Divine Deal Has Devilish Strings

Latest asset acquired from MarchFirst has a few unexpected liabilities.

When Divine Inc. disclosed plans to acquire portions of MarchFirst Inc., the company was on board for assets, not liabilities.

But the Chicago-based companys pending purchase of the bankrupt Internet consultancys hosting business comes with some strings attached. For one, Divine will inherit some of MarchFirsts obligations to Microsoft, a key investor in the hosting operation. Another issue is a legal dispute involving the hosting unit and its underlying technology. On top of that, Divines latest acquisition target has incurred significant financial losses.

Got Fuel? The business in question, HostOne, was launched with great fanfare last June when former MarchFirst CEO Robert Bernard predicted the young business would generate sales of $100 million in 2001. HostOne, however, ended up on the block with other assets MarchFirst hoped to sell as it descended into insolvency.

Divine last week inked an agreement to buy HostOne. Earlier this month, it closed deals to buy MarchFirsts Central U.S. operations, SAP practice and a few international offices.

Divine plans to use the various MarchFirst assets to fuel two elements of its business strategy: services and managed applications. The latter category is where HostOne fits in. The business offers two Internet data centers located in Herndon, Va., and Sunnyvale, Calif., and a Virginia-based application monitoring and management center.

Pay Up But HostOne also presents some challenges. One is a tortuous relationship with Microsoft. USWeb/CKS, prior to the Whittman-Hart Inc. merger, cultivated an alliance with Microsoft, which was greatly expanded in September 1999. At that time, Microsoft pledged to provide USWeb/CKS with $67.5 million to offset the development and marketing costs of iFrame, a software platform for hosting applications. MarchFirsts HostOne subsequently made iFrame its marquee technology.

Although in a Securities and Exchange Commission filing, USWeb/CKS describes the development grant as non-refundable, the filing also reports that Microsoft expected an 8.9 percent royalty on iFrame and associated applications beginning in July 2001. "The royalty will continue until the earlier of Dec. 31, 2007, or the aggregate royalty paid totals $105 million," the SEC filing states.

Last year, Microsoft and MarchFirst renegotiated the precursor USWeb/CKS-Microsoft alliance. As part of the new deal, Microsoft agreed to loan MarchFirst $12 million. The no-interest loan is due in four installments, beginning Dec. 31, 2002. But those funds may not have been specifically earmarked for HostOne.

Divine and Microsoft "have agreed to work together to restructure these obligations," according to a Divine statement, which does not detail those obligations. A spokeswoman for Divine says the company did not assume obligations to iFrame.

See Ya in Court Meanwhile, HostOne is also the subject of a lawsuit that pits MarchFirst against former HostOne executives. The suit, filed in Fairfax County, Va., says MarchFirst sent representatives to two of the former employees homes and retrieved company laptops and five boxes of "confidential and proprietary" information. That information, according to the suit, included iFrame specifications and documentation on MarchFirsts alliance with Microsoft.

The suit alleges that the defendants, which include former HostOne executive VP Alex Hawkinson, launched a "competing entity" while still working for MarchFirst. Court papers indicate the entity, called ideaVector, was established to function as an incubator of sorts and invested in a service provider called ServicePoint.

Overall, Divine CEO Andrew "Flip" Filipowski says that he expects Divine/ Whittman-Hart to be profitable. But it doesnt appear HostOne will be contributing to the bottom line, at least initially.

On the HostOne sale, Divine has agreed to cover "certain operating shortfalls of this business and to assume certain liabilities of this business."

So much for a fresh start.