Sprint (NYSE: FON), to continue to leverage our existing partners as they are moving abroad, at the same time continuing to take advantage of the local market as it's developing.

Now that we have been able to capture the UK and Canada, India, in my opinion, is the next very fast-growing market, because of obviously 1 billion population, largest middle-class educated, and I think the Internet is just at the verge of taking off, because the government is taking steps now to privatize the Internet with a bunch of ISPs coming to the market and a whole bunch of stuff happening that I think will catch on.

ZDII: How far can you take that cookie cutter approach? Canada is one thing, but as you move into countries that are significantly more different from the U.S., how far can you extend this model?

Jain: To be honest with you, the reason we tried the UK and Canada first was because I thought that's where we were going to see most of the competition, and somebody else must have at least followed the InfoSpace business model, right? Because they (the UK and Canada) were the most likely somebody would have done that, right? Now that we did not see anybody being able to build the technology and services on a private label basis with partners -- and if it didn't happen in the UK and Canada, it's extremely unlikely anybody would be doing it in other, less developed countries, right? -- we feel a lot more comfortable now that the market is wide open than we would have thought without having succeeded in the UK and Canada.

ZDII: How much of your growth do you expect to be organic as opposed to acquisition-fueled, and what other areas are you thinking of branching into?

Jain: If you look at the stuff that we currently (have) out, we're pretty much are covering the whole broad market. Think of the consumer services as basically a whole bunch of buyers, right? And the merchant services are a whole bunch of services, right? if you can be going after all the buyers in the world and all the sellers in the world, and in fact accessing the market how people are going to be accessing the information through non-PC devices, we literally are in every part of the business that you potentially can imagine. So every single thing that we could build or acquire would very nicely fit into one of the three areas.

We will continue to add a whole bunch of new services and technology into the merchant.com area and the wireless.com area because those are the areas that I believe are growing faster. And we'll continue to add more and more services in both of those areas. And we'll continue to add more technology and services, continue to launch on the consumer.com business.

I believe that just today we are doing a soft launch of our Personal Desktop portal that we talked about last quarter. I think this probably has a potential to change the paradigm on the Internet of how people get their information. So as opposed to websites driving the traffic to their websites, it'll be more like trying to part of people's lives, giving the information to the user wherever the user is. A user could be at Cnet and still get information from ZDnet, and ZDnet continue to make money from the user who essentially might be at a competitor's site at this point.

ZDII: I assume indirectly you're competing with a broad portal such as Yahoo! (Nasdaq: YHOO) or Lycos (Nasdaq: LCOS) or someone like that...

Jain: Absolutely not. In fact, both Lycos is a current partner, Yahoo is a potential partner. Four out of the five highest-traffic sites use InfoSpace today: AOL, Netscape, Microsoft Network, Lycos, Go Network -- they all use InfoSpace's technology, so they are in no way a competitor.

What's happening is, all of these companies basically becoming media companies, where their core strength is to acquire the customer, to be a producer of information and essentially become the media company. They don't want to be in the business of providing the technology, or looking at what it is people need in the future.

And that's where we come in, because we provide all of the underlying information infrastructure for these companies so they can go focus on their core strength, and leave the other part, that we are good at, to us. That means building the best technology for keeping the user on their site. So that means giving them the whole community stuff, whether it's personal homepages, to address book and calendar, or giving them the whole communications solution, which could be Web-based e-mail to chat to message boards, or even Instant Messaging which is more than the computer-to-computer messaging.

Today, everybody has Instant Messaging, which is really my computer sends a message to your computer. We in fact are launching our stuff today, which is a person-to-person messaging; that means when I send a message to Sergio, and if Sergio wants to hear from me, the message automatically gets delivered to Sergio whether Sergio is on a phone, cell phone, pager, or Palm Pilot, or e-mail, or any other device including a fax machine, wherever Sergio wants the information to come, without my ever knowing where the information is being delivered to.

ZDII: So you're not worried that, say, AOL Instant Messenger or ICQ, might do the same thing?

Jain: The point is, we are working with all of the things on Microsoft and AOL, to in fact enhance their existing instant messaging to take advantage of non-PC devices. So our goal is not to compete with them, but to in fact enhance their existing products to take advantage of some of the new and upcoming technologies that we have developed using our server-side technology, rather than client technology.

ZDII: One of the services you provide for a broad portal is an engine for LycoShop, which debuted recently. I was trying out the comparison shopping engine, and when I put in stuff I was looking for, I came up with a pretty skimpy set of merchants. How long do you think it will be before the number of merchants online is robust enough to be comparable with what I can find in the non-virtual world?

Jain: The answer is, this stuff is very early stage of where the stuff needs to be, so I'm not going to tell that this stuff is rock solid. Right now, this is not the stuff that I personally feel proud of, I think there is a lot more that needs to be done here. Currently, we have over 2,500 merchants and catalogs which are currently in our shopping engine; there are 14 million local merchants out there, right? So I think it is a long way to go before I think it becomes a comprehensive place where people go for the information.

But nonetheless, this is still the best in the marketplace, because we were able to not only bring in the local merchant but also integrate the auctions, classified, web search, and the other information -- like the product reviews, newsgroups -- all other information that people need to make an informed decision.

Even though I believe the product is in a pretty early stage -- and I think there's a long way to go before I would personally would go out and say, look, this is the product that I think everybody should use and this should be their starting point -- I think we're making the right decisions, and the product is definitely improving as we go along.

ZDII: What sort of timetable do you foresee for getting it to that stage where it's a product that "everybody should use"?

Jain: My gut feeling is, the Net has to come to a point, by building -- that's the reason we're focusing on the merchant.com business, because merchant.com business is really going after the 14 million local merchants and having them take advantage of the Internet.

So we are essentially working with the regional Bell operating companies, as you might know, that four out of five regional Bell operating companies are currently reselling InfoSpace's merchant.com services. So whether it's an SBC, Pacbell, Ameritech, Bellsouth, or US West, they're going out to the local merchants in their area, and providing them with our instant publishing technology, with our store-building technology, with our active promotion technology that allows them to merchandise the product, that is the product that is going into our sales and leads channel into Active Shopper.

ZDII: Your growth is largely based on the continued growth of portals...

Jain: Most of the horizontal portals as we know of are continuing to lose market share for several reasons. One is that as more and more affinity portals and vertical portals are coming online -- and I think ZDnet is a prime example of what I'm talking about -- is that the people who really, really care about computer information are not going to Yahoo! to find out news on the computer that's happening, they're going to go something like Cnet or ZDnet to find that information.

So as more and more vertical portals are coming online, just like in the real world when cable came out the horizontal networks like ABC, CBS all lost market share, the same thing will happen is that more and more vertical portals are taking the shares away from the horizontal portals, because they're regional in nature, they're local in nature, they're affinity in nature, they're more vertical in depth.

At the same time, what you're seeing is that -- in the next six to 12 months, you will see that almost every single device that you can buy, whether it's a PC or a non-PC device, it will all have the built-in Internet connection. And as soon as you turn the device on, you will see a private label portal, so if you buy a Compaq machine, it will go to a Compaq portal, if you buy a Gateway machine, it will go to a Gateway portal, and if you buy a Sony machine, it will go to a Sony portal, and if you buy an AT&T phone, it will go to the AT&T portal, right?

So what happens is, now all the information that the user needs is right up at the initial screen, that means the reason for the user to go to one of the existing horizontal portals continues to go down, right?

ZDII: So even though you agree with the thesis that the broad portal wars are essentially over, it sounds like you're saying that for InfoSpace, it doesn't matter.

Jain: That's right. In fact, what we're continuing to see is, as the strategy is shifting from the horizontal portals to the vertical portals, in fact, we're getting more and more traffic because what's happening is, we continue to go align ourselves with all these new sites, and give them a complete portal-in-a-box solution for our consumer services, right? Anytime someone needs to build a complete portal we give them all the way from the content that they need, or the commerce services, or the community solutions -- everything that they need so they can build a complete destination site for themselves. And as these sites are getting more and more traffic, we're continuing to grow more and more.

ZDII: You've said that you leverage your core technology into new products. How much of a lifespan do you see for that core technology before it becomes outdated?

Jain: The good thing is, the core technology by definition does not get outdated. So what we did is, we built a robust database engine that allows you to take hundreds of millions of records and be able to search instantly -- that technology never gets obsolete, because people always need a repository of information that can be accessed instantly and which is optimized for the Internet, right? Because the existing database technology like Oracle does not quite scale for the Internet, because it's designed for transaction processing in the real world, rather than on the Internet where most people are essentially reading the information and very few people are changing the information, right?

ZDII: You say you see a clean competitive landscape, there's no one really out there. How long do you think it will stay that way?

Jain: You know, that has been always -- I'm a paranoid person, I have been thinking that somebody would come up a year, two years before somebody would come up, a year before somebody would come up. But we really don't see anybody at this point entering the market, because we have a really proprietary technology that was developed by some of the best and brightest engineers from Microsoft. We have 16 patents pending on our technology.

People will continue to compete with us in what I would call the niche market. So some people might have a white pages product, some people might have a yellow pages product, but since nobody has the technology to integrate all of this information together, that really is what creates a barrier to entry. Plus, we have existing relationships.

And not only that, we provide our partners a complete end-to-end solution. Having the whole consumer.com service, the merchant.com, and our wireless initiative, what's happening is that any company that wants to be in all of those areas can have one-stop shop to come and get all the information that they need, so if a user comes and personalizes their information on a website, they can deliver that same information on a cell phone.

ZDII: You've generally beaten analyst estimates. Are you comfortable with where the estimates are now, or should analysts be moving them up given what you've done in the past?

Jain: Analysts have moved up their estimates both for the fourth quarter and also for the next year, both for the revenue and the profitability, and we're pretty comfortable with analyst thought at this point. QAFOLKS>