(Business 2.0 Magazine) -- The two Web multimillionaires had never crossed paths, but when Russell C. Horowitz and Frank Schilling finally met to talk business three years ago, the summit began in style - sipping soft drinks poolside at the Four Seasons Las Vegas and chatting about private jets.
Horowitz, a ponytailed 38-year-old at the time, had made his fortune as the founder of a bubble-era darling called Go2Net, which he sold for $1.6 billion. Schilling, whose regular attire is designer surfwear, made his mint in secrecy as a domain-name investor working out of an ocean-front condo in the Caymans. Horowitz owned a share of a Citation X, the fastest personal aircraft in the sky. Schilling, who pulls in $20 million a year from his domain business, coveted one for himself. "At the time," he says, "I was planeless."
But the meeting was about more than just a couple of moguls and their boy toys. Horowitz had invited Schilling to Vegas because he needed a bridge to the world of domainers, as domain investors call themselves. It was a below-the-radar profession, full of cagey characters, tainted by incidences of cybersquatting. And Horowitz wanted in.
He had recently launched a company called Marchex with some pals from Go2Net, and they had an ambitious plan: to create a new type of online media company, with a network of thousands of websites localized for virtually every city and town in the United States. To get there, they needed domains, and lots of them - tens of thousands of names that coupled the name of a city with a logical market term, from BoiseRetail.com to AtlantaManicures.com. And Schilling knew all the players.
"So who are the big guys?" Horowitz asked Schilling at one point. "Who do you think will sell?"
Throughout the day, Schilling gave Horowitz and his partners the rundown of the secretive domain business. And just six months later, Schilling's help as a power broker led to Marchex's making the biggest purchase ever of a domain portfolio: The company paid about $160 million for more than 100,000 names, jump-starting Horowitz's efforts to build a sprawling new media company.
This came on top of 100,000 domain names Horowitz and his team had already registered. They have since snapped up several tech and online ad firms, and this spring they relaunched an astonishing 100,000 websites, transforming them from static-ad-filled pages to content-rich sites comprising more than 1 billion webpages.
Each of those websites is designed to mine what Horowitz believes is the next rich source of Internet gold: local markets. Today roughly 15 million businesses spend an estimated $100 billion on non-Internet, locally targeted advertising. Those ad dollars are gradually moving to the Internet; Wall Street firm Piper Jaffray estimates that local online ad spending, now at $5 billion, will hit $25 billion in the next decade. "Everything we do, we look at through the lens of local," Horowitz says.
The opportunity is as big as it is difficult. Marchex, with annual revenue of $128 million, is only marginally profitable because the company is pouring most of its money into building the business. And investors have been impatient of late, shaving the stock down to about $9 a share, off roughly 40 percent since late June.
Yet Horowitz remains steadfast in his belief that shifting strategies for better short-term financial results would be foolish. "If I let Wall Street run my job, then I probably shouldn't be in this job," he says. Moreover, if Horowitz's bet is right, he could change the way people and businesses use the Web in small towns everywhere.
Horowitz calls Marchex a "startup in reverse," but if you don't understand the domain business, you might just call it crazy. Typically, a company builds a product and hunts for ways to get an audience. By starting with domains, Marchex is going about it the other way around. Its portfolio of domains already draws lots of traffic - about 31 million unique visitors a month. The trick now is to fill them with automated products and content that will turn them into cash machines.
Horowitz certainly has the right resume for the job. The Seattle native began trading stocks at age 13. After graduating from Lakeside School in Seattle - the alma mater of Bill Gates and Paul Allen - he used his stock market acumen to help pay his way through Columbia University, where he earned an economics degree in just three years.
Next came a brief stint on Wall Street, but Horowitz soon succumbed to the entrepreneurial bug. He co-founded a sports apparel company that acquired Everlast Worldwide, known for boxing gloves. As its CFO, he took the company public without the help of an investment bank. He then formed a merchant bank that invested in early-stage companies, and in 1996 he teamed up with fellow Lakeside alum John Keister to start Go2Net - convinced, as he still is, that the Net presented the opportunity of his lifetime.
The company grew at bubble-era speed. Horowitz began making acquisitions, cobbling together a network of websites that included everything from the tech-stock tout Silicon Investor to the search engines Metacrawler and DogPile. His aggressive approach was richly rewarded: The company's market value peaked at more than $4 billion, and Go2Net became a top-20 Web property in terms of traffic. By mid-1999, Paul Allen's Vulcan Ventures had plowed $300 million into the business. In addition, Horowitz sold Allen a chunk of his shares, netting himself roughly $100 million.
When Go2Net sold out to Infospace in October 2000, it was cash-rich and profitable - rare for any dotcom at the time. The merger was a disaster, however, and infighting grew intense as the tech market imploded. After just 90 days, Horowitz, who had become Infospace's president, bolted. He spent the next year and a half entertaining job offers, concluding that the same trends that drove Go2Net's growth - the inevitable expansion of the Web reaching ever narrower markets - were firmly intact, despite the fact that investors had run for cover.
During the worst of the postbubble malaise, in January 2003, Horowitz and four partners launched Marchex with $20 million of their own money, eventually setting up in the same building in downtown Seattle that housed the original Nordstrom where Horowitz had sold women's shoes as a teenager. The plan was to try to build a network of sites and, most important, amass traffic without having to rely on the likes of Google and Yahoo.
The biggest challenge for the company was building its own source of high-quality traffic - and gobbling up domain names was the first step. Go2Net had already taught the Marchex gang about the power of domain names.
They knew, for instance, that roughly 25 percent of all search inquiries had the top-level domain already attached to them; that is, people would enter a search for, say, "cars.com" or "personalloans.com," instead of simply typing in "cars" or "personal loans." They also knew that about 15 percent of Web surfers bypassed search engines entirely and typed their queries directly into the browser. It was a powerful phenomenon that few people - except for prescient players like Frank Schilling - understood at the time.
So Horowitz and his team went to work, shopping for domains related to hundreds of cities around the country. At first it was all done by hand, with execs almost randomly checking for names that would make sense for their local strategy. "I'd think, 'What about Seattle and insurance?'" recalls Peter Christothoulou, a co-founder and the company's chief strategy officer. "I'd send a note to Russ saying, 'Can you believe no one has this name?' I was buying 20, then 30 or 40 at a time, just as one-offs. I kept thinking, there has to be a better way."
There was. They began employing a method long used by some of the shrewdest domainers - writing software scripts to help them register in bulk. They took scores of cities and states that they knew they wanted to cover and wrote programs that would mash up words and compare them with the list of available domains in the database at VeriSign, which manages the domain system for dotcoms.
The program could hunt for every city combined with the word "insurance"; it would do the same with "auto repair," "doctors," and so on. With this method, Marchex snagged some 100,000 locally oriented names and registered 80,000 zip code domains, such as www.90210.com, on which it's building sites for local neighborhoods.
Yet even at that point, in mid-2004, most of the best names had long been taken by big domainers like Schilling. Mutual acquaintances arranged the meeting with Schilling, who introduced Marchex to a domain pioneer named Yun Ye, whose portfolio was stuffed with names that Marchex coveted. A Chinese citizen who lived at the time in Vancouver, British Columbia, Ye was intensely private and dealt with the Marchex people only under the agreement that they never mention his name. To this day, Marchex execs refer to the deal by the company name Ye adopted for the transaction: Name Development.
Horowitz ultimately persuaded Ye to unload his portfolio of more than 100,000 names and signed off on the $160 million deal in November 2004. But he still needed to hit up Wall Street to raise money.
Domain names were unknown as investment vehicles on the Street, and to help sell the idea, the Marchex crew brainstormed for ways to describe the practice of typing a name directly into a browser. Someone threw out the phrase "direct navigation." It stuck - and Horowitz and Christothoulou made the rounds of investment bankers to explain that direct navigation was a crucial component of the search economy. They raised $241 million with a secondary offering and closed the deal with Ye in February 2005.
It was a watershed moment: Wall Street analysts quickly caught on to direct navigation, giving domain investing an air of legitimacy it had lacked. And other well-heeled players entered the fray. Since the Marchex-Name Development deal, institutional investors and private funds - including Highland Capital and funds backed by Starbucks founder Howard Schultz and Ross Perot - have poured more than $1 billion into domain name ventures.
Until recently, Marchex did what every other domainer does with all its domains: It "parked" them, meaning that it filled the pages with ads (in this case, served up from Yahoo, which had a deal with Ye) and made money when anyone clicked on one of the links. If you type "debts.com" into a browser, a page of ads comes up. Click on an ad, and Marchex gets paid. Sites like those that are packed with nothing but ads generally don't show up in search results, but thanks to direct navigation, they're highly profitable.
When Marchex bought Ye's portfolio, his names were making $18 million a year on revenue of $20 million, margins that would make any CEO drool. But the Horowitz-led team believed that the parking model would eventually fade and that they could make a far bigger business building out the sites into more useful properties. To them, the $160 million - eight times annual sales - was a bargain. "We looked at these properties and saw them as so much more than parking lots," Horowitz says. "It was important to do the landgrab before people started to understand the value."
Horowitz is stabbing the air with his hands and imploring this reporter not to label him a "domainer." Sure, he admits, he sits on one of the biggest domain portfolios around. "But we are not domainers," he says. "That's not who we are. That's not what we're building. We want to develop consumer-friendly websites."
Marchex is having a hard time selling its vision. Since so many of its sites sat idle for so long, packed with nothing but ads, Marchex looked like a giant domain play except with much higher overhead. But the company has been developing new technologies. And in June, Marchex lit up 100,000 of its sites - with another 150,000 or so to go - changing them into destinations with a smattering of content and reviews. The goal is to create sites that, as Horowitz puts it, "have a soul."
In May 2006, for example, Marchex bought a review site called OpenList, a local guide that pulls together reviews for restaurants, hotels, and local attractions. The company then developed software that crawls the Web, sorts out duplicate content, and then generates a review. Look up San Francisco's Hotel Triton on BayAreaHotels.com, for instance, and the software-generated write-up reads like a Zagat guide: "What travelers said they loved: 'The location,' 'the staff,' and 'the room.' Guests can enjoy yoga and other local activities." Users add their own reviews too.
The longer the sites are around, Horowitz says, the deeper the content will get. There will be more user reviews, more content pulled from other sources on the Web. And Horowitz isn't ruling out the idea of human involvement. To help inject these sites with soul, Horowitz recently hired Bill Day, co-founder of About.com, now owned by the New York Times Co.
When Day launched About.com in 1996, he set out to collect consumer information based on topics and locales. The site became wildly popular, with people contributing items corresponding to their interests. The local approach never worked, however, because the audience just wasn't big enough. "We had this broad plan to publish sites on every locality in the world," says Day, now Marchex's media officer. "It was just too early."
Since Marchex did the deal with Ye, the value of domains has only gone up. And Horowitz is perfectly aware that guys like Schilling have a far more lucrative business model. Schilling, who ended up getting a Gulfstream, makes his annual $20 million with only marginal overhead and no full-time employees.
Marchex, on the other hand, brought in revenue of $134 million in the past year, and had more than $31 million in operating cash flow, yet it booked just $220,000 in profit. In fact, with the stock trading so low, some on the Street have been asking whether the breakup value of the company is higher than the market value, which now stands at about $400 million - an idea Horowitz won't argue with. He's also talked to potential suitors interested in buying Marchex.
This time, though, Horowitz says cashing out is not his aim. He already has the jet and the big house on Lake Washington. What drives him, he says, is the prospect of redefining the way people and businesses use the Web. "We're trying to empower people and local advertisers in underserved markets," he says. "We have the chance to do something profound."
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