Medscape -- The First 5 Years

Peter Frishauf

Disclosures

Medscape. 2005;7(2):5 

Medscape Year 5: May 1999-April 2000 -- A Good Year for Medscape the Site, but the End of Medscape the Company

Soon after the start of its fifth year, in May 1999, Marcel Wormser, one of Medscape's original investors, visited our offices.

Wormser was the chairman of a French bank, and we met in a cramped space converted into a makeshift conference room. I apologized for the peeling paint and lack of air conditioning (A/C) -- it was a hot day and we were sweating, but turning on the A/C would blow a circuit. "Don't apologize," Wormser said. "In fact, if you move to fancier space tell me so I can sell my investment."

It was a prescient comment. Medscape the site was continuing to make strides. Medscape the company was at a crossroads, as plans were made to compete head-on with the companies pouring millions of dollars into the consumer ehealth space dominated in the commercial sectors by leaders, such as WebMD, drkoop.com, and onhealth.com, and in the noncommercial sector by mayoclinic.com, the National Library of Medicine, oncolink.org, and others. We were going to be a big company with a big staff and fancy large offices to replace our inexpensive open space on 29th Street.

In April, Sheils was simultaneously working on completing preparations for the IPO, finalizing negotiations with CBS, and -- bowing to the will of investors on its Board of Directors -- creating a separate consumer division to create a new site with CBS, a decision that was to have a major effect on the company, its products, and its fortunes. Wall Street, Sheils was told, would have little interest in Medscape as a company dedicated primarily to professional information, a field it had to itself. Consumer traffic was needed -- even if there was no registration involved, so advertisers wouldn't have a clue as to who might be accessing the site, and although not a single consumer site had any significant revenue.

To create the new consumer site, a separate division was created with its own president, technology, content, and marketing and sales staff, none of whom reported to any of the people who had started Medscape.

The decision to split the company into separate consumer and professional divisions, each with its own Web site and staff, was the seed that led to the destruction of the company. Each division had different philosophies about what a quality Web site should be. And it was expensive. The cost was largely dismissed as a concern: With an IPO coming, one had to "think big" and money would soon be plentiful. "Spend money ahead of the (profit) curve" and "get large or get lost" was the wisdom of the day. If Sheils knew that the new consumer division might destroy the productive and relatively low-cost Medscape culture, it was a chance that he had to take. All the financial evidence, and all of Medscape's financial advisors, pointed to the success of "a new" Internet business model that was quite unlike that followed by the Medscape of the past.[23] Plans and budgets were made to double the size of the staff of 83 by the end of the year -- mostly for the new consumer site, and to move to fancier, larger space around the corner at 4 times the rent and requiring $5 million in renovation -- complete with thick glass doors with sandblasted logos.

Then, in May 1999, the ehealth world shook with a series of stunning financial announcements that once again validated the opinion of the Wall Street advisors to get big fast: Healtheon announced that it was merging with WebMD Inc. in a deal worth a reported $5.5 billion. It was a remarkable event, not just because how the deal was valued -- $5.5 billion was more than $1 billion more than what AOL paid for Netscape, for example -- but because in addition to the merger, several high-tech heavyweights, including Microsoft and Intel Corp. pledged to take stakes in the new venture, with investment estimated at $500 million. Healtheon stock soared to more than $108 within days of the news -- nearly 14 times its IPO price 5 months before. The new company would have 1300 employees.

Less than 3 weeks later, on June 8, 1999, drkoop.com raised $84.4 million in an IPO. Koop shares gained 39% on its first day of trading.

It was the beginning of one of the headiest of times of the dot-com era, where Wall Street professionals and ordinary investors got rich faster than ever before. Inside and outside the dot-coms themselves, the pressure was on to make decisions quickly, without any clear idea of the consequences.

For Medscape the site, building on 4 years of substantive accomplishment as the leading Web destination for healthcare professionals and now under the direction of George Lundberg, the financial fireworks were of little consequence -- the site continued to improve, with ever greater traffic, features, and reputation. Medscape the company started hiring and spending rapidly, hoping to keep up. We too, were going to get big fast.

On July 6, 1999, drkoop.com stock soared to an all-time high of $45, five times its IPO value less than 1 month before. Given the Internet mania of the time, the stock price itself was not surprising. What was surprising was the reason for the spike: Drkoop.com was going to pay AOL $89 million to carry Koop content. Those of us in the media business were used to being paid for our content. But to pay others to carry your content made as much sense as a store paying customers to take its goods (an Internet model that was actually tried by grocery site webvan.com with predictable results -- bankruptcy). Nevertheless, Wall Street cheered the Koop deal and the stock market listened. In this Alice in Wonderland curiouser and curiouser environment, only 1 brave analyst at CSFB took a bearish view of the deal and correctly predicted Koop would be bankrupt in a year. He was fired a few months later.[25]

Medscape's own IPO was scheduled to debut at the end of July, and Sheils was working around the clock to cement its own high-profile deals to provide the buzz that its IPO banker from Donaldson, Lufkin & Jenrette (DLJ) deemed critical. Within days, he concluded agreements with CBS to provide $150 million of TV advertising for the still-to-be-built Medscape consumer site, and another $10 million deal with National Data Corporation (NDC), a provider of electronic commerce solutions in the healthcare industry. Thus, 2 of Wall Street's cannons for a successful ehealth IPO were marked off the checklist: The CBS deal meant that the consumer site would have a big advertising splash, including television ads, print ads, outdoor billboards, and ads in mass transit systems, such as subways and airports, all locations where the CBS $150 million could be put to use. And the NDC deal could give Medscape an ecommerce presence that could lend it a WebMD/Healtheon-like glow.

In this "fire-ready-aim" corporate climate, major decisions were inevitably given little thought. The decision to build a consumer site with a staff and technology that were largely divorced from what was now called the Medscape professional site was one such decision. What to call the consumer site was another.

CBS -- and Medscape's new consumer president -- believed that Medscape could never be a consumer brand, as most consumers were not like John Frazee -- the man who brought Medscape to the attention of CBS executives during his scare with CLL. The founders wanted the site called "Medscape Health" with a design and identity to complement the professional site. The consumer team rejected the notion, wanted a separate site and identity, and that's what they got.

Initially, the consumer site was to be named CBSMedscape.com, and the offering documents for the planned July 26 IPO were prepared with that name. But the presence of the Medscape name was to be diminished to near obscurity by the time the consumer site actually launched. Both CBS and the new Medscape consumer president wanted to name the site CBSHealthWatch to match the financial site CBSMarketWatch. But they couldn't because the HealthWatch site name was taken. So, while negotiations were undertaken to purchase the HeathWatch name, CBSMedscape.com was used as a temporary placeholder for the IPO document. In the days after the IPO, the HealthWatch name was purchased. When it was pointed out that the public company would be traded as "Medscape" not "HealthWatch," the words "By Medscape" were added in small type under the CBSHealthWatch logo. In reality, there was little connection between the brands -- or the company cultures that spawned them.

The internal turmoil and falling morale that split the company were partly offset by the excitement of going public. But the July 1999 IPO was not to be. Despite Sheils bringing in CBS and NDC, Medscape's bankers at DLJ reported that interest in the Medscape IPO from institutional investors was weak, and the stock market itself was going into a "summer slump." What Medscape needed, they opined, was "one more big deal like -- like Koop did" and then try for an IPO in September. DLJ strongly recommended that an "AOL deal" for Medscape could do for Medscape what it did for Koop. In fact, the management of the new consumer team had lobbied aggressively for just such a transaction.

The excitement of the pending IPO of Medscape in 1999 brought leaders of the company to the covers of magazines. Pictured here are CEO Paul Sheils and Editor-in-Chief Dr. George Lundberg.

And so negotiations were started with AOL. Under the proposed deal, Medscape would pay AOL $33 million over 3 years so that AOL could get consumer content from Medscape. The money -- like the $89 million that Koop was on the hook for -- was to come from the IPO and future revenue from sponsors that were presumed would follow.

The Medscape Board of Directors engaged in a heated debate over the AOL deal. In the end, they agreed to heed their IPO advisors from DLJ, and by a 5-to-4 vote approved it.

If the decision to split Medscape into separate consumer and professional divisions was the seed of the company's destruction, the AOL deal was the coup de grace that doomed its future.

On September 27, 1999, Medscape went public, trading under the symbol MSCP, a tip of the hat to its roots with SCP Communications, and the defunct Netscape, whose symbol was NSCP. The offering was considered a modest success, raising some $45 million for Medscape. The price of the stock posted a healthy, but (by dot-com standards) not dramatic increase on its first day of trading, from $8 to $12. The company had money, and some of us were, for the moment, "paper millionaires": Our stock, on paper, was worth millions. But because we were restricted from selling stock for a period of time, the wealth was actually an expectation of what we thought we would be worth, as we expected the stock to go up. That, too, was not to be, and few of those who had Medscape stock or options were to benefit financially.

The month after the September 1999 IPO, CBSHealthWatch launched, along with slick TV and billboard advertising for the site created by mega-ad agency J. Walter Thomson. Full-page newspaper ads in The Wall Street Journal and The New York Times at $20,000 each were purchased, burying the business logic of the earlier year, when we derided competitors for such spending. Entire New York City subway cars were saturated with CBSHealthWatch advertising, an expensive tactic called "whole car advertising" that was said to create special excitement. The Medscape name was barely visible in any of the promotions.

The HealthWatch site itself was an uneven offering. Although some accolades were received, the poor searching on the site, its buggy technology, and lack of integration with the Medscape professional site were an embarrassment to many of company founders -- as well as to Lundberg and Drezner. Within months of the launch of CBSHealthWatch, several of the executives who had been hired to launch the site left. Sheils moved to heal the wounds by consolidating a number of functions and remerging the split division, including sales, technology, and -- most important -- putting consumer editorial directly under Lundberg's authority. But the damage had been done.

The financial consequences of the AOL deal -- and the dramatic increase of associated costs as a result of the deal, the consumer site, and the lease and construction plans signed for the upgraded new offices -- were rapidly taking their toll, and depleting the company's cash. Although it was projected originally that there would be 173 people at the company by the end of the year, there were currently 180, with requests for 90 more, most going to the consumer effort, which was producing only a trickle of revenue. At the current rate, Medscape would miss the year 2000 numbers that it had projected for Wall Street by a wide margin, a turn of events that even in a normal market would tank its stock.

Nevertheless, the performance of Medscape stock was relatively stable between $10 and $12 in the period between the IPO and January 2000. Although in today's (2002-2005) Wall Street environment Medscape's 1999-2000 stock price, valuation, and stability would be seen as attractive, in the go-go days of the dot-com bubble, it was disappointing. Without the ability to sell more stock in a future offering at a price significantly higher than its IPO price, Medscape had few attractive alternative sources of funds. Medscape, with its $500 million valuation, was worth less than 10% of Healtheon/WebMD. In the words of Alan Patricof, chairman of Medscape's Board of Directors, Medscape "failed to capture the imagination of Wall Street."

And so within a month of its public offering, DLJ, the same Wall Street advisors who took Medscape public and strongly championed the $33 Million AOL deal, were recommending that Medscape be sold. "Content companies" were "dead on the street." The solution: Sell Medscape to a company in a "hot sector." In October, DLJ advised that the hottest sector in ehealth was "business to consumer ecommerce," and so negotiations were started to lure several online pharmacies into buying Medscape. They weren't interested, which proved fortuitous, as by December DLJ was advising Medscape that "business to consumer ecommerce" as sector was cooling and the really new preferred hot sector was now "business to business ecommerce," and the proof, DLJ said, was the resoundingly successful IPO of a medical records company, MedicaLogic.

MedicaLogic was a software company, the leader in the electronic medical records business, with a reputation for a good product and good ethics. Medscape management liked the concept of electronic medical records, and the management of MedicaLogic liked and respected Medscape. So in the face of it, the proposal to sell Medscape to MedicaLogic had merit. If we had to give up our notion of running Medscape the company as a media business, so be it: Medscape the site could still prosper under the arrangement, especially as MedicaLogic readily agreed to the terms of Lundberg's "no interference with editorial" contract.

It was also clear that Medscape the company would soon run out of money, given the albatross of expenses that it had around its neck from its consumer site obligations and increased spending in all other areas. And although MedicaLogic had a 15-year history of losing money, its IPO on December 9, 1999 succeeded far beyond Medscape in the "capture the imagination" department. MedicaLogic stock started trading at $17.50 and rose to $54 in 2 months. At about the same time as MedicaLogic traded to its high, the Board of Directors of Medscape voted to sell Medscape, Inc. to MedicaLogic. Medscape's steady but modestly performing stock would be traded in for stock in a hot company; and given that MedicaLogic was valuing Medscape at one third its substantial value at the time, it was considered a good financial deal.

For most company insiders, however, the high stock price on the day of the merger was of no financial benefit, as lockup provisions prevented any selling. And although Sheils and Drezner agreed to stay with the company at the time of the merger, it quickly became apparent that MedicaLogic had their own ideas about running the company, and they resigned within a matter of weeks.

Although selling the company was seen by the Board as a quick fix to Medscape's problems -- and would absolve Medscape, Inc. of having to fix what the company itself broke -- the move didn't work, as the dot-com phenomenon got its first real taste of reality.

It is said that the dot-com bubble officially was burst when Barron's published a cover story on March 20, 2000 entitled "Burning Up," and listing 207 Internet companies that had gone public but whose high-spending ways were going to cause them run out of cash within 2 years. Both Medscape and MedicaLogic made the list.[26]

Within weeks of the article, MedicaLogic stock dived from its $54 high in March to $13 in April. By mid-May, when the merger was completed, it was trading at 8. Much of Medscape's value to its shareholders vanished.

Within a year and half, MedicaLogic was bankrupt, a victim of its own furious spending. MedicaLogic spent money like the prototypical dot-com -- and far more aggressively than Medscape in its most exuberant days. MedicaLogic sold Medscape the site to WebMD in December 2001 for $10 million -- a fraction of its value 3 years earlier. CBSHealthWatch was permanently shuttered. And Medscape the company was dissolved.

Although Medscape, Inc. was ultimately a failure, it is a source of great pride to its founders -- the original skunks and all those who followed in their footsteps -- that Medscape the site itself is thriving and profitable -- and as a product, is better than ever today. It remains surprising that the founders had a better understanding of what business Medscape was in (advertising and sponsor-supported content) than some of the sophisticated and experienced investors that directed the company's failed strategy, but not surprising that low-cost operating style of the initial skunks proved more viable than the high-spending habits of the dot-com boomers that dominated decision making in its final years.

Another important factor in the success of Medscape was the healthy, informal, and committed corporate culture that prevailed until the spring of 1999, when the company was split into 2 divisions. Prior to the split, there was heavy emphasis on collaboration, a legacy of the work ethic promoted at SCP. People who had several skills and could apply them were most valued, often rotating through several areas of responsibility. Steve Smith, a physician assistant and former editor at SCP, was initially Medscape's editorial director, but he is also a gifted designer and a computer programmer, who was essential to the information architecture of the site; Leah Wang moved from production to sales and back to production. Vincent Keane, the musician, designer, and ski mechanic who came up with the name "Medscape," was also a skilled copywriter, marketer, and learned new computer programmers with amazing speed: His skills were just as important in putting finishing touches on a business plan as they were in designing a new logo. As the company grew, much of the fluid collaboration of ideas that made Medscape a reality hardened into traditional business lines, and people were slotted into responsibilities defined by narrow job descriptions. In the resulting culture, the rate of innovation slowed considerably, and the cost of doing business rose exponentially.

Perhaps the most important lesson is that Medscape today thrives because its brand remains true to what it was when it was founded in May 1995: a place where all visitors who register can find freely available, trusted, peer-reviewed content and CME. A good brand can survive ownership by any number of companies that respect it. Medscape the site had the good fortune to have excellent stewards in SCP, Medscape, Inc., MedicaLogic, and now WebMD. May its good fortunes continue.

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