Capital Markets Grow Cold for Once Sizzling E-Gov Startups

Capital Markets Grow Cold for Once Sizzling E-Gov Startups

Kaleil Tuzman

For a time, the usually staid government information technology market sizzled with dot-com heat. Venture capitalists poured in money, and electronic government entrepreneurs talked about revolutionizing the way government does business.

"There was just a cacophony of voices saying, 'Grow big fast,' " said Kaleil Isaza Tuzman, chief executive and co-founder of GovWorks Inc. of New York.

How times have changed.

Like their counterparts in the commercial world, many e-government companies have fallen victim to shriveled venture capital markets, poor business models, customers that just didn't show up ? or some combination of all three.

Companies such as GovWorks and of Germantown, Md., are shutting down operations and selling assets because of problems with funding, according to company executives.

Others, such as of Chantilly, Va., have laid off workers and revamped their Web strategies when funding ran out.

"People got skittish," said Phillip Fuster, chief executive officer and co-founder of That site shut down in December 2000 when it could not get a second round of funding. Fuster said he is negotiating with three companies to buy the assets of his online procurement site.

GovWorks's story is similar. The company filed for bankruptcy in early January when it was unable to secure another round of funding, and there was not enough time to secure more money to continue operations, Tuzman said.

The company will sell its GovPay transaction business to eOne Global LP of Menlo Park, Calif., and American Management Systems Inc. of Fairfax, Va., for $2.5 million. A bankruptcy auction was scheduled for Feb. 1.

If a buyer does not come forward with a bid $300,000 higher than the eOne and AMS bid, the sale to those companies will go forward, according to court documents.

FedBid and GovWorks will not be alone in shutting down, according to industry analysts and company executives. Of the more than 70 e-gov companies that he follows, Thomas Meagher of BB&T Capital Markets said he expects more than half might be gone a year from now.

"Money was cheap two years ago. Now VCs are putting very little into new ventures," said Meagher of the Richmond, Va.-based investment bank.

The troubles among e-gov companies mirror what is going on in the broader commercial market. At least 210 e-commerce companies closed during 2000, with most of the closings coming during the fourth quarter of the year, according to Webmergers Inc., a San Francisco company that provides research on Internet mergers and acquisitions.

Despite these troubles, many executives still are true believers in the promise of e-gov.

"The whole e-commerce model in the government is a terrific model," said Harold Gracey, a former chief information officer for Veterans Affairs. He retired from the government after 30 years of service to join FedBid in June 2000 as its vice president of government affairs. He left the company in early January when it was apparent the site would not go back online.

The FedBid site was launched in June with the idea of giving government credit card buyers a place to pool their buying power and participate in reverse auctions where prices would be driven down. Investors like H.I.G. Ventures, Sun Capital, Washington Capital Partners, Beagle Ltd., Afton Capital and Horizon Capital ponied up $5 million.

Everything worked just as it was supposed to, Gracey said. "FedBid's technology was as good as anyone's. The software worked," he said. "Folks liked the site; they got good deals."

"I don't think we failed as a company," Fuster said. When the venture capital markets dried up, "we suffered along with other people who had good business plans."

Fuster and Gracey said that while the company's software worked, its initial target audience of credit card buyers was off the mark.

Credit card users, who made only one or two buys a month, were slow to use the site and didn't bring the volume of business to make the site viable.

"One thing I would have done differently would be to focus on power users," Fuster said.

After about three months, the company shifted to higher volume and higher margin contract buyers, but it was too late, Gracey said.

GovWorks, which was founded in 1998 to deliver government services to citizens online, also changed its business model during 2000, shifting away from the transaction-based consumer model to a model based on selling software for procurement, transactions and other online services. That shift could have come sooner, Tuzman said.

Tuzman also said he and the company got caught up in the halcyon days of the venture capital market.

"The market was saying, 'Don't worry about follow-on funding. Go big or go home,' " he said. "So we succumbed to that mantra."

GovWorks raised $60 million through three rounds of funding. At its peak, the company employed 250 people. Tuzman, who likely will sell the parts of GovWorks not being picked up by eOne and AMS, said a slower, more cautious growth strategy might have worked better.

"But that is through the prism of hindsight," he said.

A return to traditional business strategies also fueled PlanetGov's shift away from being an e-gov portal and back to a traditional reseller of IT products and services.

The company jumped into the e-gov business in May 2000 when it launched its site with a $5 million investment from Blue Water Capital of McLean, Va., and changed its name from Intellisys Technology Corp.

At the time, company president Steve Baldwin said the site would be the America Online for government and military professionals, providing daily news updates and free e-mail and Internet services. But that vision faltered when the company couldn't get more funding.

"What we decided to do is to re-focus on our core information technology business," he said. Baldwin announced layoffs affecting 45 people in December 2000. Among those losing their jobs were 18 of the 20 editorial staffers hired to provide content for the site.

Mike Causey, former Washington Post writer of the "Federal Diary" column, and his content are being used to drive traffic to PlanetGov's IT business, Baldwin said.

That IT business is expected to bring in $250 million this year, and without the drain of being a government AOL, the company should be profitable, Baldwin said.

Baldwin now regrets not taking more capital investments when he had the chance.

"We had opportunities when we did our initial fund raising to take significantly more money than we did," he said. "We didn't take the money because we believed we could get more later at terms more favorable to the company."

About the Author

Nick Wakeman is the editor-in-chief of Washington Technology. Follow him on Twitter: @nick_wakeman.

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