A New Way To Get Your Foot In The Portal
Earlier this year, Scott Randall, the founder and chief executive of FairMarket Inc., was struggling to get his two-year-old company noticed. FairMarket, which operates auctions for other Web sites, needed to kick-start the company. In May, Randall got what he wanted: He cut a deal with
Lycos Inc. to become the auction house for the portal, which attracts 30 million visitors monthly. In exchange, he's giving Lycos a split of his revenues as well as warrants that can be converted into as much as 9% of the startup's stock. Randall says sacrificing equity was worth it. "It clearly established us as the leader in the private-label auctions," he says.
This is what financing is coming to in the Internet Economy. Big portals like Lycos are wielding so much clout that they're able to cut something-for-nothing deals in which they trade access to their huge customer bases for equity stakes in startups. It's barter venture capitalism--where eyeballs are worth more than dollars. "Everyone on the Web is looking for traffic, but not many have it," says Edward M. Philip, Lycos' chief financial officer. "If we can funnel traffic to a service or a technology, we can build them into a success overnight." The deals are similar to those cut by TV networks. NBC, for example, has taken a stake in women's site iVillage in exchange for TV exposure.
The portal deals can be worthwhile for both sides. Cash-poor startups with competitors on every side get the chance to distinguish themselves by basking in a portal's spotlight. The portals get the startup's content and services--which makes their sites more appealing--and a chunk of potentially lucrative stock. "It's much less risky for portals to do this than if they do a cash investment," says analyst Henry Blodget of Merrill Lynch & Co. "And it's much easier for the startup to make the deal, since equity is a lot cheaper than cash."
Lycos is one of the most aggressive portals in its something-for-nothing quest. In the six deals it has cut so far, the company took warrants or stock for up to 15% of the startups instead of the usual advertising fees. Besides FairMarket, it has undisclosed equity interests in Web software developer NeoPlanet and Student Advantage, which dishes up content and discussion groups for college students.
COLD CASH. Portals Excite@Home Corp. and America Online Inc. have a slightly different approach. Both take smaller equity stakes in the startups but insist on getting paid some cash when those companies run advertising on their sites. That way, the portals get some value from the relationship even if the smaller companies go belly-up. "There is always a big cash component," says J. Michael Kelly, AOL's chief financial officer. Excite has racked up about 30 deals so far in which it typically gets warrants for 5% to 10% of a startup's equity. It plans to sign up an additional dozen or so per quarter. AOL won't say how many stakes it has. A handful have been disclosed publicly, including its stake in EMusic.com Inc., which sells music that can be downloaded from the Net.
Such deals are just part of the portals' investment tactics. All three also invest cash in startups. "The bottom line for all of the portals is that, by spreading these poker chips around the table, they have a diversified business and set of investments," says analyst Chris Charron of Forrester Research Inc. And in the volatile world of the Net, hedging your bets makes a lot of sense.