B2B: The Bigger Wave
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The second Internet stock wave is under way, and it will be a tsunami compared to the first wave experienced in late '98, early '99.
The first wave was driven largely by investors gobbling up consumer oriented issues (business-to-consumer, B2B). Stocks fueling the first wave included Yahoo! Inc. (YHOO), Priceline.com Inc. (PCLN) and Amazon.com Inc. (AMZN) among many others.
There were a lot of attracting forces to B2B stocks, but no bigger force than the simple fact that as consumers, we understood these stocks. Whether it's Yahoo! trying to be our start page, Priceline trying to get us to "name our price" for groceries, or Amazon.com hawking the latest Tom Clancy novel, these B2C companies impact our daily lives.
Now comes the second wave, currently in its infancy, but gaining momentum. Investment banks, analysts, and investors alike took a while to recognize this emerging business-to-business (B2B) opportunity, but it's quickly becoming the buzz on Wall Street, as investment banks now race for deals, analysts begin coverage, and investors brace themselves for a potentially wild ride. It was only 3-1/2 months ago when B2B market leaders, Safeguard Scientifics (SFE), Internet Capital Group (ICGE), and VerticalNet (VERT), were trading at $50, $45, and $30, respectively. So, why is it only now that the immense B2B opportunity is getting its due recognition? One big reason is the sector's lack of consumer appeal.
Don't fall asleep just yet, though, this B2B wave has the potential to out-due its B2C counterpart by leaps and bounds while providing Internet stock investors with new and greener portfolios. Even though the stocks have enjoyed a recent run up, there is still significant investment potential within the B2B sector.
So what exactly separates this sector from its B2C counterpart? 1) The prodigious market opportunities for many B2B companies and 2) the highly defensible business models many B2B companies posses because of inherent B2B strengths.
Prodigious Market Opportunities
The $43 billion in online U.S. B2B revenues done last year was well under 1 percent of the value of all B2B commerce done during the year, but still accounted for 84% of total e-commerce revenue. Forrester Research estimates that U.S. business-to-business e-commerce revenues will grow to $1.3 trillion by 2003. B2C revenues will reach only $108 billion by 2003 according to Forrester.
Market values have certainly surged ahead of earnings, however, but that is true for all Internet stocks. Perhaps Internet investors can truly justify entering this space though, with such lucrative market opportunities for companies and relative stability within the sector. After all, we're not talking books and toys here!
Verticality- In the B2C world of books, clothes and toys, almost anyone can set up shop and capture some market share. Take for instance Lyle Bowlins' online bookstore, Positively-You.com, based in Cedar Falls, Iowa. The site grew out of Bowlin's spare bedroom and now does well over $2,000 in revenues each day. The B2B e-commerce sector is a highly fragmented space, with enormous opportunities for companies able to better bring buyers and sellers together, however, the opportunities lie in narrowly focused, vertical industries such as plastics processing, steel, and procurement services. Experience and Industry relationships are therefore crucial for success, and are the very factors, which create high barriers to entry.
The Eyeball Factor- B2B "hubs" aren't interested in spending hundreds of millions of dollars in order to aggregate millions of eyeballs at their respective sites. B2C companies such as Amazon.com have to take this approach, hoping that the volume of purchases will make for the slim margins made on each transaction. B2B companies don't worry because their customers tend to have "deeper" pockets. VerticalNet's "Power Online" hub, auctioned off three $38 million dollar power plants this past summer.
Network Effects- The idea here is that buyers and sellers try to find each other, so the more buyers a B2B hub can attract, the more sellers will enter its network, and vice versa. Networking effects are especially critical at such early stages in Internet and B2B e-commerce development. Companies able to attract both high-profile customers and large amounts of buyers and sellers to its network will be rewarded with rapidly rising revenues and higher barriers to entry.
So the business-to-business wave promises to be much more powerful and lucrative than the first B2C wave. In addition, fewer surfers (companies) will have what it takes to ride the wave, leaving B2B leaders with enormous market opportunities. Internet investors are smiling from the shoreline.
Check back with me on Thursday, as I'll unveil an investment approach, focusing on three leaders within the B2B sector. I call it the "B2B Ladder."
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