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June 9, 2000, Volume 1, Number 23A Look at the Recent Decline in Investment in E-Commerce CompaniesBy David Brand Not so long ago, major media outlets were reporting that online retailing would soon replace shopping center-based retailing. Consequently, many dot com retailers found themselves to be the recipient of large amounts of venture capital while the markets were rewarding publicly traded dot com retail start-ups with hefty valuations. Meanwhile, the stocks of many traditional retailers and retail REITs languished. These days, many dot com stocks are worth less than half of what they once were, and it seems that venture capital investments in dot com companies, especially those involved in retailing, are becoming rarer. As a result, quite a few companies have either gone out of business or have been acquired by competitors, and we are more likely to read about the demise of dot com companies than we are their launches.1 Is this due to a general decline in investment capital, or is this a phenomenon unique to the world of the retailer whose only store exists on the World Wide Web? And if so, what are some of the reasons? We can attempt to answer the first question by examining how much venture capital is out there and what part of that is spent on e-commerce companies. The International Council of Shopping Centers looked at data compiled by Venture One, a company that serves as a resource of information on venture-backed companies and venture investors. According to Venture One, investments in products and services companies, a category that includes many Internet-related businesses and services, have risen sharply over the last four quarters. (See Figure 1.)
Overall, investments in Internet-related companies comprised 84% of all financing dollars spent in the first quarter of 2000, versus 41% in the first quarter of 1998. However, investments in business to consumer (B2C) e-commerce companies, the category we are focusing on here, dropped to $744.2 million in the first quarter of 2000, or 5% of all Internet investment, down from 12% in the fourth quarter of 1999 and 14% in the first quarter of 1998. Based on the above information, it is apparent that venture capital remains abundant, yet investment in B2C companies is languishing. So why are investors scaling back their investments in B2C companies? Perhaps one reason may be that the have become discouraged by the large sums of money they have invested in companies that have failed, as the following table illustrates. (See Table 1.) Please note that while not every site on this list was involved in e-commerce, those that were involved in online retailing were pure-play e-tailers with no brick and mortar affiliation, and several were members of the crowded online toy category.
Table 1
It is interesting to note that in nearly all the closures or acquisitions listed above, little was left when the companies met their end. For instance, various reports indicate that Boo.com received nearly $200 million in funding in its brief life, but that when they folded they only had $500,000 in cash. Part of the reason for this goes back to the original idea behind many online business plans, namely that it would be relatively inexpensive to set up shop on the Web because little investment in overhead was required. No physical stores, and in most cases, no inventory, meant that all a site had to do was build a "virtual" store and tell the world that they were there. But therein lies the catch. As a result of having no physical stores, many e-tailers found that they had to spend exorbitant sums on marketing and advertising to announce their existence, a task that became even more daunting and expensive as more sites hopped on the online retailing bandwagon.3 That is why online marketing costs exceeded 40% of sales for several online only retailers during 1999, including Barnes and Noble.com, eBay, eToys and Webvan.4 Based on the high costs of marketing a Web site, online retailers have been confronted with several choices: seek additional funding to finance their operations, merge with a competitor, get bought out, or shut down. In the final
analysis, trying to establish a brand in a crowded online marketplace
has proven to be quite costly for companies and investors, leading to
the shakeout we are now witnessing. This might explain why venture capitalists
are appearing to become more cautious with their money when it comes to
B2C companies. This does not mean that all pure-play retailing is doomed
to failure, but rather that investors are increasingly coming to realize
that the wise choice remains to invest in companies that have solid business
plans, clear objectives and sound management, and that are well positioned
to provide a respectable return on investment
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