VerticalNet hopes to run with Ariba, Commerce One

VerticalNet (Nasdaq: VERT) wants to be known as a business-to-business software company so bad that it sold off a significant portion of its revenue stream to be in the same club as Commerce One and Ariba.

VerticalNet, which operates B2B exchanges, said Tuesday that it sold its electronic and computer components exchange, NECX, to technology marketplace Converge in exchange for a 19.9 percent share in the company. In a separate pact, Converge agreed to pay $107.5 million over three years to license VerticalNet's software and to provide consulting services.

Investors were pleased with the deal, pushing up VerticalNet 6 percent to 5.69 Wednesday. Analysts were mixed on the deal and cited concerns such as revenue growth and a slowing online advertising market.

In an interview with ZDII, VerticalNet CEO Joe Galli said the NECX deal will transform the company into a software provider, giving it an "elegant streamlined business model." The company still operates vertical marketplaces and garners online advertising, but Galli clearly wanted to talk about software.

"This is a validation of our software," said Galli. "Our technology has been underestimated. Converge did the due diligence and picked us."

Specifically, Converge CEO Robert Lewis said the company picked VerticalNet over Ariba, Commerce One and privately held vendors. But some analysts in research notes Wednesday indicated that the Converge software pact was most likely part of package deal to sell NECX. Converge is VerticalNet's third software customer.

Because of the NECX sale, VerticalNet is likely to take a revenue hit. Of VerticalNet's $75.3 million in third quarter revenue, NECX accounted for $39.3 million of that sum. Galli wouldn't give guidance for the fourth quarter. Chase H&Q analyst Jim Pettit said he expects revenue guidance for 2001 to fall from $430 million to $450 million to $200 million to $225 million because of the NECX sale.

Although NECX, which was acquired Dec. 17, 1999, boosted revenue, Galli said software licensing would deliver more of a "quality revenue stream." Although revenue will fall in the short-term, Galli said he expected software revenue to scale in 2002.

As for the competition against Commerce One (Nasdaq: CMRC) and Ariba (Nasdaq: ARBA), Galli said it's still early in the game and the market should be large enough to accommodate many B2B software players as exchanges proliferate. According to CS First Boston estimates, the number of public and private exchanges will balloon to 1,500 in 2002 from 270 at the end of 2000.

With the move to be known as a software provider, VerticalNet has clearly toned down its B2B marketplaces such as solidwaste.com. Analysts noted that they expected ad revenue to be sluggish amid a slowing market.

The NECX deal is also likely to affect VerticalNet's online advertising business indirectly. In recent years, VerticalNet's revenue from barter online ad deals has been more than 10 percent of sales. In the third quarter, VerticalNet's barter revenue was 5 percent of sales, but that included revenue from NECX. With a lower revenue base, barter revenue from online ads could increase.

Again, Galli wouldn't give guidance. "I don't know the fourth quarter number, but we don't operate the business on barter revenue," he said.>