Role Reversal for a Pair of Shrunken Software Giants

The brothers of B2B are trading places.

Commerce One(CMRC), the B2B software company that for so long has played second fiddle to Ariba, has suddenly leap-frogged its long-time rival. In both market cap and stock price, Commerce One has finally overtaken Ariba, which has been reeling ever since issuing a warning two weeks ago. And it's projected to outdo Ariba in revenue this year, as well.

That's a far cry from last summer, when Commerce One's market cap was a third of Ariba's $25 billion. Of course, both companies have seen their worth shrink from the double-digit billions to just above the $1 billion mark.

The reversal may carry more symbolic meaning than power in determining the ultimate survivor in B2B software. Still, long-time observers see the role reversal as jaw-dropping commentary on just how much the market has changed. As market demand has shifted away from B2B buying software to supply-chain management software, both firms have seen their shares slip. And changes within the sector have also caught up with both companies, although in different ways. As the sector consolidates, both these one-time giants now look like candidates for acquisition.

"If we had had this conversation six months ago, I might have said there would still be a discrepancy there," says Ian Morton, an analyst at J.P. Morgan Chase who rates Ariba a market performer and Commerce One a long-term buy. "I just wouldn't have guessed who would be on top." (His firm has done banking for Commerce One and none for Ariba.)

At the close of trading Thursday, Commerce One's market cap stood at $1.87 billion, while Ariba's was more than a quarter of a billion dollars lower at $1.57 billion. Commerce One shares closed at $9.51, up 21 cents, or 2.2%, while Ariba's stock gained 36 cents to close up 6.1% at $6.24.

Since Ariba warned April 2 that its revenue for the first quarter would be just half of what analysts were expecting, and that it would post a loss of 5 cents instead of earnings of 20 cents per share, the stocks have diverged sharply. Commerce One has re-gained 69.5% since then, despite a warning of its own two days later. Ariba, on the other hand, has regained only 41%.

Analysts say the divergence, in part, reflects the fact that Commerce One's projected 15% miss on its revenue number almost looks attractive compared to the mess Ariba made.

"I think Ariba has managed to put a nice bullet in its head," says George Santana, an analyst with Wedbush Morgan Securities, who rates Ariba a hold and Commerce One a buy. "By contrast, I think the message has remained somewhat more consistent at Commerce One." (His firm has done underwriting for neither company.)

That message comes down to the companies' markets. While they've typically been viewed in the same light, there are key differences between the two firms. Ariba's core business has always been procurement, or the Internet-buying software that lets companies purchase supplies electronically. Commerce One, on the other hand, has focused on building electronic marketplaces where companies can do business with customers and partners.

While Commerce One has sold into the procurement space, and Ariba has gone after marketplaces as well, Ariba now admits that its marketplace business is failing. At the same time, Commerce One hasn't been as active in procurement.

"I think the point here is that each company is still seeing strength in their core business," says J.P. Morgan Chase's Morton. "That's where they both grew up, and that's where they both fall back to."

Ironically, though, one thing about the two companies hasn't changed: relative valuation. While Commerce One is now bigger than Ariba, it's still cheaper on a valuation basis. For instance, Ariba trades at 4.2 times December 2001 revenues, while Commerce One's price is just 2.6 times 2001 sales.

Granted, Commerce One derives nearly 45% of its revenue from its lower-margin consulting business, so those sales are less attractive. By contrast, nearly all of Ariba's revenue comes from high-margin software fees.

But analysts generally aren't pounding the table for either company. Commerce One isn't necessarily seen as the victor in the incessant battle between the two, just the one that's been bloodied less. And then there's Commerce One's partnership with German software giant SAP(SAP), which seems to be giving it some support -- albeit on buyout speculation. That partnership now is in stark contrast to the failed merger between Ariba and Agile Software(AGIL), a deal that Ariba had touted as the key to its future.

"There's a little bit more of a safety net for Commerce One's stock, because there's a growing consensus that Commerce One's gonna get scooped up by SAP," says Wedbush Morgan's Santana. (Commerce One and SAP have repeatedly played down merger possibilities.) "Ariba, on the other hand, is in a fairly bad situation, having gone on this crusade to convince the Street that that this merger with Agile was going to take them to the next level. That leaves them in a very uncomfortable position."

A position that's suddenly somewhat lower than Commerce One, which isn't exactly in the catbird seat itself.

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