Be There or Be Square? David and Goliath Team on bCentral Auction Site

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Event Summary

FairMarketSM, Inc. (NASDAQ: FAIM proposed) and Microsoft, Inc (NASDAQ: MSFT) announced the addition of auctions to the Microsoft bCentralTM portal for small and growing businesses. Product categories range from Business Machines to Uniforms/Business Dress. Auctions are only one aspect of bCentral, which also provides information to small businesses on subjects ranging from how to build a web site to how to recruit employees. The auction capability is linked to other Microsoft and FairMarket auction networks.

Market Impact

Auction capabilities are a small addition to bCentral. The link is one of sixteen on a two-inch by four-inch section of the bCentral home page. While the categories themselves have a small business orientation, a quick trip through some listings suggests that the auction list has been seeded with a variety of items from other auction sites. Of course the beauty of an auction site is that many unlikely goods will find the person or company who needs them.

At present, however, we think there are too few items of real value to small businesses among the hodgepodge of games and CD's whose photos are stamped "Bundled Software Must Not Be Sold Separately From Approved Hardware." We believe that this kind of content is not likely to endear the site to potential small business users.

This may be a startup phenomenon that will disappear as the site gets a more focused population of goods and services. However, if the product listing does not focus naturally, it would be quite labor-intensive, and a difficult public relations problem, to try to monitor it to focus the content manually, even with automatic aids.

While a drop in the bucket for Microsoft, the announcement may be quite important for FairMarket. Currently preparing for a public offering, any mention of the company's name in the news is good, especially when that name is linked with part owner Microsoft. (Microsoft owns 21 percent of Fair Market, of which 17 percent is in warrants.) However, in the long run FairMarket needs transaction revenue rather than name recognition, thus involvement with any site that does not efficiently convert visitors to buyers can be doubly costly. The obvious cost is the opportunity cost of devoting resources to a low-value site.

The subtler cost is in the fine print of FairMarket's contracts with Microsoft (and with Excite, Inc, a 15% owner). These call for sharing of transaction revenue, with enforced minimums based on Internet traffic. That is, if Microsoft sends a certain number of visitors to FairMarket then, regardless of whether they generate transaction fees, FairMarket will owe Microsoft a minimum transaction fee. In total, these fees - taking both Microsoft and Excite into account - range from approximately $5.8 million in 2000 to approximately $28.4 million in 2004.

Given that FairMarket's revenues in the first three quarters of calendar year 1999 were $900,000 and essentially zero for the preceding two years, these agreements do represent some real risk. Note that for Accounting reasons FairMarket will not recognize transaction revenue generated from visitors sent from Excite or Microsoft until the minimums have been paid or the traffic levels have been unable to meet the trigger points. This makes the first few quarters especially hazardous. If FairMarket doesn't generate the transaction revenue from Microsoft and Excite very early in the year, they will be in an uncertain position - the kind that Wall Street analysts and investors particularly dislike.

User Recommendations

For the small business that wants to make use of an auction site for buying or selling, the only risk is the time involved to decide whether this is the one that seems likely to provide the buyers or sellers you need.

For a company that wants to create its own business-to-consumer or business-to-business auction sites, the industry is so new that there is no risk free option. Our greatest concerns about FairMarket are its ability to build its revenues quickly enough to make the minimum transaction guarantees irrelevant, and the related question of whether their reliance on Microsoft technology will allow them to scale their network smoothly. (Their current search subsystem performs quite poorly, but an upgrade to a more powerful product is already in the works.)

The FairMarket software is quite functional and we believe that many businesses - especially those for which E-commerce is not their core business --will prefer FairMarket's hosting approach to an out of the box solution such as the one offered by competitor OpenSite Technologies, Inc. So FairMarket belongs on your short list for close evaluation .

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