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Dec 29,2000

Europe's Net Consultants Take Steps
To Avoid Crunch in Shrinking Market
By Cecile Gutscher

LONDON -- Internet consultancies built themselves up on the premise that there would be ever-growing demand for their services from Old and New Economy companies getting online. Now, these firms are struggling to come to grips with a weak stock market and a shrinking client base that is putting their future at risk.

In Europe, Scandinavian companies have been the hardest hit. Swedish Internet consultancy Framtidsfabriken AB in November slashed 340 jobs and shut down three units. That was days after rival Cell Network , also of Sweden, shed 70 staff, citing slowing demand in its home market.

In late December Stockholm-based Icon Medialab , Europe's biggest Internet consultancy, warned that instead of breaking even it would post a loss of 50 million Swedish kronor in the fourth quarter and laid off 100 staff in London and Copenhagen. Yet another Swedish consultant, Mind AB, slashed 156 jobs and closed several offices in a restructuring plan announced last month.

"If you've geared up for 100% growth and the market's only growing at a rate of 30% you'll have a lot of people sitting around doing nothing," says Richard Donner, unit head at high-tech investment bank Granville Baird, a unit of Robert W. Baird of the U.S.

Internet-consulting firms are scaling back expansion plans. In late November Framfab cancelled its acquisition of Stockholm-based advertising agency Stenstrom & Co., while Icon Medialab, which has about 2,300 employees in 19 countries, will rein in its aggressive acquisition strategy to "focus on profitability," according to chief executive Ulf Dahlsten.

But up until now measures taken by Internet consultant firms to improve their prospects have done little to reassure investors. Framfab shares had lost 92% of their worth in nine months when the company unveiled its restructuring plan in late November. The announcement triggered another sell-off and shares in the company nose dived another 21% that day. They've dropped even further since, and are now trading around 10 kronor, down 97% from all-time highs of 325 kronor in March.

Independent technology analyst Ian Spence of rg27 Ltd., a consulting firm based in Hampshire, England, says the restructuring plans that have been announced are "superficial" and won't turn around the fortunes of most struggling consultancies. "Actions currently being taken are too little, too late," he says.

Framfab and Icon Medialab were the big acquirers in the sector last year, but they could now find themselves getting swallowed up by Old Economy accounting firms who are starting to target e-commerce services. Their weakened share price makes them vulnerable, and traditional accounting firms could be attracted by their roster of large clients and specialist staff.

Following layoffs at Framfab that affected 12% of its staff worldwide and 30% of its staff in Sweden, a spokesman for the company said it is "open to discussions" and expects "a lot of consolidation" in the sector next year. He stressed that Framfab has not "communicated an interest" in putting itself up for sale to any other potential acquirer, including big five consultant Cap Gemini Ernst & Young, which was rumored to be interested in the firm. "There will be a lot of different possible solutions for us and for different Internet companies," the spokesman said.

Framfab's prospects brightened somewhat Friday after it said it had reached a funding agreement with Credit Suisse First Boston Ltd. Under the accord, Framfab can issue during the next three years up to 375 million Swedish kronor ($39.3 million or 42.3 million euros) in new shares with predetermined terms and conditions.

Framfab CEO Johan Wall said Friday that the funding agreement was a positive signal to the financial market, clients and staff.

"This is one of many actions we are taking now in order to secure the position that Framfab has as one of the stongest players in the market," Mr. Wall said.

In the first of what Mr. Spence of rg27 says could be a number of trans-Atlantic mergers, Nasdaq-listed Diamond Technology Partners bought closely held Spanish consulting firm Cluster Consulting in September. Diamond paid $44 million in cash and $437 million in stock and gave Cluster partners options on the combined stock worth $510 million back in September when the deal was inked.

But since then, shares in Diamond have fallen sharply to $28, down from $73 on the day the deal was signed. At today's levels, the stock options the Cluster partners received are worth 62% less than when the deal went through. With cash in short supply, deals are likely to be share-for-share swaps, according to Mr. Donner of Granville Baird, despite the risks exemplified by the DiamondCluster case.

European Net consultant firms on average has fared slightly better than that of their U.S. counterparts on the stock market, losing an average of 85% off their March highs, which leads some to expect those making acquisitions are likely to be in Europe.

"With valuations the way they are, any merger activity is more likely to see European acquiring American than the other way," Mr. Spence says. Mr. Donner of Granville Baird is more blunt. "We've identified 50 targets in the States," he said, adding that members of his team have just returned from a fact-finding mission to the U.S.

Others, like Chris Robson, chief executive of Syzygy , an Anglo-German Internet consultancy, have a different view. Mr. Robson's firm raised 60 million euros in its October flotation, but isn't about to go on an acquisition spree of his bigger rivals. "A lot of companies that are for sale you wouldn't want to buy; they expanded too quickly and they're just too big," he says.

Just last month, Atlanta-based Web consulting firm iXL Enterprises Inc. said it would slash its work force by 35% and close seven offices. The firm said last week it will raise $20 million by selling a 10% stake in one of its ventures, employee-benefits portal company ProAct Technologies Corp., and by selling one million of its own shares to strategic partner HCL Perot Systems, raising another $3 million.

"It is one thing to be experiencing some softening of demand and having to trim a little fat, but sacking 35% of the work force is tantamount to admitting that you are in serious financial difficulty," Mr. Spence says.

Scient Corp., the largest Web-consulting firm in the U.S., slashed earnings estimates last week, adding to a recent string of downgrades and profit warnings in the sector. Earlier this month MarchFirst Inc., the third biggest U.S. Internet consultant, closed several offices and cut 1,000 jobs after slashing earnings forecasts. Those measures helped it to secure $150 million of financing that was viewed as a stop-gap measure. San Francisco-based private-equity firm Francisco Partners took a 32% stake in the firm as part of the deal, and agreed to provide $25 million in interim financing pending the deal's close at year-end.

Back in Europe, one newcomer that has already burned through half of the funds raised in its initial public offering is Nettec PLC, which issued 44 million pounds (70.1 million euros or $65.9 million) in a London Stock Exchange listing in April. Since then, its shares have fallen from their 250 pence placing price to 35 pence. As of Oct. 31, the firm had 27.6 million pounds in cash left. "They spent a fair amount of [their funds] … buying fairly aggressively," said Mr. Donner of Granville.

In October Nettec bought French advertising firm ByTheWay for 35 million French francs (5.3 million euros or $5 million) in cash and 30 million francs of shares. In late July, it bought two French technology consulting firms, Eolsys Conseil and Node Venture Group, for a combined 62.5 million francs.

Two weeks ago Nettec said it would sack 43 employees, cutting staff by 45%, in a move it attributed to "regrettable deferrals, delays and cancellations on a small number of projects and the downturn in the flow of Internet advertising business." The company also proposed to sell its Internet advertising business in a bid to boost profitability. A spokeswoman for the company declined to say when the company would reach profitability, or disclose its cash-burn rate.

But Schroder SalomonSmithBarney analysts don't expect the company to become profitable until 2002, and expect it to lose seven million pounds next year. On the plus side, the analysts expect the restructuring to save Nettec two million pounds, and expect the firm to be able to survive on its existing cash reserves until it turns a profit.

In addition to shedding staff, Internet consultants are trying to attract larger, better-capitalized clients like Old Economy banks. One of troubled Framfab's latest contracts was with Postigirot Bank, while Icon Medialab consulted Sony Corp. on its re-launch of Sony Playstation Europe Web site.

United Kingdom-based Internet consultants are also focusing on a stable clientele. Nettec PLC is advising British outsourcing group Capita on the redesign of its corporate Web site while British firm Rubus Ltd. is upgrading Thomas Cook's online holiday booking service,, Syzygy says it derives 90% of its business from bricks-and-mortar companies, and only 10% from dot-coms.

Less obvious casualties of the cash-crunch are unlisted United Kingdom newcomers Entranet and Rubus, which were unable to go ahead with flotations planned for the fourth quarter.

Entranet raised 10 million pounds of private equity from General Atlantic Partners last November. A spokesman for the company said it wasn't profitable, but declined to comment on when it would swing into the black or disclose its current cash position. He also wouldn't comment on flotation plans. "It is the intention of the company to proceed to public flotation at the appropriate point in the future," he said. "That will depend on market conditions." The spokesman said Entranet isn't planning any further fund-raising.

Rubus, which cut 25% of its staff in mid-December, says it needs no further funding, after a top-up in early December from its two venture capitalists, E M Warburg Pincus and Schroder Ventures. The two have put a total of $21 million into Rubus since November 1999. As for flotation plans, marketing director Andrew Yuille says the company has enough cash to see it to profitability, which it is expecting to reach sometime in 2001. "We made no secret of our intention to float when it makes sense, and in the current environment it doesn't," Mr. Yuille said.

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