Harvesting An e-Commerce Solution.

CALL IT E-FRENZY. MORE AND MORE CONSUMERS, AS THEY MAKE THEIR FIRST OR 50TH PURCHASE online, are ramping up the impact of Web commerce on the economy--an impact projected to reach $101.1 billion in retail sales by 2002.

But a new lion is roaring: a network of business owners and budding entrepreneurs. A recent study by Forrester Research, Cambridge, Massachusetts, reports that business-to-business Internet sales have overtaken business-to-consumer Web transactions and are expected to increase from $176.8 billion in 1999 to more than $1 trillion by 2003 (compared to estimated consumer sales of $143.8 billion for the same period).

Into this fertile e-climate comes ProduceOnline.com (www.produceonline.com) and its founder, president and CEO, Charles "Chuck" H. James III. James' goal is to capitalize on the tidal wave of Web b-to-b commerce, which is reshaping the landscapes of new dotcoms and old-line businesses alike.

RIPE FOR BUSINESS

According to the Produce Marketing Association, fresh produce in the U.S. is an $80 billion industry. George Dahlman, a food industry analyst with U.S. Bancorp Piper Jaffray, says that the percentage of b-to-b produce transactions conducted online is currently very small. The Packer, a produce industry trade journal, estimates it at less than 1%. "But in the next five years, that figure could jump 25% to 30%," says Dahlman.

A primary reason for the potential growth is that produce buyers' and sellers' markets are highly fragmented. "There is a high degree of geographic diversity and seasonality of products," continues Dahlman. This scenario offers an opportunity for "creating a centralized marketplace, which is probably best accomplished on a virtual basis. Thus, the Internet is the logical place to go."

ProduceOnline.com is hoping its customers will agree, and is looking to centralize and streamline transactions between the world's numerous wholesale buyers and sellers of fresh produce. The evolution of ProduceOnline.com into a viable e-business provides an inside look at what it takes to get up and running in cyberspace.

PLANTING THE SEED

James is no novice to the produce industry. In fact, he is a fourth-generation produce industry entrepreneur. "As a child growing up in West Virginia, I always knew I would someday work with my father," he says. In 1985 James joined the family business, and in 1988 he succeeded his father as CEO of Charleston, West Virginia-based C.H. James & Son (Holdings) Inc. (No. 78 on the BE INDUSTRIAL/SERVICE 100 list), the original holding company for ProduceOnline.com and other e-commerce ventures.

Founded in 1883 in Charleston, C.H. James & Co. is one of the oldest family-owned enterprises in the country. Started by James' great grandfather, over its 117-year history the company has evolved from its origins as a produce wholesaler into an international produce distributor, most recently operating as the parent company of North American Produce, which served such major clients as McDonald's.

In 1999, facing increasing competition as a result of industry mergers, James decided to divest North American Produce rather than invest the capital needed to meet the industry's changing demands. C.H. James & Co. sold North American Produce, which had revenues of $25 million in 1998, to Salinas, California-based Taylor Farms Inc. "Selling North American to a larger company that had already made the capital investments to compete placed me in a great position to take more calculated risks going forward," says James.

After the North American deal closed, James took time off to spend with his three boys and work on his golf handicap. He also contemplated buying another food-processing business. "I really enjoyed spending time with the kids, but I also started reading a great deal about Internet transactions and the impact of the Web on more old-line businesses [including the produce industry]."

James clearly understood the industry's inefficiencies and areas for improvement. "I'd watch my father run the company and the day-to-day work involved in taking phone orders, hand-coding data and passing that data to a data entry clerk for input," he says. "Under this method, each time the format of the data changed, the order could be entered incorrectly. There is a much higher probability of error. Transactions on the Web substantially reduce the occurrence of errors." Furthermore, according to James, doing business online can reduce internal transaction costs by up to 70% for produce buyers and sellers, resulting in improved profit margins.

With his Internet ideas still fresh in his mind, James, a Morehouse College and Wharton School of Business graduate, spent last Memorial Day weekend on a Disney cruise with members of the Young Presidents Corps. At the time, James mentioned his idea to several professionals, who greeted it with enthusiasm. One of them, Byron Both, chairman and CEO of Newport Beach, California-based investment bank Both Capital Partners, was willing to invest. He put James in touch with an experienced Internet developer, Bon Nelson, a former technology officer for Imperial Bank, Los Angeles, who had designed an elaborate Internet system for foreign exchange transactions. This expertise was easily transferable to the needs of ProduceOnline.com, and James hired Nelson as a contract programmer.

Armed with his big idea and the support of trusted experts, James was on his way. He cites that weekend as the founding of ProduceOnline.com, and soon after began putting together his management team.

ASSEMBLING THE PLAYERS

One of the first to join forces with James, and the chief growth architect of the new company, was Ken Johnson, currently vice president of sales and marketing. A 25-year food-industry veteran, Johnson had served as vice president of sales and marketing for North American Produce.

A solid board of directors is key to a new company gaining marketplace credibility and raising investment dollars. ProduceOnline.com's current board is comprised of James; Han Kim, a general partner with Altos Ventures, a venture capital firm that has invested $3 million in the company; and Larry del Santo, former chairman of supermarket operator The Vons Cos.

By tapping contacts secured through his 15 years in the produce industry, James also was able to assemble an extended board of advisors comprised of other industry heavy hitters: Dennis Gertmenian, founder and CEO of Beady Pac Produce Inc.; Chris Nelson, former president of Beady Pac; Phil Adrian, a former vice president of Driscoll Strawberries; and Claude Moldenhauer, a former produce vice president of The Kroger Co.

James chose to make the distinction between directors and advisors due to legal concerns: boards of directors have legal obligations to shareholders and, can be sued in the event that shareholders don't believe the board acted in their best interest. Thus, an advisory board without any legal obligation is a viable alternative for budding businesses, he says.

FINANCING THE VENTURE

As with any business start-up, venture capitalists (VCs) can play a principal role in funding the project's operations. According to James, a standard rule of thumb for VCs is to provide projects they deem promising with at least $500,000 in the initial round of financing.

James chose to finance the seed round for ProduceOn-line.com--an amount in the mid-six-figure range--from a portion of the proceeds from the sale of North American. Last November, he secured the first round of financing involving professional money managers, or Series A financing. For this round, California-based Altos Ventures, a firm started in 1996 that invests in early-stage technology companies, led a syndicate of investors that put up $3.3 million for the site. The funds helped the company move from its first office--James' garage--to facilities in Pasadena, California. They also helped to expand the company's Web-based technology infrastructure and add sales, marketing, technical and administrative staffs. ProduceOnline.com has since opened an additional office in Salinas, California--the heart of produce country--and now employs a staff of 24.

James says he secured the first round of funds through some fortuitous networking. He was aided by Langston Jones, then of the consulting firm Bain & Co. in San Francisco. Jones, who has since joined ProduceOnline.com as senior vice president, coordinated relations with the VC community. James was introduced to Altos' Kim by del Santo and by John Lilly, former CEO of the Lucky Stores chain.

According to Kim, Altos considers about 1,000 investment proposals per month, with the goal of investing in approximately six to eight companies per year, although, in 1999 the fund actually invested in 10 companies. Current Altos holdings include nonstop.com and egreetings.com; the latter made a $60 million initial public offering last year.

When asked what primary criteria his firm uses to evaluate a start-up, Kim says, "Because venture capitalists take no collateral of any kind, they are essentially banking on the credibility of the entrepreneur. That was the deciding factor [with ProduceOnline.com]." He adds that an assessment of the potential size of a market and the company's competitive advantage--which can lay the groundwork for a profitable IPO later on--are also important.

Within the company's current ownership structure, employees hold about 70% of the equity; Altos, 20%; and other partners (including James), 10%. Over the next six months, plans are to raise an additional $10 million to $20 million to expand the site's technical capabilities and to recruit top-quality management and staff. James says that after the next round of financing, the company structure is likely to change, resulting in dilution in ownership shares for him and employees--a fact of life for VC-funded projects. VCs tend to want 20% to 30% ownership of a company, says Kim. However, while an entrepreneur's piece of the pie traditionally shrinks, his or her overall wealth grows.

James is currently in the process of raising a Series B round of financing, projected to bring in nearly $15 million. The funds will be used to upgrade the site, complete management hiring and get the word out through marketing and advertising. James says that under current conditions, these second-round funds should last until ProduceOnline.com goes public, which could happen within the next 12 to 18 months. "Going public can give a company cachet in the market," says Kim. But he stresses that an IPO will be viewed as a financing event, not the end goal.

BUILDING CUSTOMER BRIDGES

For any start-up entity, having a major industry player sign on as a customer can legitimize the new company in the market. In fact, along with the broadness of the product line, this is a key factor in ensuring success says analyst Dahlman. "It depends on the kind of alliances you're able to develop with growers, distribution systems, etc., and the degree to which you can integrate your services into [food distributors] such as U.S. Food Services, Super Value and the like."

For ProduceOnline.com, a significant customer alliance came last October when PRO*ACT, a Monterey, California-based marketing and services collective of 38 member distributors, signed an exclusive agreement with ProduceOnline.com. The agreement allows PRO*ACT, one of the nation's largest buyers of produce with more than $1 billion in annual sales, to conduct business with ProduceOnline.com.

James Catchot, president and CEO, says PBO*ACT chose to go with ProduceOnline.com over competitors such as Freshplex.com and ProduceWorld .com because he was very comfortable with the business model and the strength of management. Catchot also cites ProduceOnline.com's ability to cultivate important customer relationships as a critical factor in the produce industry. "Some of the other sites are set up as auction sites, which was unattractive to PRO*ACT given the incompatibility with establishing and maintaining relationships with customers," he says.

In addressing the company's strategy in winning over customers, James says, "It's really to help senior executives in the companies we target understand how the Net can impact their businesses. Many of these executives and managers are in their 40s and 50s and don't understand how the Web relates to produce," he says. "We have to demonstrate to them how the Internet has worked in other oldline industries and how those benefits are applicable to a produce company."

STAYING ONE STEP AHEAD OF THE COMPETITION

Of course, ProduceOnline.com is not the only e-commerce game in town. "In the past six months, there have been major efforts with capital infusions to different sites," says Dahlman. These include TerminalMarkets.com and Freshplex.com, as well as ProduceOnline.com's main competitors, Agribuys.com and BuyProduce.com.

Laurie Windham, president and CEO of Cognitiative Inc., a San-Francisco-based e-strategy consulting firm, says, "The produce sector is ripe to reap the benefits of e-commerce. The fact that the Web reduces time and the costs of the business cycle makes it a valid alternative for transacting business in the produce industry in much the same way it has benefited the steel and other traditional industries." Howwill ProduceOnline.com translate this into traffic to its site rather than those of the competition? With its PR0*ACT partnership as the first pillar, the company's strategy includes securing additional alliances with other companies whose expertise can serve the produce market. For example, ProduceOnline.com recently formed an alliance with CSC Consulting, an expert in technology system integration for large companies that has built more than 25 other b-to-b sites. CSC will aid in the site's development by creating a "complete supply-chain solution." ProduceOnline.com is also set to announce a new partnership with Meyer Tomatoes L.L.C., a major tomato and fresh vegetables supplier that will use the site to sell its products to the variety of wholesalers and retailers with whom Meyer does business.

"It's not a winner-take-all situation," says Dahlman. "Not in this business--or there would only be one supermarket, food distributor, etc. But we also don't know if it will be 30 to 40 different players. A lot depends on how quickly the sites consolidate." All of which gives James a reason to keep an ear to the ground for developments in his old industry, produce, and his new one, the Internet. His advice for budding entrepreneurs? "Keep your eyes open to the changes happening around you. The Net will affect every business."