By Thane Peterson True to the fable, the tortoise does sometimes outpace the hare. I suspect that will be the case with a lot of Internet businesses. As highfliers collapse, conservative, slower-moving rivals will build strong businesses out of the rubble. Larry Gerhard figures that's how things are going to work out in the online wine business.
Gerhard, chief executive of eVineyard.com in Portland, Ore., played the tortoise in 1999 and 2000, when flashier San Francisco-based rivals wine.com and wineshopper.com were raising upwards of $200 million between them and pouring it into their Web sites. While Gerhard -- who, at 60, is a seasoned CEO who has headed several high-tech startups -- took it slow and steady, his rivals got into trouble. They merged last year under the wine.com name in a vain attempt to survive, then plunged into liquidation in early May (see BW Online, 4/17/01, "Wine Online: It Doesn't Have to Be This Bitter").
Gerhard watched, waited, and -- when the moment was right -- pounced. For a relative song, he bought the wine.com assets he believed would help his company the most. He says he assumed none of its sizeable liabilities. "I picked off the customers, the online content, and the wine.com URL for literally pennies on the dollar," Gerhard says. "It was a great acquisition. As soon as I saw that they were in serious trouble -- not able to raise their next round of financing and not able to make payments on serious bank debt -- I knew I was going to have an opportunity."
IT MAKES SENSE. While investors are disenchanted with nearly all Internet-based businesses, e-commerce makes good business sense in a lot of cases, and selling wine online is one of them. If a company can manage to maneuver its way through the U.S.'s byzantine liquor laws, cyber sales can make great wine available to tens of millions of consumers who don't live close to a really good wine store.
An online wine merchant has several advantages over other cyber retailers. At this point, there is no national brick-and-mortar wine merchant to compete with: no Wal-Mart or Sears of wine. It's also a relatively large-transaction business. The average online purchase of premium wines -- the high-margin ones that it makes the most sense to sell on the Internet -- tends to be relatively large (much larger than liquor, which is one reason drinks.com and other cyber booze-sellers went bust).
At eVineyard, for instance, Gerhard says the average order is more than five bottles of wine with a combined cost of about $95. At rival winetasting.com, which specializes in high-end California wines, the average order is about $300, according to CEO Lesley Berglund.
THE TORTOISES. By my reckoning, three tortoises have now taken the lead in online wine sales. In the U.S., there are eVineyard and winetasting.com, a sort of cooperative of top California wineries that do their online sales through the winetasting.com Web site. Winetasting.com has backing from Bill Hambrecht, the fabled investment banker. CEO Berglund is a Harvard MBA and wine-industry veteran who has been running the Ambrosia catalog wine retailer for a decade.
In Continental Europe, there is Paris-based Chateau Online, which early this year was in a financial squeeze. Now, with an additional $10 million round of financing under its belt and a new CEO, it looks to have solid prospects. Founder Gregory Salinger, another Harvard MBA (see BW Online, 10/24/00, "Wine Is a Lingua Franca"), remains chairman and is deeply involved in strategy, but the company is being run by Thomas Lot, an experienced executive brought in from Apple Computer's European unit.
All three refused to get caught up in the Internet hype and spurned hot money from venture capitalists who wanted them to expand very rapidly. If they execute their business plans well, the companies have a chance to become profitable and go public (if they choose to) in 2002 or 2003.
A NATIONAL PLAYER? eVineyard is the clear leader. Gerhard figures the company is well positioned to do what wine.com and wineshopper.com went broke trying to do: become the first national online wine retailer. "We're running this company to become a very significant [player]," Gerhard says.
Within 5 to 10 years, he contends, it "is not unreasonable" to think of eVineyard growing to $1 billion to $2 billion in annual sales, given that the U.S. premium-wine market is currently about $7 billion and growing rapidly. Gerhard contends eVineyard can eventually nab up to 20% of these sales nationally.
"You're starting to talk like an old dot-commer," I snipe. "No," he says. "The old dot-commers were talking about doing that in two or three years. Industry changes don't happen in two to three years. They happen in 10 years. In 10 years, when retail wine sales [have grown to] the $15 billion to $20 billion range, can we be a $1 billion to $2 billion company? Of course we can."
Perhaps. But even that seems unlikely to me. It's far from certain that many people will buy wine online. I also expect a lot of new competition to spring up as big wine retailers like Zachys (www.zachys.com) in Scarsdale, N.Y., expand their Web sales.
GOOD START. Gerhard does have a lot going for him. For one thing, eVineyard is starting from a much sounder financial base than wine.com. Gerhard paid just $9 million, only $4 million of it in cash, for the wine.com assets he bought. Sand Hill Capital, the Silicon Valley financiers who pulled the plug on wine.com when it defaulted on a $16 million loan, took the other $5 million in eVineyard preferred shares.
That deal, Gerhard says, was part of a $15 million third round of financing that boosts the total amount eVineyard has raised from $21 million to $35 million, still a tiny fraction of what wine.com spent. Sand Hill now has a 7% stake in eVineyard.
Gerhard thinks he got a lot in return. He estimates that the wine reviews, articles, and other online content he bought are worth $11 million alone. The wine.com Web address and name originally sold for about $3.5 million. The most valuable asset, he says, was the customer list of some 223,000 shoppers who had made purchases at wine.com -- as well as an additional 250,000 potential customers the company had bought the right to market to. eVineyard's site can be accessed through either www.wine.com or www.evineyard.com.
PROFIT WATCH. Having access to wine.com's customers immediately caused eVineyard's sales to soar, Gerhard says. The company, which had slightly less than $10 million in sales last year, is now running at better than triple that rate, he says. For all of 2001, he says, eVineyard will "very substantially" exceed wine.com's sales last year of $26 million to $27 million.
Gerhard says eVineyard will start moving into the black in the third quarter and will be profitable in the fourth quarter, with the crucial holiday sales boom. That, he says, will be enough for the company to turn a profit for all of 2001.
Profitability is coming so soon because eVineyard's costs are far lower than wine.com's were. At its peak last year, wine.com had several hundred employees. eVineyard, having added only six employees to handle the additional order volume it is getting from the wine.com deal, has only 57 employees. Wine.com's payroll was $28.8 million last year, Gerhard says, while eVineyard's is running at $3.9 million annually.
CONSERVATIVE APPROACH. Gerhard says he passed on buying an expensive, ultra-high-tech wine warehouse that wine.com had equipped in the city of Napa -- at a cost, he says, of $36 million. He also is being conservative in a legal sense.
Only 19 or so states are relatively open in various ways to allowing incoming wine shipments from other states. Yet wine.com used a third-party distributor to sell into more than 40 states -- something Gerhard contended was "illegal" because the company hadn't applied for liquor licenses in the additional states themselves. (Former wine.com execs vehemently dispute that there was anything illegal about what they were doing.)
By contrast, eVineyard sells wine into only 27 states -- though that still gives it access to 78% of the U.S. market. Before moving into such lucrative but legally difficult states as Florida, New Jersey, and New York, eVineyard set up distribution centers and got local liquor licenses.
eVineyard offers a selection of about 4,000 different wines in each state it sells to. However, the selection differs from state to state, depending on legal nuances and what's available through local distributors. Gerhard says he simply threw out about 30% of wine.com's customer list -- people in places like Arkansas, where he doesn't believe he can legally ship wine. He plans to gradually increase eVineyard's reach by applying for more liquor licenses and adding distribution centers. Michigan, Arizona, and Connecticut are next on his list.
BIG DREAMS. Gerhard has other big ambitions. He's scouting to acquire a wine-auction company. eVineyard and Chateau Online talked about merging in their early days, and Gerhard says he still might pursue such a course. For now, the companies plan to do deals in areas such as selling wine futures. "There is no overlapping competition [between us], so obviously a lot of collaboration is possible," Salinger says.
In the meantime, eVineyard is already selling California and French wines in Japan. By next year, when a Japanese-language eVineyard site will be completed, "I expect the Japanese market to be significant for us," Gerhard says.
Sounds familiar, right? A small Internet company with big dreams. Such talk is bullish, agrees Berglund -- who expects her company to be selling more than $100 million worth of wine annually within three years -- "but I don't think it's the insane bullishness we were hearing from some Internet companies in the recent past." After all, these are the tortoises of e-commerce. And who ever heard of an overly bullish tortoise? Peterson is a contributing editor at BusinessWeek Online. Follow his weekly column, only on BW Online