Small software companies devoured by the big ones

Lisa Baertlein

PALO ALTO: After defying the laws of business, gravity and nature during the

technology market's go-go days, analysts say that small, unprofitable software

companies are becoming prey to larger players as those laws again take hold.

"It's all one big Darwinian soup. Things form, operate, disintegrate,

re-form," said, research director at the Aberdeen Group, Denis Pombriant.

Among the companies already feeding from the trough are British accounting

software maker Sage Group Plc, British electronic-business software vendor

Merant Plc and Minneapolis, Minn.-based e-commerce software provider Digital

River Inc.

Activity is expected to become frenzied as little vendors, which once wielded

market valuations rivaling those of well-established companies, fall victim to

pessimistic investors and corporate America's diminished appetite for

technology.

They are stuck in a vicious cycle. The flagging economy has stunted sales,

which has contributed to plummeting stock prices. When shares are depressed, it

is hard for unprofitable companies to go back to the market for money to fund

operations as falling revenues fuel the burn of cash reserves.

"There were some companies that came out on the scene a year ago that

you could tell were going to be R&D (research and development) acquisitions,

they didn't have critical mass of their own to do battle in the world,"

Pombriant said.

Big fish eat little fish



"We have a lot of activity and a lot of deals in the process of being
announced on the software side," said Robert Thornton, Deutsche Banc Alex.

Brown's head of West Coast technology mergers and acquisitions.

"We have a different world. It doesn't really matter where the company

got funded by the VCs, or what the last round of financing was. What matters is,

'Where do we go from here?'" Thornton said.

Industry giants like business-to-business (B2B) software maker i2

Technologies Inc. and SAP AG, Europe's biggest software maker, are already

gobbling up private players such as RightWorks Corp. and TopTier Software Inc.

Analysts say cash-rich companies like No. 2 software maker Oracle Corp.,

e-business vendor PeopleSoft Inc. and others will soon be queuing up.

Timing is key



At the close last year, time and money appeared to be running short for Interact
Commerce Corp. The Scottsdale, Ariz.-based company, which makes popular

SalesLogix and ACT! selling software, started 2001 with net debt of $19 million.

In March, Sage Group Plc struck a deal to buy Interact in a cash transaction

valued at $263 million. E-business software vendor NetObjects Inc. in February

sold its enterprise division to Merant Plc for $18 million in cash. At the end

of 2000, the company had $2.8 million in cash left, according to company filings

with the U.S. Securities and Exchange Commission (SEC).

While the cash-burn scenario that laid waste to the dot-com sector applies to

struggling software makers, analysts say they will not be decimated the way the

dot-coms were. "Software companies, for the most part, have some kind of

outright technology that will be valuable to someone - as long as the price is

right," said Mark Verbeck, senior analyst at Epoch Partners in San

Francisco.

Cash poor



If you can count the number of months a company can run on its remaining cash on
the fingers of your two hands, it needs to be looking for survival alternatives,

analysts said. Kana Communications Inc. is among the companies seeing its cash

reserves dwindle.

The e-business software maker said Tuesday it has $20 million in cash

remaining. It has cut staff to 870 from 1,200 and plans to outsource the hosting

of its e-mail service in an effort to trim operational cash-burn, which was $30

million in the recent first quarter.

Calico Commerce Inc. - which said in March it was selling its B2B exchange

software division to Digital River in a stock deal valued at $7.8 million - had

$5.2 million in cash and $37.1 million in short-term investments on Dec. 31,

according to SEC filings.

While selling all or part of a company can be a godsend, there are risks.

When acquiring companies make stock purchases, their targets can be taken on a

bumpy ride that may leave them more battered than before the deal was struck.

That became clear earlier this week when former B2B darling Ariba Inc. walked

away from its much-hyped merger deal with Agile Software Inc. after the Mountain

View, Calif.-based software maker said the economic downturn would cause it to

post a surprise loss and necessitate the elimination of one-third of its work

force.

The value of the stock deal fell to about $400 million from $2.55 billion as

Ariba's stock price dropped amid a multi-month rout of technology stocks.

Agile, which makes software that lets businesses share product designs and

plans with their suppliers over the Web, said it would would take a $5 million

charge related to the unconsummated deal and the expense would cause it to post

a fiscal fourth-quarter loss instead of the small profit the Street expected.

(C) Reuters Limited 2001.