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.