Leading B2Bs May Be Heading for Fall
Leading B2Bs May Be Heading for Fall
By Hal Plotkin
CNBC.com Silicon Valley Correspondent
Maybe you think you can find refuge from the carnage of the Internet’s business-to-consumer, or B2C, debacle by scooping up some of the supposedly less-vulnerable leading “arms merchant” business-to-business, or B2B, stocks such as Ariba Inc. {ARBA}, BEA Systems Inc {BEAS} and i2 Technologies Inc. {ITWO}?
If so, you might be jumping from the frying pan right into the fire.
That is the message from at least two seasoned industry experts who see the possibility of a looming Pricelineization of the B2B sector.
To be sure, most knowledgeable observers still think that successful B2B Internet firms will eventually bring revolutionary improvements to basic business processes, such as supply-chain management and customer service.
The problem, though, is that at least some investors might lose their shirts waiting for it to happen.
The culprit: high valuations that don’t reflect the fact that many, if not all, B2B companies are still proving the value of their services while at the same time facing the need to figure out exactly how they will make money over the long run.
Sound familiar?
It turns out the jury is still out on whether the dogs will eat the dog food at prices that deliver healthy and sustainable profit margins.
“If you look at all the hype about B2B, you’d get the feeling we’re on the verge of a giant Woodstock of online trading between firms,” says Carl Lenz, B2B analyst at the Gartner Group, based in Bridgeport, Conn. “But it’s not that simple. These business processes are very complex, very complicated, very strategic and often involve one-to-one relationships that have been created for a reason. There are going to be a tremendous amount of problems as B2B companies try to roll out solutions to so many different environments.”
Lenz says that Ariba, Bea and i2 are among the companies that face an uncertain future. And he isn’t alone.
Late last month, Jefferies & Co. analyst Richard Williams, based in New York, spooked the sector with an ominously titled contrarian report, “The Web Channel: A Pothole on the Road to Paradise.”
While the vast majority of financial analysts continue to have “buy” or “strong buy” ratings on most leading B2B stocks, Williams singled out three of the highest flyers, Ariba, i2, BEA and i2, saying that he thinks they could be heading for a nasty near-term fall.
“We are seeing a number of indications that the potential market for early adopters. . .is at risk of becoming temporarily saturated as large early adopters work with software vendors to build out the netmarkets dream into fully functional products,” Williams wrote in his report.
All three stocks fell back on his warning, though both BEA and i2 quickly recovered as investors moved in to buy the stocks of both companies on the dip after other analysts rushed to remind investors that those two firms had posted profits for their most-recent quarters. Ariba, while not yet profitable, is also showing good traction with major customers, according to the many analysts who still like the stock.
“A year ago B2B was all a promise,” says Eric Upin, an analyst at Robertson Stephens in San Francisco. “Today, the numbers speak for themselves. You look at the customers, you look at the balance sheet revenues, you look at the growth. These are real companies.”
Shares of i2 got more support from Dain Rauscher Wessels on Tuesday after the company announced deals with Caterpillar Inc. {CAT} Kmart Corp. {KM} and Siemens AG {SMAWY} that it says together could account for as much as $140 million in revenue over the next two years. DRW analyst Kash Rangan reiterated his “strong buy, aggressive” rating on the stock, along with his $200 12-month price target on the news.
“Blockbuster deals with marquee customers underscore i2’s rising dominance in B2B and its entry into the Software Hall of Fame,” Rangan wrote.
Not so fast, says Williams, who is sticking to his guns. “We’ve gotten some initial feedback after putting [the report] out from employees inside some of these firms that the premise seems to be very much on target,” he says. “Things are not going as smoothly as many had hoped.”
The biggest problem down the line, Lenz says, is the evaporating dream that B2B companies will be able to derive sizable chunks of their revenue going forward by charging transaction fees for commerce conducted using their software. Big companies are balking, he says, at the idea of cutting in their software providers as permanent commission-based business partners.
B2B companies have about as much chance of keeping commission revenue high, Lenz says, as the inventor of paper had of getting a commission on the total dollar volume found on every printed receipt.
“Over the long term, businesses are not going to be willing to pay by the drink,” Lenz says. “They’re going to want to pay on a subscription basis, and that’s going to put pressure on the B2B vendors who will need to find ways to make up the difference by offering value-added services.”
Those services could include addressing a wide range of business needs, such as logistics planning, insurance, targeted marketing and benefits administration.
It is unclear, however, how many B2B firms would have been funded if it were known from the outset that they would have to make their real money by competing with established vendors in already-established markets.
“There is a model for this in the way IBM moved from being a hardware firm to more of a services firm,” Lenz says. “But making that happen is not going to be as simple as Billy Bud down the street buying a book from Amazon.com.”
For what it is worth, Williams says he thinks at least some B2B firms will be able to find the secure revenue streams needed. But before that can happen, he says, the B2B firms will have to deliver real, tangible bottom-line competitive advantages to the early adopters with whom they now work.
It will be at least three to six months before the leading vendors will be able to prove that case, Williams says. If and when that happens, he says that another big surge of new B2B customers will quickly race to deploy similar systems to stay competitive.
The unanswered question, however, is exactly which solutions will work and for what types of customers?
“We may be early with our warning,” Williams says. “But investors need to be made aware of the significant risk to pricey stocks that a slowdown represents.”
A similar pattern of events, he reminds investors, brought down the stocks of major Enterprise Resource Planning players back in 1998.
Even Upin, who tags Ariba and i2 as his two top B2B stock picks at the moment, concedes the point — at least partially.
“If you look back at B2C, maybe a hundred of them went public, and in the end a few winners such as Yahoo! {YHOO} and AOL {AOL} emerged,” Upin says. “What we’re really saying is that we recognize that these are very pricey stocks, they’re volatile, and investors should be careful not to overweight them. But if you take the longer view and say ‘two to five years from now who looks like Yahoo! or AOL in the B2B sector?’, these could be the giants in this space.”
Williams says that might be the case. But he cautions investors against buying any of them at their current prices. “I’d wait until we see them come down 30% to 50% from the highs they hit last month,” he says. “When everyone hates them, that would be the best time to buy these stocks.”
