Equity Exchanges Cement Startup Relationships

FRAMINGHAM (03/16/2000) - Forget about cash; equity rules the Internet economy.

But it's not only cash-strapped startups that are looking for stock deals to finance e-commerce efforts or to cement partnerships.

Analysts and stakeholders said exchanging equity often cuts the costs associated with getting a new partnership off the ground and gives the newly vested customer or partner a measure of financial interest in having the relationship succeed. The trend is strongest in marriages of traditional companies and pure-play startups looking for channel partners.

Earlier this month, Ford Motor Co. inked a deal with, an online broker of used corporate assets. According to Ford officials, the automaker took a "significant" equity stake in the Minneapolis-based startup. Ford and several venture capital firms also invested a total of $48 million in ZoneTrader.

Even though Ford is essentially just another customer, its investment, plus the volume of business it represents, could provide a dramatic leg up in industrial channels for ZoneTrader, analysts said.

Ford, which posted revenue of $162.5 billion last year, spent $7.9 billion on capital goods. ZoneTrader will initially refurbish and sell used capital equipment from one Ford engine plant. But if the arrangement proves successful, officials at the Dearborn, Michigan-based automaker said they will extend the deal to other facilities. Inc. in Santa Monica, California, struck a five-year advertising deal with publishing giant EMAP PLC in Peterborough, England, using equity as part of the payment. And online auctioneer Free Markets Inc. in Pittsburgh used a slice of equity to seal a deal to source complex building systems and aerospace products from Hartford, Conn.-based United Technologies Inc.

Kevin Prouty, a senior analyst at AMR Research Inc. in Boston, said paying with equity instead of cash can help get an important customer to fully commit itself to the deal. Prouty cited Commerce One Inc., which gave up equity to sign customer and partner General Motors Corp., as an example.

"The reason equity comes into play is because it's important to get a critical mass immediately," explained Prouty. "If there was no equity play between GM and Commerce One, there would always be a back-of-mind concern that GM could change its mind at any moment and go with someone else."

Certain Partners Preferable

Prouty cautions that such deals make the most sense when struck with huge potential customers or channel masters - a company that has the market weight to pull in other major players in the channel or industry.

"Anything that cements a long-term relationship is good, if you have a good deal and a good partner," said Stephen Bedikian, vice president of business development at also paid with equity and cash for Internet infrastructure services from CMGI Inc., an Andover, Massachusetts-based conglomerate that specializes in business-to-business equity for services and holds equity stakes in more than 60 Internet companies.

"A lot of Fortune 1,000 firms think, ‘If we partner with a dot-com, we're creating a lot of value, and we should participate in that'," said Bedikian.

"It's less a question of dot-coms pushing equity position than established strategic partners saying, ‘We're going to help you, and we want to recognize some value from that.'"While traditional brick-and-mortar firms could end up equity stakeholders when they enter a new market as the customer or partner of an online startup, there are also risks involved.

"Everybody wants to be a venture capitalist in one form or another, even if they don't have any capital," said Kirk Walden, national director of venture capital research at PricewaterhouseCoopers in New York. "A landlord, a lawyer or an office supply company can take the same types of risks that a venture capital firm does, so they should be rewarded in the same way as a venture capital firm."

But traditional companies should also be aware that taking equity instead of cash is a risk, and they should evaluate the deal based on the potential risk as well as the potential reward, Walden said.

PricewaterhouseCoopers estimates that U.S. companies received $35.6 billion in venture capital last year, though the firm hasn't estimated how much equity was bartered for goods and services.