Trident Capital Blog

4Q12 Performance for Trident Capital’s SaaS Portfolio; Nice Way to End the Year

The year ended well for our SaaS portfolio companies, and particularly well for our online marketing and advertising platform companies.  While Europe remained soft, NA more than made up for it.  All of online advertising platform companies exceeded their budgets, in some cases by as much as 40%.  We also saw margin expansion as several of our SaaS companies were able to continue raising license prices.  However, these companies continue to hire aggressively (sales, engineering, customer support) as they try to keep up with the accelerating adoption of SaaS. Based on the end of the year activity it became obvious that, as I had written, the enterprise buyers were holding back in previous quarters and, once again, flushed their budgets during 4Q.  The buying activity and our interactions with solution buyers led us to conclude that 2013 is starting with strong optimism around online marketing solutions, as well as general SaaS solutions for the mid-upper enterprise.  We are more circumspect about the 2013 application budgets of global enterprises where we, and investment analysts from Morgan Stanley, Piper Jaffray and other banks, continue to see very modest YoY increases.  We expect 2-2.5% for the year for the global enterprise but 4-6% for the mid-upper enterprise and over 10% for online marketing and advertising solutions, in particular. 

Based on the results announced to date by the public SaaS companies we monitor, e.g., Netsuite, Demandware, ServiceNow, Jive, Cornerstone OnDemand, Qualys (Trident portfolio company) their performance during 4Q12 remained strong, in-line with analyst expectations.  Bazaarvoice and Brightcove less so.  Valueclick and Millennial Media, two public online advertising platform companies we follow, announced strong 4Q12.  The public SaaS companies continue to be impacted by the global macro environment and the decreasing IT spending.  We continue to see moderating revenue growth for these companies, compared to the explosive growth we had seen in the past.  Based on the announced results, I expect that for 2013 these companies, and our corresponding portfolio companies, will show consistent YoY growth in the range of 25-50%.

Overall, the number of M&A technology transactions, and the value of those transactions, during 2012 were slightly down from 2011, but cloud computing in general attracted more of the acquirers’ attention.  However, 4Q12 was another active quarter for SaaS M&A.  Oracle bought Eloqua, as it continues to bolster its marketing technology solutions portfolio, Synchross bought Newbay from RIM, and Citrix's acquisition of Zenprise.

In 4Q12 we invested in Fruition Partners.  This is our first investment in a tech-enabled services company that has built its business around a SaaS solution, in this case ServiceNow’s solution.  We were impressed by Fruition’s growth trajectory, capital efficiency, and differentiated IP that is built on top of ServiceNow’s application.

Positive aspects of our SaaS portfolio’s performance:

1. Strong license revenue growth of 30% QoQ for the online advertising platform companies, and 15-20% of the remaining SaaS companies.  Our portfolio companies saw contracts with higher ARR (due to broader corporate deployments) and fewer multi-year contracts (which we liked).  During the quarter our companies also saw less pressure for discounts, an issue that was a concern in 3Q12.  4Q is typically the strongest quarter for the advertising platform companies, and this year was no exception.  Based on our direct checks regarding advertising budgets for 2013 we are starting the year being very optimistic. 
2. Steady renewal rates (85-90%) with strong upsells in 15-20% (similar to last quarter) of the renewing customers, with the exception of social application companies where, as I had also written when I was reporting the 3Q12 results, we continue to see higher than expected churn (15% MRR churn) by mid-market clients.
3. Sales pipelines grew well, indicating continued interest in SaaS applications in general and online advertising platforms. We see continued interest for solutions for the CMO and also in data-driven solutions. 
4. During the quarter our SaaS portfolio companies saw increasing interest for partnerships by large IT vendors.  Many of these partnerships are driven by large enterprise customers that want to see SaaS applications, particularly social business applications, integrated into larger enterprise platforms, e.g., CRM, HRMS, eCommerce.  We expect that these partnerships will start taking shape during the 1H13.

Negative aspects of our SaaS portfolio performance (none of these are new compared to what we reported in the past):

1. Higher than expected revenue and customer count churn in social business application companies.  We see this as the result of customers having difficulty establishing the ROI for many applications of this type.  It also follows a more general, and important to follow, trend we observed during 4Q12 regarding social in the enterprise. In particular, we saw that enterprises started merging their social interaction departments/organizations, which during 2011 and 2012 operated as standalone entities, into their marketing departments, presumably to better integrate their overall marketing efforts and thus try to achieve better ROI from these efforts.
2. Lead generation and nurturing remains uneven.  Lead generation is becoming more effective due to the strong interest in SaaS solutions.  However, nurturing these leads and converting them into sales qualified opportunities still requires too much field sales involvement.

We have been pleased with the end of the year performance of our entire SaaS portfolio and particularly our advertising and marketing platform companies.  2012 was a transformative year for many of them as they entered the growth stage of their lifecycle, aided by the overall market’s growing appetite for SaaS solutions.

Related articles

Gartner's SaaS Predictions for 2013

Opex vs Capex: some implications you need to consider

CES 2013 Report

The Consumer Electronics Show (CES) this year attracted about 153K attendees (flat compared to last year) and had 3000 exhibitors (about a 15% increase over last year).  Building from last year’s trend, this year CES was dominated by mobility and wireless Internet connectivity solutions.  My focus continues to be on the implications of these themes on the consumerization of the enterprise and the monetization of the Internet.

Themes

• Mobility.  Walking the floor I was struck by how much PCs had been displaced by tablets and smartphones.  The tablets and smartphones introduced far outstripped the PC variants that were introduced.  Eventhough manufacturers introduced a spate of Windows 8 PCs, mobile devices took the center stage in manufacturers’ booths while PCs (laptops, ultrabooks) were given less prominent positions.  Microsoft was absent from CES for the first time but I don’t think that this was the reason for the lack of PC display prominence.  It's just that the world is moving irreversibly towards tablets and smartphones of various sizes.  CES didn’t include any “big” mobile device introduction.  We saw a continuing evolution in terms of what the mobile devices can do.  The mobile device market is maturing, particularly in the US and parts of Asia, so the manufacturers don’t expect to see revenue growth just through additional device shipments.  Instead the growth will come from the increasing value of the applications and content found in each smart device. From the discussions I had with IT executives I expect a continued trend for BYOD and CYOD (Choose Your Own Device, from choices offered by corporate IT).  The content offered in the various devices being demonstrated is not yet driving replacement or upgrade cycles. I saw an improving trend on the use of mobile devices to monitor health and fitness.  It was reported that 50% of US online consumers are now using a single- or multi-sensor devices to monitor their health and fitness.  This represents a continued opportunity to collect and correlate data and combine with other health-related data; though this is not happening yet mostly because of closed interfaces rather than privacy concerns.

• Connected TV.  TV manufacturers introduced the first models of Ultra HD TV sets (or 4K as is also called).  While the resolution is significantly better than HDTV, everybody I spoke to admitted that the US consumers and corporations are not ready for a TV upgrade cycle and mentioned the failure of 3D TV as an example.  Many believe that Ultra HD will have the same fate, at least in the short term.  In addition, there is a lack of content for these new TVs.  However, the improved Internet connectivity offered by new TVs (not only the high end ones) is of greater interest, particularly to advertisers.  The improved connectivity enables these sets to offer richer interactions with mobile devices such as tablets and smartphones which, particularly younger consumers appreciate, and provide Internet style ad targeting of the consumer.  Remember that during 2012 mobile advertising proved particularly successful.  It will be interesting to determine how older TV sets can be retrofitted to offer this improved connectivity.  I imagine that TV manufacturers will need to start componentizing their systems and offer a connectivity box that is separate from the monitor, rather than cramming everything on the same chassis, as it is done today.  CE manufacturers will also need to develop publicly available APIs and more open systems.  This again runs counter to the current trend of creating closed ecosystems.

• Ad agencies and brands. In all the years I’ve been coming to CES I’ve never seen as many representatives from ad agencies and brands in attendance.  In addition to being a rather unique opportunity for meetings because of its size and diversity of attendees, ad agency executives and brand representatives attended the show in order to better understand consumer technology trends particularly around the wireless and multi-screen world and its implications to multi-channel marketing and targeting.  I saw many agencies giving tours of the show floor to their clients and I’m sure they used the opportunity for meetings with their clients.  I certainly took the opportunity to meet with several ad agency and brand executives.

Investment Implications

1. While manufactureres introduced several mobile devices running Windows 8, CES 2013 showed once again that Android and iOS remain the two dominant mobile platforms.  However, the variability among the versions of Android available in the market, the proprietary extensions created by each manufacturer and the lack of well-defined and robust APIs will continue to present problems for application development, integration and security.  HTML5 is not having yet the type of impact I was expecting.  The mobilization of enterprise applications, i.e., connecting enterprise applications to mobile front-ends, will remain a problem for the next couple of years and present investment opportunities.
2. The incorporation of tablets, and smartphones into business processes will further accelerate the enterprise’s cloud adoption for the provision of content and services, e.g., applications, storage, training, etc.  We expect to see major enterprise initiatives particularly around mobile commerce and multi-channel marketing and will continue to look for opportunities.
3. Connected TVs and the deeper integration between TV sets, tablets and smartphones, will lead to online advertising emerging as the primary way for monetizing content and applications. 
4. The human-to-machine and machine-to-machine interactions that result from the increasing device connectivity will result in larger, more complex, and shorter “half-life” data sets (big data) that will need require increasingly sophisticated analytics.

Related articles

CES 2013: The Year the "Connected Home" Becomes a Reality?

What We Learned at CES and What Brands Have to Know - Day 2 Recap

This Year You Don't Have To Work at Microsoft to Get Steven Sinofsky's Take on CES

Reviewing 2012 and Preparing for a Successful 2013 [Updated]

Happy New Year!  After a longer than normal holiday break, I’m taking this opportunity to reflect on 2012 and provide my early thoughts regarding investment activities in 2013. 

During 2012 50 companies went public, the most of any year since 2007, but only 8 venture-backed companies during 4Q12, the lowest number in any quarter since 2009.  The $11.2B raised through these IPOs was the most since 2000, though most of it came through Facebook’s IPO.  M&A proved a little more disappointing than in 2011 with 433 deals valued at $40.3B completed, compared to 548 deals valued at $49.8B that were completed during 2011.  Because of the uncertainty surrounding the US economy, due to the “fiscal cliff” and the associated tax issues, corporations appeared to be holding back on acquisitions, especially during 2H12, despite their healthy balance sheets.  I don’t see the liquidity environment changing materially during 2013. 

Late last year I wrote about the overall VC investments during 2012, and the financing terms (including valuations) that private companies with certain characteristics were able to negotiate putting entrepreneurs and management teams in the driver’s seat.  However, by the end of the year it also started becoming apparent that during 2013 seed-stage startups will face a financing crisis and most won’t be able to raise new capital.  Over the past 3-4 years angel investors (casual and experienced) funded too many companies that have weak teams, undifferentiated IP and debatable business models.  Therefore, in my opinion, the expected “pruning” of early stage startups will be welcome.

Many venture and private equity firms will attempt to raise new funds during 2013.  The LPs remain skeptical of the ability of venture and private equity to provide them with yield. Because many investment firms will be in fundraising and even more firms have reached the end of their funds with no hope of raising new pools of capital, I expect that during 2013 we will see an investment slowdown with fewer new financings overall compared to what we saw in 2012.  Investors will focus their investments on existing portfolio companies.

Our SaaS portfolio consists of enterprise applications, including social and mobile enterprise applications, and adtech platforms.  In most of these solutions big data management and analytics play a central role.  During 2012 we saw the emergence of a few important trends, which I expect will continue in 2013.

1. Accelerating adoption of cloud in general and SaaS applications in particular by the global enterprise.  The SaaS market is projected to grow by 25 percent in 2013 to $59B and could reach $75B in 2014. 
2. Strong adoption by brands and their advertising agencies of cloud-based adtech platforms and of programmatic buying for online advertising.  Of particular interest has been the exploding usage of online video whose monetization is now primarily coming through online advertising.
3. Enterprise mobility initiatives started moving from experimentation to production.  The incorporation of tablets in many business processes, e.g., sales, quality control, collaboration, the BYOD policy that many corporations have already adopted, the broader adoption of smartphones and tablets by consumers who want to use these devices to interact with enterprise applications, e.g., banking transactions, purchase transactions, are the reasons for this move.
4. Continued adoption of social applications by the enterprise but more scrutiny on the ROI these applications provide.
5. Big data initiatives are slowly moving from experimentation to deployment but remain driven mostly by cost-cutting rather than innovation goals.  I still believe that the adoption of big data management and analysis technologies can be transformational in the enterprise and may even become a bigger opportunity than SaaS and cloud have proven to be.  But for the time being most enterprises don't exploit the opportunities they have for data collection, e.g., few collect data that is generated from machine to machine interactions, or various forms of unstructured and semistructured data, e.g., social graph data, and more importantly for data analysis, insight creation and action.  Of course, a major reason for the the slow creation and adoption of big data analytic solutions, particularly of solutions that utilize predictive and prescriptive analytics rather than just descriptive analytics, is due to the shortage of big data analysis talent (from data scientists to business analysts with good understanding of big data).

As we look into 2013, we also take into account the following observations from 2012: 

1. SaaS alone is not sufficient to make a private company interesting for venture funding. Maybe with a few industry-specific exceptions, most applications today are developed to run in a cloud environment.  So SaaS has become table-stakes.  Perhaps this is a sign of the model’s maturation process.  To be interesting for an investment that has the potential of “venture returns,” a company developing application software needs to utilize a variety of appropriate technologies, e.g., single instance multi-tenancy, cloud delivery, big data analytics, social, etc., to solve an important problem for which a buyer (corporate or consumer) would be willing to pay significant amounts to have it solved.  We are seeing venture investors transitioning from being SaaS technology-centric, to becoming problem-centric as they consider investment opportunities. 
2. Enterprise SaaS is emerging as a separate category.  The SaaS model proliferated enough where we can no longer treat it in a monolithic way.  It is time we start differentiating enterprise SaaS from SaaS applications aimed at smaller companies.  Enterprise SaaS applications are sold by hybrid teams that consist of field and inside sales personnel.  These teams achieve their goals using novel technology-driven demand generation, lead tracking and communication solutions, e.g., social solutions, and sales models, e.g., freemium.  Enterprise SaaS is characterized by sales cycles that are similar to other forms of enterprise software.  The deployment of these applications is also similar to the deployment of other types of enterprise applications since many enterprises want to re-engineer their business processes as they embrace SaaS applications. Our portfolio companies have found that such process re-engineering enables enterprises to effectively leverage the business and technical implications of SaaS, as their transition from an on-premise to a cloud computing environment. This need for re-engineering is demonstrated particularly well in enterprises that are adopting multiple Saas applications at the same time.  Finally, enterprise SaaS applications are often available in private, public and hybrid cloud configurations, and are licensed in multi-year contracts. 
3. Security is the biggest impediment to the broad adoption of enterprise SaaS and big data solutions.  All CIOs I have spoken with list enterprise data security as their top issue in moving more of the applications and IT workloads to the cloud, as well as in adopting new applications, including social, mobile and cloud-based big data applications.  This issue is even more central in regulated industries such as financial services, insurance, utilities where customer data needs to be moved to the cloud.  We expect that this concern will continue to drive CIOs to adopt hybrid and private clouds.  Interestingly enough, uptime is no longer as big of an issue as it was as late as last year.  CIOs have come to accept that like every system, cloud computing systems will also have issues and breakdowns. 
4. With the increasing use of mobile devices, mobile application development may become a big issue during 2013.  The magnitude of the issue will depend on how many mobile applications corporations will need to develop on their own, and how many of their existing enterprise applications will need to be accessed via mobile devices.
5. While the adoption of stand-alone social applications will continue, these applications will need to be integrated with the existing enterprise platforms (CRM, ERP, HRMS, eCommerce).  This integration will be the first step in the seamless and necessary integration between the enterprise systems of record with the systems of engagement.  Such integration will also enable companies to start achieving their multi-channel marketing goals.  An important component of multi-channel marketing is attribution which will replace last-touchpoint attribution.
6. Based on the number of big data startups that have been established and funded in this area we expect 2013 to be the year when the big data bubble will burst but also the year that we could see a small number of acquisitions of big data infrastructure companies by large data management incumbents such as IBM, Oracle and Microsoft.

Because of these trends and observations I expect that during 2013 we will continue to focus on investments in companies that develop:

1. Solutions for customer understanding, mcommerce particularly as it impacts industries such as retailing, travel and financial services, sales enablement and Internet monetization using cloud computing, mobile, social and big data analytics technologies.  All these solutions emphasize the increasing role of the CMO in setting a big part of the corporate application strategy.
2. Data security solutions for cloud and mobile environments that will add to our already extensive security portfolio

Related articles

Era of Analytic Applications - Part 1

The ABC's of enterprise SaaS

Cloud Computing and Enterprise Software Forecast Update, 2012

3Q12 Performance for Trident Capital’s SaaS Portfolio; the Enterprise is Still Holding Back

This time I waited longer than usual to write my commentary on the performance of our SaaS portfolio because I wanted to have the benefit of the quarterly results announcements by the public SaaS companies so that I can better compare it to that of our own portfolio.  Also, starting with this post I will start including in my commentary our adtech platform companies, e.g., Turn, Brightroll, Exelate, Appia, JiWire and Sojern, which, as I mentioned in my previous post, we view as part of our cloud computing portfolio.  These companies offer SaaS platforms that are being used by enterprises, either directly or through large advertising agencies representing them, use subscription and transaction business models, and typically sign term contracts.

My overall conclusion from the quarterly results posted by our SaaS portfolio companies is that during 3Q12 the macro environment, in conjunction with the slower procurement environment that is typically encountered during the summer months, resulted in moderate growth, in several cases below budget, for those of our SaaS portfolio companies addressing the more traditional business processes.  Our adtech platform companies performed very well, in all cases exceeding their budgets.  We will need to adjust our growth expectations for 2012 and 2013 for at least part of our SaaS portfolio.  The enterprise continues to hold back on its IT investments and is trimming its IT budgets for the remaining of the year.  By the end of the quarter, many of our SaaS portfolio companies heard what we had heard from our SaaS advisory board a few weeks before (and had found it hard to believe): enterprises have more unallocated capex budget, which can be used for on-premise applications, and not as much opex budget which is used to license SaaS applications.  We found that hard to believe and we are in the process of trying to understand what is really going on.  These trends will undoubtedly impact the financial performance of our SaaS portfolio.  I expect that we will see slower growth in the 2013 IT budgets than we had projected in 2012, i.e., closer to 2-3% YoY growth.   

Based on the results announced to date by the public SaaS companies we monitor, e.g., Netsuite, Brightcove, Demandware, ServiceNow, Jive, their performance during 3Q12 remained strong, in-line with analyst expectations.  They continue to be impacted by the global macro environment decreasing IT spending.  We follow smaller cap SaaS companies that are selling to the mid –upper enterprise and the global enterprise, i.e., their characteristics match those of our own SaaS investments.  The announced results led me to two observations. First, these companies are starting to show consistent YoY growth in the range of 25-50%.  Therefore, as we continue to monitor the breakout SaaS company metrics (see also here) that we have established for our own SaaS portfolio companies, we take this into account.   I expect that for 2013 we will consider YoY growth above 60% as being indicative of breakout performance.  Second, despite this more moderate growth, compared to what we’ve seen in the recent past, public SaaS companies continue to spend aggressively on sales and marketing, and their COGS remain higher than one would have expected particularly given the accelerating adoption of SaaS applications.

This was another active quarter for SaaS M&A.  The biggest SaaS transaction during the quarter was IBM’s acquisition of Kenexa and VMWare’s acquisition of Nicira (thought this was cloud infrastructure than SaaS application).  We’ve also see several smaller transactions led by recently public SaaS companies.  Of particular interest was Bazaarvoice’s acquisition of Longboard which also underlines again the gradual merging of adtech platforms (Longboard) with enterprise SaaS platforms (Bazaarvoice). 

Positive aspects of our SaaS portfolio’s performance:

1. Strong license revenue growth of 25-35% QoQ for the adtech platform companies, and 15-20% of the remaining SaaS companies with increasing subscription ARR.  We are seeing significant upside in our adtech platform companies for 4Q12 and 1H13.  Like with IT, 4Q typically is the biggest quarter for the adtech companies.  It is also the quarter during which the budgets for the following year will be set.  On this issue, our direct checks with advertising executives and through our portfolio companies lead us to be optimistic for 2013.
2. Steady renewal rates (85-90%) with strong upsells in 15-20% (similar to last quarter) of the renewing customers.  In most cases the customers that are not renewing are not customers our companies want to keep, primarily because their solution is not a good fit for those customers’ needs.  The high renewal rates and the significant upsell rates provide the strongest indications that the customers are realizing strong ROI from the use of these applications.  The most significant risk regarding renewals is coming from our social application SaaS companies, because corporations have started to scrutinize the ROI these solutions are able to demonstrate consistently. 
3. Growing pipelines, underlying the continued interest in SaaS applications by the segments targeted by our portfolio companies.  Though with the particular macroeconomic backdrop it remains difficult to assess whether the sales cycles will start accelerating.

Negative aspects of our SaaS portfolio performance (none of these are new compared to what we reported in the past):

1. The macro environment and the uncertainty it results in remain a concern as corporations continue to back on their investments.
2. Price pressure and margins.  We continue to see customer pressure for 5-10% discounts for an annual subscription and 5-7%/year for multiyear contracts.  This, in conjunction with the need to invest in sales and marketing, results in continued lower gross and operating margins.
3. Lead generation and nurturing still uneven.  Lead generation is becoming more effective due to the strong interest in SaaS solutions.  However, nurturing these leads and converting them into sales qualified opportunities is still lacking, particularly for the more complex SaaS soutions, negatively impacting CAC.

We expect that our SaaS portfolio companies will have a strong end to the year.  We continue to keep a vigilant eye to the trends we are observing in both our own companies and relevant SaaS companies as we try to help our portfolio outperform the market, as well as we try to determine which SaaS companies and under what terms to bring into our portfolio, during this period of moderating performance but inflated valuation expectations.

Related articles

With SaaS, it's not just about your apps - it's how you connect those apps, too [GigaOM]

From Mad Men to Big Bang Theory: The evolution of adtech

Trident Capital Update and Areas of Investment Interest

It has been awhile since I provided an update on our firm, the overall venture capital investment environment and some of the areas where we will be looking to invest during 2013. We recently met with our SaaS and Internet advisory boards so it was a good time to reiterate our firm’s investing posture, assess the performance of our SaaS and Internet portfolio companies, and discuss our more recent investment focus. 

Our firm continues to grow.  We recently hired a new partner, Gus Alberelli, to strengthen our late stage investment team, as well several associates to add to our sector teams.  We continue to invest out of our 7^th fund having just passed the half way mark and we have already started thinking about our next fund.

The last few months continued to mark the evolution of the venture industry both in terms of the firms that are actively investing and raising new capital but also in the types of investments that are being made.  Since the beginning of the year we have considered a very large number of investment opportunities; maybe even larger than we typically see during a similar period.  Angels, super-angels and early stage VCs have continued to be very active investing in companies raising their first capital as well as in earlier stage companies looking to raise their first truly institutional round.  Just during 2Q12 alone $1.1B was invested across 282 deals, representing 15% of all dollars invested and 31% of all deals done.  During 2Q12 we saw $7B invested in 898 deals, down 7% from 2Q11.  We feel that during 3Q12 investment sentiment went up again and we see a similar pattern for 4Q12. 

We continue to see a decrease in funding to consumer Internet companies, but a significant increase and focus on enterprise models, particularly around software, which is at a 10 year high.  Starting with 2011 but also during the first 3 quarters of 2012 we saw a strong increase in investments around social for the enterprise, mobile, where we saw a YoY increase of over 50% in investments, a renewed interest in adtech and marketing technology, and accelerating investment interest in companies with big data solutions, where $1.1B has been invested to date in 60+ companies. Cloud computing has become table stakes in these opportunities.

The broad set of US venture firms continued to have trouble raising new pools of capital.  We are seeing 100-120 funds being able to consistently raise new capital, invest it and have exits.  This is a much smaller number of the funds that are registered with the NVCA (450) and continues to drive the separation of the “haves” from the “have-nots."  During the 1H12 82 funds raised $13B, 31% increase over 1H11.  The top 5 funds raised 80% of the $6B that was raised during 2Q12.  We are also seeing, what I believe to be, a return to normalcy with firms that are focused on early stage investments raising smaller funds, ($100-250M), and multi-stage firms raising larger ones.  

While we appear to be returning to normalcy regarding number of venture firms and size of funds, we are still in unreal territory regarding valuations.  During 2012 it became apparent that VCs are willing to pay up for top line growth and for companies that have established leadership positions in spaces that are considered important.  While it appears that in sectors such as social we have reached the peak of inflated expectations, we have nonetheless been extremely surprised at the valuations achieved by companies that have consistently demonstrated this growth (50-100% yoy growth) and demonstrated escape velocity in revenue ($15-20M+).  Recent examples include Quirky, Klout and Zendesk.

We are on a pace for about 55-60 IPOs this year, a similar number to last year.  However, while the number of IPOs was flat, the amount of money raised was up (primarily because of Facebook). SaaS IPOs did well this year with Workday and ServiceNow leading the way.  Trident’s SaaS portfolio company Qualys had a very successful IPO a few weeks ago.  Moreover, the SaaS companies that went public are trading well.  

M&A of venture-backed companies is up slightly during 2Q12 with 110 deals, resulting $13.6B up from 98 deals worth $12.7B in 1Q12.  Four of Trident’s software portfolio companies were acquired thus far this year. 

We remain concerned at the lack of several (as opposed to just a few) significant exits in the Internet space.  We recognize that the space is full of point solutions and that few companies will be acquired by a relatively small set of acquirers.  We are also concerned that in our recent discussions with corporate development officers we heard of their desire to make acquisitions in the $30-100M range but not higher, intimating that they are not willing to pay high revenue multiples for the companies being acquired.  Finally, as we consider the universe of potential acquirers in the internet area we recognize that Google and Adobe have largely completed their buildout, Akamai appears to have slowed it down (or even abandoned it), Facebook is building internally or is looking for partnerships, at least for the time being.

While adtech has not produced many exits, certain adtech sectors (DSP, SSP, mobile, video) continue to grow fast and are starting to attract public market interest. Millennial Media’s successful progress as a public company is a big contributor to this interest.  We expect to see stronger IPO and M&A activity during 2013 and 2014, particularly in Demand Side Platforms, Supply Side Platforms, video and mobile.  These are the adtech sectors where Trident has invested heavily and our portfolio companies Turn, Brightroll, Exelate and Appia are considered leaders in their spaces. 

We have also been encouraged by the recent interest of IT vendors, e.g., IBM, Oracle, Salesforce to accelerate acquisitions of marketing technology companies (Buddy Media, Vitrue, Coremetrics).  Our social marketing and commerce portfolio companies Extole, 8thbridge, ThisMoment, and Pivotlink, our marketing analytics investment, are expected to benefit from this trend. 

In the big data sector during 2014 we may also see 1-2 IPOs, particularly of big data infrastructure companies, but we expect that the best of these companies to exit via acquisition.

Corporate VCs are aggressively re-entering our ecosystem either by establishing new funds and locating in our area, e.g., American Express established a standalone $100M fund, or by investing in venture funds and participating in individual financings, e.g., Walgreens.

Trident remains focused on companies that provide software, Internet and technology-enabled services centric solutions to the mid-upper enterprise and the global enterprise using B2B and B2B2C models.  We differentiate ourselves through our areas of expertise that obviously include SaaS, adtech and mobile, big data and business analytics, as well as security and healthcare IT. 

During 2012 we have slowed our typical investment pace because we are concerned about the overfunding of several sectors of interest, and the very high valuations being offered by investors and expected by management teams.  We have been focusing on companies that have reached the expansion and growth stages.  We have walked away from several opportunities where the company may be doing extremely well but where we couldn’t find a way of making money under the terms expected by their management teams.  As a result, since the beginning of the year we have invested in Mocana (mobile security) and ThisMoment (social marketing and rich media content management).  Presently, we are also waiting to receive feedback on four term sheets we have recently submitted.  We expect that we will be able to close at least 2 of these investment opportunities before the end of the year.

Our portfolio continues to perform well with most companies achieving at least 30%+ YoY growth.  Our earlier stage SaaS portfolio and most of our adtech portfolio companies have been able to grow 100% YoY.

New Areas of Investment Interest

Over the past couple of years we have had three distinct investment theses: social for the enterprise (social meets SaaS), adtech (SaaS platforms for ad-driven Internet monetization), and mobile applications for the enterprise. 

We remain very excited about these sectors because of:

1. The continued shift of ad budgets to the online channel. We see social, mobile, and display/video as being strong growth drivers.
2. The accelerating adoption of programmatic buying and Real Time Bidding (RTB).
3. The increasing corporate desire for multi-channel marketing.
4. The technology opportunities afforded by the use of big data and analytics, closed loop marketing, and the increasing desire to merge offline with online programs while providing the proper attribution.

As a result, our overall investment thesis is evolving.  Rather than looking at these sectors in isolation, we are looking at models that bring together Cloud, Social, Mobile and Big Data and monetize through advertising or commerce. 

I wrote about the increasing power of the CMO, who is increasingly collaborating with the CIO in setting application strategy in the industries of focus.  We are aware that mobile and social, while of strong interest to the CMO, remain under-monetized and that attribution, particularly involving offline channels, is of strong interest to the CMO.  In addition to these areas we are spending more time with models that provide significant leverage such as freemium, try and buy. We see continued focus on these areas by ad agencies but we see them as having little ability to understand the technologies and the complexities they entail.  Our portfolio companies continue to deal with campaign-based contracts rather than term-license contracts.

As we evolve our investment theses we have been focusing on four areas that we expect will continue to occupy our time for the next 18-24 months.  Of course we would very much like your input and insight regarding these approaches.

1. Horizontal and vertical mobile applications.  We believe that mobility remains a huge opportunity as mobile devices (tablets of every type and smartphones) continue to be adopted in large numbers and used on an increasing variety of tasks (search, mcommerce, collaboration).  We remain, however, concerned about the platform war being waged by the large vendors.  The improvement of networks is also a big factor as is the increasing use of both native and HTML5-based applications.  We see mobile advertising and mcommerce (with representative companies like Aisle411, Revel Touch, Coffee Table, The Find, Square) as being completely distinct than online advertising and mobile ecommerce because they take into account the unique features of smartphones and tablets.  We are seeing corporations increasing the number of trials and campaigns they are conducting using mobile devices but we are still seeing trials and not large scale deployments, even though we are impressed by the faster than expected adoption of tablets by enterprises.  We view the growing number of mobile applications as good news, bad news.  Good news because they provide more opportunities for interactions with brands.  Bad news because application discovery is becoming a problem.  Much like web site discovery had become a problem in the past and gave rise to search, we see the need for application discovery and recommendation technologies, based on user interests and usage.
2. Social applications for the enterprise.  Over the past 2 years we have been focusing on applications that use social in inter-enterprise business processes, e.g., marketing and commerce.  We are now focusing on applications that effectively utilize social in intra-enterprise business processes and value chains. 
3. Adtech/Monetization. We remain focused on companies that can provide improved Internet monetization through new formats, and are paying particular attention to Facebook’s adtech efforts, data-driven targeting and optimization.  As marketers are increasingly asking for omni-channel marketing solutions, and a clear demonstration of ROI, we see a big opportunity in cross-channel attribution solutions that can account for more than the last click.
4. Big data vertical and horizontal analytic applications that are being built on top of open source infrastructures like Hadoop. Thus far we have had hard time finding innovating applications that can only be done through these infrastructures and none of the commercially available proprietary ones.  We are starting to see some examples like Bloomreach that can play an important role in both eCommerce, mobile and social.  We are also particularly interested in social analytic solutions that can use such open source infrastructures to extract insights from social graphs that are augmented with other first- and third-party data.

Threat of Cyber Pearl Harbor Calls for International Collaboration

The Global Community Takes an Important Step in Protecting a Hyper-Connected World at the World Economic Forum Meeting in Tianjin, China

Guest post by Alberto Yepez, Managing Director, Trident Capital, and AlienVault, Chairman

Recently the American financial industry faced five weeks of sustained cyber-attacks from hackers in Iran, hindering online banking services that can make up as much as 60 percent of a bank’s transactions. What started as assaults on the nation’s largest financial institutions quickly expanded to regional banks and even credit unions.

Several elements make this episode particularly troubling:

• It reveals vulnerabilities in one of the most secure industries
• This attack is more sophisticated than previous episodes (about ten times the volume and intensity)
• The hackers moved beyond “disruptive” assaults to a “destructive” attack that purposely and successfully brought down online operations
• Hackers targeted even small institutions.

In response, Defense Secretary Leon Panetta warned that the U.S. faces the potential of a “cyber-Pearl Harbor.” But this is not a problem unique to America and its largest companies – the digital world has no borders and organizations of all size increasingly rely on connectivity to operate. This global threat calls for international collaboration. And the good news is that global leaders are already starting to mobilize.

This fall I had the opportunity to attend the World Economic Forum’s Annual Meeting of the New Champions and accept the Technology Pioneer award on behalf of AlienVault. The event is designed to shape global, regional and industry agendas with input from global leaders in government, business and academia. The organization believes that network resilience is crucial as societies increasingly rely on connectivity for day-to-day functions, and it is working to increase the world’s focus on global cyber security.

Partnering for Cyber Resilience is a global, multi-industry, multi-stakeholder initiative to improve cyber resilience, raise business standards, and contribute to a safer and connected society. This represents the social value that AlienVault provides through its “security for all” technology with an open and collaborative approach that makes proven solutions available to large and small organizations alike.

But this project is in its early stages, and the recent attacks on the financial industry underscore the need for the global community to move quickly to stay ahead of increasingly sophisticated threats from hackers, organized crime, rogue governments and activist groups. The principles established during the meeting provide a framework to move forward, and we need to see quick action from three groups:

• Governments: Create policies that set legal guidelines for the digital world
• Established companies: Support and collaborate on innovation in IT security
• Technology Pioneers: Rapidly develop the technology to enable a safer, hyper-connected world

No one or two pieces can stand on their own – contributions from all three sectors are crucial for success. More than anything, the principles set forth at the meeting are a necessary starting point, but must lead to real action to create a safe, digital world.

Analyzing Social Analytics

Social (media, technologies, applications) continues to penetrate the corporate world.  To date the penetration has primarily been driven by the demand to take advantage of Facebook’s massive reach and enable companies to get closer to their customers.  More recently, companies started taking similar advantage of Twitter, LinkedIn and Google+.  The quick adoption of social by companies of every size, including the enterprise, has led to the rapid success of companies like Buddy Media, Vitrue, and Wildflower, whose tools and services enable companies to establish their social presence, primarily on Facebook.

In the course of investing in social application companies over the past 3 years, we have considered several different uses of these technologies in business processes, from product development to marketing to customer service and job-applicant tracking.  In a report published by the McKinsey Global Institute, the authors identify 10 different ways social technologies can add value to enterprise functions.  Along with this broader usage, companies are beginning to ask more pointed questions about the value of social, and the quantifiable benefits they receive from the use of such media, technologies and applications, as well as for actions that will enable them to increase this value.  Analytics can play an important role in answering these questions and be used to provide insights and the corresponding actions, i.e., Insight as a Service, to increase the value of social.  While the initial use of social analytics has been by the CMO, such analytics can also be used by the HR, customer support and other executives in the corporate suite.

Each use of social generates and leverages different types of data, from simple structured data about the characteristics of a brand’s fan base, to unstructured (and often messy and noisy) postings in activity streams, to more complex data captured in a social graph including Facebook’s Open Graph.  Some of this data (e.g., tweets) is very fast with a short “shelf life,” while other data is more enduring, such as a brand’s social graph.  All this is indeed big data and must be approached as such. 

Collecting, organizing and preparing this data for analysis can also be challenging.  In surveys conducted in 2011 by Gleanster, 89% of the surveyed executives found the tracking and measurement of results from social campaigns to be very challenging, while 94% found it difficult to generate actionable insights from the social campaign data they collect, which suggests that they may not even be collecting the right data.  Some of this data can be useful even without being rigorously analyzed.  For example, in a recently published white paper, Bazaarvoice states social data alone is starting to impact CMOs’ decisions.  It is also becoming evident to these executives that social data needs to be integrated with other corporate and third-party data in order to create the metrics and analytics to determine ROI.  This points to the realization that while social data, including social graph data, is a new and less tested data type, early adopters of social are still able to recognize that this data by itself will not be sufficient for defining the value-analysis metrics and KPIs.

We are already starting to see that the analysis of social data, when done correctly, can yield significant results, allow business users to determine “what moves the needle” and establish the ROI of using social media and applications.  But to determine which of the collected social data needs to be analyzed, one must first define what will constitute success in a particular process where social is used.  For example, if social is used in marketing, will success be an increase in customer loyalty, higher brand engagement, or sales growth?  What about in customer support?  Will success be the optimization of the customer experience, or the reduction of the customer support costs?  Once the objective is established, then one can define the metrics and KPIs that will be appropriate for determining its success.  For example, to establish social ROI around customer loyalty, a CMO may want to understand whether prospects that are acquired through social media have a higher probability of becoming customers (i.e., convert) than prospects acquired through an email campaign, as well as understand the individual characteristics of the prospects that actually converted.   Or the CMO may be interested in determining whether a particular social channel, such as Facebook, is leading to more conversions/sales than another such channel, such as YouTube.  In its report on social analytics, Altimeter explains the various business objectives that can be achieved through the use of social and provides different metrics for understanding whether the objective has been successfully achieved.  Obviously each metric is driven by different data.  It is the analysis of these metrics and KPIs that provides the insights and actions which enable the determination of ROI.

Social Analytics for Marketing

While the insights and actions derived from the analysis of social data can produce significant ROI in a variety of business functions and processes, early attempts to develop social analytics have centered around the marketing department’s needs because CMOs have been some of the earliest adopters of social media for branding and customer acquisition.  But while CMOs have seen their brands successfully acquire many fans, they have had trouble determining which of these fans to try to convert to customers, and establishing the lifetime value of each such converted customer.  We have seen three types of social analytics for the CMO: sentiment analysis, attribution analysis, and social graph analysis. 

Sentiment analysis refers to the measurement of a consumer’s attitude towards a brand and its competitors.  The attitude may be towards the overall brand or towards a particular product or service offered by the brand.  Sentiment analysis can be used to identify certain trends (e.g., a brand’s loyalty), but more importantly, it can be used to make predictions, such as predicting the broad sales performance of a product (and if combined with location-based and channel data, it can predict the performance around a particular geographic location, or predict the sales performance of the social channel in comparison to the sales performance of other channels, such as email).  This type of analysis may be based on simple keyword-counting or on full-blown Natural Language Processing (NLP) of the social streams and other social content such as blogs and wikis.  There are already tens of, rather undifferentiated, companies using keyword-counting to provide sentiment analysis solutions and a few that use more sophisticated NLP approaches. 

Attribution analysis is the process of assessing the effectiveness of advertising campaigns by channel and each channel’s contribution to sales.  As social has become an important channel, marketers have started using it for both direct response and brand advertising campaigns.  Through attribution analytics the marketer is trying to determine what percentage of each social ad’s audience has been exposed to the ad, how many times each ad was seen, whether the use of social media “drove” prospects to properties owned by the brand, (e.g., the brand’s web site, or a store), and whether social media is more effective than paid advertising.  Given the dynamic nature of social media and the very large number of variables involved with each campaign, isolating the elements that made a campaign successful might be tough, and thus attribution is very difficult.

Social graph analysis refers to the examination of the graph’s structure to reach certain conclusions.  A graph’s structure consists of the data associated with each node and the connections/links among each two nodes.  In a social graph a node may represent an individual, (e.g., Evangelos Simoudis, his place of residence, his birthday, etc.) or an organization (e.g., the Coca-Cola Company, headquartered in Atlanta).  Connections may represent certain relations about the nodes (e.g., Evangelos Simoudis is a fan of Coca-Cola, and John Doe is a friend of Evangelos Simoudis and reads his blog, which he publishes through a particular URL).  This is a more recent form of social analytics and it is being made possible by the API-based accessibility of the various social graphs, such as Facebook’s Open Graph.  Graph analytics are being used to identify a brand’s advocates and establish which of these advocates are real influencers.  For example, one way of using the Open Graph to establish whether a fan is a brand’s advocate, is by determining if the fan is publishing sponsored stories about the brand.  By subsequently analyzing how these stories propagate along the social graph of each social channel (e.g., a sponsored story published in Facebook may be re-tweeted, thus moving from one social channel, and one social graph, to another) among the advocate’s social sphere, and the social sphere of each of his friends, a brand can determine which of these advocates are influencers.  Finally, by analyzing the characteristics of these influencers (e.g., determine each influencer’s lifetime value), marketers can treat them differently than other advocates and fans.  For example, the brand may decide to extend them special discounts to buy a product or service.  Three of my own portfolio companies (Extole, 8thbridge and ThisMoment) have developed extensive social graph analytics that are now being used by their customers.  Extole and 8thbridge analyze Facebook’s Open Graph, whereas ThisMoment analyzes Google’s social graph.  A very good example of Extole social graph analytics can be found here.  According to eConsultancy research, 88% of surveyed companies indicated that social graph personalization, which is the result of social graph analytics, generates results.

Conclusions

1. As the use of social tools expands in a variety of business processes, there is increasing need to analyze the generated big data to extract insights and drive the right action(s), which improve the performance of each such process.
2. Social data is the key ingredient in social analytics, but often it must be combined with other data to produce the necessary high-quality results, very much like in any other area where analytics is being used.
3. Though it is considered the most widely used form of social analytics, sentiment analysis is not the only type of analysis to be applied to social data.  Attribution analysis and graph analysis are important forms of social analytics.
4. Marketing departments in general and the CMO in particular have been early adopters of social analytics.  By using social analytics they are starting to demonstrate the benefit and associated ROI of applying social media, technologies and applications to a diverse set of tasks, including advertising effectiveness, and brand engagement.

A Comparison between Pacific Crest’s 2011 and 2012 SaaS Survey Results

Two weeks ago Pacific Crest held its annual technology conference in Colorado.  David Spitz and Brendan Barnicle ran their annual SaaS workshop where I was invited to participate.  The workshop opened with Brendan’s presentation on the results of the CIO survey the bank conducts and continued with David’s presentation on the SaaS company survey.

The CIO survey held a few surprises.  On the positive side, it appears that 2012 IT budgets are holding up and they will show 3.6% increase for the year (smaller than the 5%+ that was being predicted earlier in the year but still a respectable growth and an indication that corporations recognize that they must continue investing in IT).  Applications are starting to be viewed as strategic assets.  In the past CIOs viewed their IT infrastructure as a corporate strategic asset.  As Brendan indicated, in the past corporations used to build their IT infrastructure first and then license or build applications around that infrastructure.  Now, they first select the applications and then build the infrastructure around them.  This is a big shift that could only be enabled through SaaS applications.

CRM and marketing applications dominate the list of solutions CIOs plan to acquire during the remaining of the year, underlying once again the increasing importance of the CMO in setting the IT agenda.  Social media and email marketing applications have decreased in importance (the last survey was conducted in February 2012).  I think that the reason for the decreasing priority of the social applications is because corporations are not able yet to clearly establish the ROI associated with the use of such applications for their marketing and sales efforts.  39% of the CIOs in the survey reported slight price increases (<5%) in the SaaS applications they license.  These are still relatively small numbers to get really excited about but at the very least the results point to price stability for SaaS applications.  Finally, Brendan reported on SaaS investor sentiment.  His survey confirmed that SaaS investors are paying for top line growth, rather than profitability and they expect SaaS IPO candidates to have the following characteristics:

1. Financial visibility which the pure SaaS model offers consistently.
2. Consistent growth.  Interestingly investors are willing to contend with slower growth and no surprises, as opposed to high growth that cannot be sustained QoQ.
3. Applications with broad functionality that enables them over time to be transformed to platforms.  Markets don’t appear to differentiate between horizontal and vertical SaaS applications as long as the platform opportunity exists.
4. Well-defined Total Addressable Market.  Oftentimes, just the North American market is sufficient to excite investors.
5. Competitive advantage either in markets that are dominated today by large IT vendors with dated applications, or in markets where every other competitor is a much smaller SaaS vendor.

Rather than reviewing the 2012 SaaS survey results as I’ve done in the past, I will compare the 2012 results with those of the 2011 survey.  This year the survey included more companies (70 in 2011 vs 83 in 2012).  The employee count, customer count, and revenue median numbers of the surveyed companies were higher, but the ACV median was lower.

1. More of the surveyed companies are growing by 30-40%, lower than what they had projected in the 2011 survey. Companies are also projecting a lower median growth rate for the entire 2012 than in 2011.
2. Contract sizes are getting larger with 45% of the surveyed companies reporting median contract size of $250K-1M, almost 3x of what was reported last year.
3. More companies are using internet and channel sales as part of their sales strategy and the ones that are doing so are growing faster than the SaaS companies that are using field sales.  In fact, of the slower growing companies, 71% are targeting the enterprise, whereas 52% of the faster growing companies are targeting the enterprise.  This was a surprise to me based on what I’m seeing from our SaaS portfolio companies.  However, of the companies that target larger contracts ($100K and above), this year they all indicated that they are using field sales exclusively compared to last year during which some were using inside sales as well.  For the very large contracts (over $1M) the ratio of field and channel sales (50/50) remained unchanged.  Finally, for the smaller contracts (<$25K) companies are now using all four go to market modes (field, inside, internet and channel) where last year they had reported as using primarily inside and internet.
4. The distribution on CAC remained the same with companies spending anywhere from $0.5-3 for $1 of ACV.  However, the results were more statistically significant this year.  However, this year the cost to upsell to existing customers went down ($0.18 vs $0.28 in 2011) as did the cost to renew ($0.09 vs $0.16 in 2011).  The CAC associated with field sales went down ($0.83 vs $1 in 2011) which I think is a function of the longer contracts that companies are able to sign through the use of field sales teams.  The CAC associated with internet sales is the highest and has more than doubled from last year (median of $1.06 vs $0.45 in 2011).  Finally, the percent of ACV associated with upsells is lower in 2012 than it was in 2011.  This could be because more of the companies surveyed in 2012 are younger and are not as far along in their implementations with newly-signed customers to have the opportunity to upsell them, since of the companies that reported over $60M in annual revenue 40% of license revenue comes from upsells (2x the number reported in 2011 for the same segment).
5. Professional services are becoming a drag to gross margins.  The median gross margin associated with professional services was 22% whereas last year it was 47%.  Again, this could be a function of the companies being surveyed, as younger companies have less sophisticated services organizations and models.
6. Freemium and Try Before you Buy models are having a bigger impact this year.  21% of the companies expect up to 10% of their ACV to come from freemium strategies (almost 2x higher than 2011) and 18% of the companies expect over 50% of their ACV to come from Try Before you Buy models (also 2x the 2011 number).
7. Gross margins expectations at scale remained the same (71%) but the growth expected annual growth rate for the company came down (40% vs 45% in 2011).
8. Annual contract size was significantly lower in 2012 (median of $24K in 2012 vs $38K in 2011).
9. Contract length is coming down with fewer companies reporting longer contracts (still about 50% of the companies are signing 1-2 year contracts) but the number of companies signing less than year-long contracts has tripled (9% in 2012 vs 3.4% in 2011).  On the positive side, the number of companies paying 1-2 years upfront has gone up (6.3% in 2012 vs 1.8% in 2011) but these are still small numbers.  As one would expect the multi-year contracts tend to be $100K+, similar to what it was in 2011.  Finally, more companies are pricing their contracts based on the number of the customer’s employees (9.7% in 2012 vs 1.7% in 2011) with per seat and per transaction remaining the dominant pricing metrics.
10. Overall churn numbers remained the same YoY with most improvement, i.e., lower churn, in the $1-5K contract size category and higher churn associated with sales through the internet, and lower (as expected) through field sales.
11. Interestingly, more companies (16 vs 10 in 2011) reported that they raised $25-50M to get to $35M in 2011 GAAP revenue, another indication that VCs are eager to fund SaaS companies that are reaching “escape velocity.”

This was another great workshop.  The SaaS company survey provided additional validation of the trends we are seeing in our own SaaS portfolio.  My thanks to the Pacific Crest team for all the work they did to conduct these surveys and bring us together to have a meaningful conversation around the results.

Celebrating my 100th post today.  Thank you all

2Q12 Performance for Trident Capital’s SaaS Portfolio; the Importance of Accurate Metrics Prediction

In recent weeks Lazard Capital Markets, Piper Jaffray, Morgan Stanley and Pacific Crest issued the results of their most recent CIO surveys.  The results point to decreasing IT spending during 2H12, mostly because of the worsening global macroeconomic environment.  This is a reversal from survey results we had seen during 1Q12 when most CIOs felt optimistic about the US economy and were increasing their spending.  Despite the deteriorating sentiment, all four surveys indicate that the budgets for cloud computing projects in general and SaaS applications in particular are expected to remain untouched, and may even increase, as corporations continue to use cloud computing for improving business efficiency and reducing costs.  In fact, as our larger SaaS portfolio companies have been seeing since 1Q12, European economic environment is causing many local companies to accelerate SaaS adoption as they look for ways to cut costs.  With this backdrop during 2Q12 our SaaS portfolio companies did well but not as well as some of the management teams had predicted, with 30% of the companies missing their quarterly bookings target. 

In a recent webinar on SaaS metrics I had spoken about the characteristics of breakout SaaS companies.  At Trident we manage our SaaS portfolio to these metrics.  Last quarter even some of our breakout SaaS companies were not able to accurately predict their bookings performance as several “sure thing” deals slipped by 1-2 quarters.  Therefore, while in general we continue to see 20-30% QoQ revenue growth, low churn, etc. in these companies, the volatility and uncertainty of the economic environment appear to challenge their management teams in accurately predicting quarterly performance; a hallmark of the SaaS model.  It is interesting to note that our adtech companies, many of which license their SaaS applications but which I don’t include in the set of companies I report about, significantly exceeded their 2Q12 bookings targets, again though pointing to the management’s inability to correctly predict corporate performance in this volatile environment.

The public SaaS companies we monitor, e.g., Netsuite, Brightcove, SPS Commerce, ServiceNow, Demandware, Jive, CornerstoneOnDemand among others, have been reporting good to strong performance during 2Q12, in-line with analyst expectations.  However, they also appear to be impacted by the global macro environment as they are now more hesitant to provide future quarter guidance, feeling unable to predict 2H12 performance. 

In addition to SAP’s acquisition of Ariba, and Microsoft’s acquisition of Yammer, the quarter’s blockbusters, 2Q was dominated by SaaS acquisitions aimed at winning the heart of the CMO (and here) as Oracle acquired Vitrue and Involver, Salesforce acquired Buddy Media, and Marketo acquired Crowdfactory.  (Google’s acquisition of Wildfire was technically announced in 3Q12).  Pacific Crest reported that CRM and marketing SaaS applications remain top corporate priorities.  Despite of what happens to the IPO window we expect that the pace of consolidation in the SaaS sector will continue unabated, particularly as large IT vendors buy their way into cloud computing.

Positive aspects of our SaaS portfolio’s performance:

1. Strong license revenue growth (20-30% QoQ) even while missing the bookings targets.
2. Steady license pricing (flat to last quarter), which we liked given the quarter’s and the economy’s characteristics.
3. Steady renewal rates at 85-95%, indicating a continued ROI for the SaaS applications being used.
4. Growing sales pipelines, particularly with prospects from the mid-upper enterprise segment our SaaS portfolio companies are targeting.  However, in light of the 2Q12 performance, we realize that the quality of the opportunities needs to be further scrutinized and have urged our CEOs to conduct more frequent pipeline reviews.
5. CIOs are interested in replacing internally developed applications with off-the-shelf SaaS equivalents, thus creating additional demand.
6. Analytics-driven applications, social applications (internally-focused and externally-focused), and mobile applications with vertical focus continue to be in high demand, same in last quarter.

Negative aspects of our SaaS portfolio’s performance:

1. Monthly sales performance fell behind and was more similar to the performance I had reported in past quarters, with many deals being decided at the end of the quarter, and, as I stated above, several slipping to future quarters. 
2. Upsell rates were down to 15-20%.  Discounting went up to 10% per year of subscription up from 6-7% during 1Q12.  We continue to target 4-5% per year as best in class discounting.
3. While SIs are becoming more active with SaaS applications, as enterprise customers are asking for additional professional services as they are being onboarded, the partner channel is still not contributing meaningfully to the SaaS companies’ revenue.  Field sales remains the most effective, albeit most expensive, channel.
4. Margins are not expanding as had been predicted earlier in the year.  Part of that is due to the market conditions but, most importantly, it is due to the fact that SaaS companies continue to invest heavily for growth.  However, the markets appear to be rewarding SaaS companies that demonstrate consistent top line growth, operate in large markets and have the leadership position in the presence of fragmented and weak competition, particularly if this competition is coming from larger, and slower moving, IT vendors.

Accurately predicting a company’s quarterly performance along the metrics that characterize breakout SaaS companies is an important characteristic of seasoned management teams.  It is a characteristic that public investors look for and reward, particularly during this period of extreme economic volatility.  While we are pleased with the general performance of our SaaS companies, even with the performance of the companies that missed their quarterly bookings targets, we are asking our management teams to be more thoughtful and analytical, balancing their ability to accurately predict future performance with their ability to keep their companies in breakout territory since we don’t expect the seesaw performance of 1H12 will not change during the 2H.

Customer Centricity Requires CMOs to Drive Data and Channel Integration

In a post last March I wrote about how Chief Marketing Officers (CMOs) are starting to drive the corporate application agenda.  I had concluded that as corporations become more customer-centric, they are looking for, or starting to use, a new generation of data-driven applications to help them extract insights about their customer behaviors so that they can improve their interactions with customers and prospects regardless of the communication channel. Technologies such as big data (an interesting post here about the role of big data in next-generation marketing), mobile, social and cloud are at the core of these new applications that are being aggressively embraced by CMOs.

Since I wrote that post I continued to spend time with CMOs trying to better understand their multi-channel marketing challenges, as well as analyze how they are using relevant solutions from portfolio companies such as Extole, Exelate, 8thbridge, Pivotlink, ThisMoment, and Turn.  I saw two encouraging trends: First, a few of the companies I consider marketing thought-leaders are already starting to think in terms of multi-channel marketing and are licensing software solutions that will enable to realize their customer-centricity goals.  Interestingly, these companies are not looking for their ad agencies to provide them with these technologically complex solutions, realizing the limitations of these agencies but also because they consider such integrated multi-channel marketing solutions to be a unique competitive advantage.  In addition to many private companies, IBM has been one of the vendors that realized this shift and is now trying to capitalize on it.  The Wall Street Journal recently wrote an article regarding how IBM is approaching marketing executives with new technology solutions to address their needs. In that article Travelocity's founder and former CEO Terry Jones was quoted as saying that many companies target customers through individual channels such as TV, radio, online and mobile technology rather than a unified approach.  CMOs are all trying to figure this out.  Second, several other companies are starting to aggressively align their relevant departments and plan for introducing such solutions into their organizations.  These companies realize that:

1. In order to become customer-centric and deliver a consistent message to each individual regardless of the communication channel, companies must first integrate all their customer- and prospect-related data.  Up to now, organizations would silo the various types of customer-related data.  Offline customer data (store data , catalog data, TV panel data) was kept separately than online data (email, data collected through a brand’s web site).  Data from mobile interactions was kept separately from that of desktop interactions.  Data regarding earned media interactions, e.g., social interactions, was kept separate from paid media interactions, i.e., data related to online advertising, or even TV advertising.  Online data is measurable.  Marketers first saw the advantages of this measurability through their online desktop advertising efforts. Because of this measurability they saw that the ROI from online advertising is superior to that of TV advertising, as an example.  This is why search advertising and display advertising budgets have been exploding over the past 3 years.  Now marketers want to extend the measurability found in online advertising to other types of communication channels, e.g., social, and the way to do so is by better utilizing the data they collect.  As Altimeter also points out, there is a great incentive for integrating all the data types that are collected from these channels and media.
2. Delivery of the right message through the right channel not only necessitates data integration but also requires the integration of the right “back office” systems with the appropriate “front office” applications; the systems of record, e.g., the corporate CRM system, with the applications of engagement, e.g., the brand’s Facebook page.  To achieve this goal, CMOs must ultimately partner and collaborate with their CIOs.  While several marketing organizations have been hiring their own IT resources, they are starting to realize that it is not to their benefit to recreate what IT organizations have already build, and it will take too long; and time is not on their side.  The Wall Street Journal article cites the case of Motorola Solutions, whose CMO created a dedicated technology team that works with the unit’s CIO.

Companies that don’t start planning on how to become customer-centric and how achieve this goal by integrating their all their customer-related data and systems in order to provide a consistent and unified message across all their interaction channels will find themselves at a considerable disadvantage over the next 5 or so years.

Analyzing Pacific Crest’s SaaS Survey Results

A few weeks ago I delivered a webinar on SaaS metrics, paying particular attention on the metrics that characterize breakout SaaS companies, and have continued to comment on the quarterly performance of Trident Capital’s SaaS portfolio, most recently here.  In the webinar I had stated that breakout SaaS companies:

1. Focus on the right prospects and customers.  Such companies also know how to transform each of their customers to a right customer by focusing on Customer Lifetime Value (CLV).
2. Focus on the right revenue type (ARR, MRR), contact length and payment terms.
3. Focus on the right costs and their impact on ARR (acquisition, servicing/retention, renewal/upgrade).
4. Understand the impact of ARR churn (rather than customer count) to their business model.
5. Identify other necessary operating expenses (R&D, platform, contract admin) and their impact on ARR and profit margins.
6. Determine the necessary investment to reach profitability under the business model they use.
7. Understand when to go for market share and when to go for profitability.

A few weeks ago Pacific Crest published the results of their most recent survey of SaaS companies.  I thought it would be appropriate to comment on the survey results as they provide broader quantitative support to many of the conclusions I had been reaching by looking solely at our portfolio companies.  Pacific Crest surveyed 70 SaaS companies whereas our portfolio includes 12 such companies.

1. Higher-growth companies control better their Customer Acquisition Cost (CAC). For such companies CAC is much smaller than the Customer Upsell Cost and Customer Renewal Cost.
2. Handling renewals and upsells over the internet and making such processes extremely easy for the customer is particularly important for keeping the associated costs down.  Renewals are still more important today for SaaS companies than upsells which, according to the survey, represent only 15% of ACV.
3. Field is becoming a more important sales channel particularly for companies whose solutions command higher ACV ($25-100K+).  Associated with this result is that the enterprise is becoming a more important segment for SaaS companies as many of the surveyed companies stated.
4. Professional services account for only 15% of the surveyed companies’ ACV implying that there is still room to grow.  As investors we could accept SaaS companies having up to 25% or so of their ACV coming from professional services.
5. Companies with higher growth rates spend more on sales and marketing.  The media gross margin in the surveyed companies was 71% against Pacific Crest’s model margin of 75%, implying that the surveyed companies are moving in the right direction.
6. The term of contracts is getting longer.  Most customers, particularly enterprises, are signing at least 1-2 year contracts and are willing to pay upfront for the first year of service.  This obviously impacts positively a SaaS company’s cash flow.
7. Over 85% of contracts that are coming up for renewal actually renew implying strong customer satisfaction with the SaaS solutions.
8. ACV churn is a better measure than customer count churn.  The companies that were surveyed showed only a 5% ACV churn. Also, as I’ve also been saying, the survey showed that customers signing short-term contracts are more likely to churn than customers that sign longer-term contracts during which they have the ability to truly evaluate the service and have significant ROI.   Also, companies that use primarily field sales experience lower churn, most likely because these companies sign longer-term contracts with their customers.
9. SaaS companies remain rather capital inefficient, very likely because of the increasing use of field sales, working with enterprise customers that typically implies longer sales cycles, and increased marketing costs which are again necessary as each company is trying to differentiate itself from its competition.

Impressions and Thoughts from a Visit to Greece and Spain

Much has been written about Greece’s repeat elections taking place today, the country’s ongoing financial problems and potential exit from the Euro, as well as the worsening European economies (last week Spain asked for bailout money, Cyprus is next in line to ask, and many believe that Italy will follow).  I recently spent a few days in Greece and Spain.  During these visits I sought to interact with as many people as I could, including friends and family, in an attempt to understand the impact of the economic crisis on the peoples’ everyday lives.  I try to visit Greece every year, but it had been a little over 3 years since I last visited Spain.

In Greece I saw a dramatic deterioration of the conditions I encountered just 12 months ago, and not sign that the situation will improve any time soon.  The impact of the recession (now in its fourth year) and of the high unemployment have become amply evident.  In Spain I heard more open discussion about the high unemployment.  Everybody I spoke to appears to know somebody who is unemployed.

As I was walking around city streets in both countries I was struck by the high number of closed shops, even on major, high-traffic thoroughfares.  Some stores appear to have been abandoned with their merchandize still inside; many of the stores were defaced with graffiti and advertising posters or even boarded up.  The magnitude of the problem is particularly evident at night when city streets that were brightly lit from the lights of display windows are now dimly lit by street lights.  Many streets have become uninviting resulting in reduced foot traffic even for the stores that remain open. 

Very much like we experienced in the US during the 2009 recession, the impact of the economic crisis in Greece and Spain is particularly evident on the small businesses.  They are closing at an alarming rate.  Stores that have been passed from generation to generation are closing for good and with them certain professions may be lost forever.  In Greece I saw “going out of business” signs in old stores that sell spices, worry beads, folk clothing.  In Spain I saw similar signs in businesses that sell handcrafted lace, hand fans, religious holiday clothing, and specialized threads to be used in things like tassels.  The owners of these stores are not simple retailers.  In many cases they are also the artisans that made the items they sold.  In other cases they were the “fronts” and had the relations with networks of artisans that created the merchandize being sold.  These relations were passed from generation to generation.  Even after the economy improves, these types of stores and the associated professions will likely not come back. 

Commerce in general is at a standstill.  Though open, many companies are not transacting because people are mostly worried about addressing their basic needs.  But despite the lack of commerce activity, I found the prices in both countries to remain stubbornly high, even if without the VAT, which in Greece is an eye-popping 23%.  Commerce may improve in Greece if a stable government emerges out of today’s elections (doubtful), and in Spain after the public understands the terms of the bank bailout being discussed.

I saw fewer people going out at night.  Both Greece and Spain are notorious for their nightlife with restaurants starting to fill out around 10:00pm for dinner. Not this year.  The locals I spoke to told me that over the last year they have significantly curtailed going out, and when they do, they frequent less expensive places; coffee shops rather than restaurants, taverns serving cheaper meals rather than full-service restaurants, movies rather than theaters or music halls.

In both countries people appear to be permanently tense, a complete change to their traditional attitude which was optimistic and was expressed with warm smiles even to strangers.  You can now see the tension in their faces, and you can hear it in their voices.  They worry about how the new economic reality will impact the “social contract” they have had with the state since after the last world war in areas such as health care, retirement income, etc..  They worry about the solvency of the banks where they have kept their savings and they are desperately trying to find ways to move money to countries with stronger banking systems, which explains the recent flight of deposits from Greek and Spanish banks.  While they may not be able to fully understand the notion of a country in default, they are starting to understand the potential ramifications of such an event to their lives, e.g., impact on energy imports (will I be able to heat my house?), medicine imports (will I be able to find the medication I need?), food imports (will I be able to buy the items I need to cook a meal?), etc.

Almost everybody I met with (Greeks and Spaniards) wanted to know how Americans expect the situation will play out in Europe and what will be the outcome.  I didn’t understand why they believe that.  Maybe because they feel that we get better information than they about their economic problems.  Or maybe because they believe Americans can see a more optimistic outcome to the crisis.  I could also tell that many people continue to view the economic crisis as a “bad dream” that will soon end, rather than a new reality with which they have to live for many years, even decades.

People are ready for leaders that will effectively address the problems they are facing.  They have lost faith in and confidence that their current political leaders will be able to do so effectively.  Greece’s political stalemate is a reflection of that realization, and the new governments of France, Spain, and Italy are further manifestations of this notion.

The middle and upper-middle classes are disappearing in both Greece and Spain.  There are more signs that poverty is increasing (the reappearance of soup kitchens in Greece, more people in both countries buying foodstuff from farmers markets and less from supermarkets, more people buying on credit from merchants they know; they don’t have cash to pay and their credit cards are maxed out).  This is particularly evident in the smaller cities as well as the suburbs of large cities.

The thought of moving to another country where they believe there are better economic opportunities, even if they have to suffer in the short term, is starting to become serious.  Greece has not experienced a significant emigration wave since the 60s (when many people left the country to work in Germany, Netherlands, and even Scandinavia).  An emigration wave to the US (the third and smallest of the 20^th century) occurred during the 70s when several Greek professionals and academics came to this country.  Friends who just a few years ago thought that I was short-sighted for having moved to the US in the 70s (because the Greek economy appeared to be doing so well during the 90s and up to the Athens Olympics of 2004) are now asking me how they can immigrate to this country themselves.  I spoke with parents of grade school- and high school-aged children who are now openly asking about ways to send them abroad, as they worry about their future should they remain in Greece.  And if they don’t see any opportunities to emigrate abroad, people in both Greece and Spain are starting to seriously contemplate moving out of the large urban centers and back to the smaller cities and villages where their families came from.

In Greece, while some people are starting to talk about the need to “rebuild” the country on a more solid, particularly economic, foundation, it is not clear how much they will need to take apart before they can start building again.  Will they need start thinking about how Greece was in the 60’s when the middle class was just being formed, the 70’s after Greece emerged from 7 years of dictatorship or the 80’s after it was admitted to the European Union.  These are not easy decisions and may imply a painful process for at least one generation, something which the public is not ready to contemplate yet.  Of course, even if they are willing to take things apart in order to rebuild, they will need to take into account the interconnectedness of today’s world and economies rather than the stand-alone conditions under which Greece developed after the Second World War and its Civil War.

I came back humbled by what I saw, worried both about the future of family and friends I have in both countries and contemplative about whether this country will be able to avoid facing the situation that Europe now deals with daily and will be dealing with for years to come.

1Q12 was an In-Line Quarter for Trident Capital’s SaaS Portfolio

Before I comment on the 1Q12 performance of our SaaS portfolio I wanted to mention that this week Sand Hill will publish an updated and expanded blog I wrote on Insight as a Service.  Next week (5/15), in collaboration with Zuora, I will be delivering a webinar on SaaS metrics.  This is an interim report of my ongoing work to identify the characteristics breakout SaaS companies.  Please email me your recommendations on important metrics that can predict, or simply characterize, breakout SaaS companies.  Alternatively, you can post them on Twitter to @esimoudis #breakoutSaaSmetrics.

After a good finish to 4Q11, IT companies expected a relative modest performance during 1Q12.  I think that, by and large, they got it.  As a result, during 1Q12 public and private SaaS companies had a good quarter, in-line with their expectations.  The mid-upper enterprise segment that is being targeted by many of our SaaS portfolio companies continues to embrace cloud computing.  Companies in this segment are becoming more optimistic about the US economy’s prospects and continue to update and upgrade their front-office and back-office systems.  As a result, our SaaS portfolio companies did well during 1Q12 with 90% of them achieving their revenue, booking, and MRR (compared to 85% during 4Q11).

The public SaaS companies we monitor also demonstrated solid performance.  Companies such as Comscore, Realpage, Concur, Kenexa and Salesforce reported strong results, and some even beat the market’s expectations.  Next week Jive will report for the first time since going public.  This will be a good indication not only of the market’s increasing appetite for new SaaS issues, but also of the demand for social SaaS enterprise software.  Oracle’s acquisition of Taleo during the quarter was the only noteworthy transaction.  However, just based on the inbound inquiries our own SaaS portfolio companies are receiving from large IT vendors, we expect that the pace of consolidation in the SaaS sector to increase with large companies buying large and smaller SaaS vendors.

Positive conclusions from our SaaS portfolio’s performance:

1. Sales pipelines continue to grow nicely, particularly with prospects from the mid-upper enterprise segment our SaaS portfolio companies are targeting.  More importantly, the leads are coming from a variety of industries indicating the accelerating broad acceptance of SaaS applications, and cloud-computing in general.  The QoQ bookings and revenue growth for the SaaS companies continues to surpass that of the on-premise software portfolio companies. 
2. Better monthly sales performance than I had reported in past quarters.  More of our portfolio companies were able to make their monthly sales targets during 1Q12 than during 3Q11 and 4Q11.
3. Four of our larger SaaS companies are seeing accelerating demand for their applications from European and Asian customers.
4. The channel is finally starting to perform as System Integrators (SIs are now starting to regularly bring new opportunities.  Our portfolio ended the quarter with an average of 10% of sales coming from the channel.  We are guiding them to move this to 30% over the next 18 months as we see the opportunity not only existing but growing.
5. Business unit executives continue to drive the decision process even though, as I had reported in the past, the CIOs are regularly inserting themselves in the sales cycles, particularly in the mid-upper enterprise segment.
6. Renewal rates remained steady at 85-95%.  Upsell rates were at 30-45%.  Large enterprise clients that signed during 3Q11 and 4Q11 are quickly returning with upsell opportunities both for new functionality as well as for introducing SaaS applications to additional divisions within their corporations.  This was continued indication of the value and continuous ROI that customers are finding through the use of SaaS applications.
7. Our portfolio companies have continued to increase annual license pricing with no apparent drop in sales conversion, an indication that particularly the mid-upper enterprise companies being targeted find significant value in SaaS applications.  In most cases these companies are replacing on-premise applications with their SaaS equivalent.
8. Discounting has improved and during the quarter we saw 6-7% discount per year of subscription down from 8-9% in past quarters.  We also saw more customers signing multi-year contracts than ever before and paying at least the first year upfront.  We are targeting 4-5% per year as best in class discounting.
9. Analytics-driven applications, social applications, and mobile applications with vertical focus continue to be in high demand, same in last quarter.  However, since most of our
   SaaS companies address these 3 segments we should note that we would be worried if there was no strong demand for such applications.

The characteristics my partners and I didn’t like from the quarterly performance of our SaaS companies include:

1. Higher than expected churn by SMB clients (15-20% in some instances).  For us this is an indicating of the continued softness in the economy which particularly impacts the smaller companies. 
2. Margins didn’t improve in some of our companies in the way we anticipated, reflecting higher than expected customer onboarding costs, as well as higher than expected sales costs for upselling and renewals, despite the demand.
3. Similar to what I had reported for 4Q11 performance, hiring continues to be difficult because the SaaS companies have a high demand for the same type of people as Internet companies: engineers, sales people, product managers, services people, and data analysts. 

Last time I had indicated that I was expecting a more muted 2012 with flat IT-related budgets.  Surveys conducted by investment banks during last March and April, as well as checks performed by our own portfolio companies lead us to believe that IT budgets are actually increasing during 2012 by an additional 1%, putting them now at around 4-5% above the 2011 budgets.  The increases are allocated towards SaaS/cloud, social, mobile and big data initiatives, which is great news for our SaaS portfolio companies.  It is also leading us to continue aggressively investing in these sectors.  Finally, I expect that we will start seeing increasing acquisitions in these areas, as larger IT vendors come to realize the impact that social, mobile, big data and, of course, cloud and SaaS have on the enterprise.

Related articles

• Notes from SaaS Growth and the Cost of Capital (davidcummings.org)

When 100% Growth Is Not Enough for Startups

A couple of weeks ago I passed on the opportunity to invest in a SaaS application company that has been growing around 100% YoY for the past couple of years and can now be considered a solid expansion story. While the company’s overall story was good, it was not great.  As I have been talking about some of my colleagues in other firms I heard similar stories from them about passing on companies that were good but by today’s standards were not considered great.  So I started thinking why our standards are changing and where are these changes leading us.  Top technology venture firms like Trident Capital which are investing on B2B business models in areas such as cloud computing, mobility, social/local/mobile (also known as SoLoMo), ecommerce and big data are looking for breakout companies.  In fact, this is a term you hear more and more often in the Valley these days.  A company may be growing by 100% YoY and may still not be considered breakout.

In my opinion “breakout companies” have the following characteristics:

1. Leadership position in their market (this means that they are number 1, 2 or 3 but not lower).  For example, there are approximately 45 companies providing solutions for Facebook page management.  Buddy Media and Vitrue are the top two competitors in this category.  Top venture investors competed hard for the opportunity to invest in either of these companies.  Today we routinely receive business from lower-ranked competitors that are raising a round of capital and we always pass on the opportunity to invest.
2. Work in markets that are either already large and are growing consistently at 8%+ annually, or are projected to become large and is growing at over 25% annually.  For example, Corporate Performance Management is a $7B/year market that has been growing at 8%/year for the past several years and its growth is projected to remain at least at this level.  The Facebook page management market is growing at 40-50% YoY.
3. Grow much faster than the market and typically over 100% YoY even when its revenue becomes large, i.e., while growing a business is always hard, it is nonetheless typically easier to grow the revenue from $2M to $4M to $8M but much harder to sustain such growth when the revenues reach $30M to $60M or $120M.  Host Analytics, one of my portfolio companies, that provides the leading SaaS analytic application for Corporate Performance Management has been growing at 100% YoY and its revenue is now such that for it to be considered a breakout company.
4. Points of leverage which can be utilized to sustain, and even accelerate, the growth rate in a capital-efficient manner.  Even though venture capital is flowing rather freely again in specific sectors, investors still want to work with companies that demonstrate decreasing churn, decreasing cost of new sales, increase the lifetime value of their existing customers, and maintain their growth rate by combining direct sales with channel partners.
5. Strong management teams with members who have worked with successful startups before.

Investors are competing fiercely for the opportunity to invest in breakout companies.  They often approach such companies before they need to raise money and pre-emptively offer term sheets with high valuations and other entrepreneur-friendly terms. We typically see 4-5 investors, competing for the same opportunity.  And most of the times, this group of 4-5 are drawn from the same collection of 30-40 venture firms.  Because of the valuations offered, the size of each investment is also very large as the investors want a meaningful piece of each such company.  For example, breakout companies like Yammer, Klout, Lithium, Marketo, and Brightroll have recently raised large pre-emptive rounds.

Investors prefer to invest in breakout companies for the following reasons:

1. There exist too many early-stage companies in each subsector because of a) an abundance of risk capital from angels, superangels, etc., and b) low technological barriers to enter many of these sectors.  Under these conditions, VCs prefer to let the market identify each sector’s leaders, i.e., the breakout companies.
2. Exits, either through IPO or M&A, appear to reward the breakout companies.   In a recent study he conducted, Morgan Stanley’s Adam Holt observed that IBM, one of the most active IT acquirers over the past 10 years, buys only category leaders.  This is an acquisition approach that several other large IT corporations also use.  Moreover, as the number of potential acquires has shrunk, venture investors realize only so many acquisitions can take place in each subsector.  Therefore, unless an investor believes that a private company has IPO potential, the investor would want to invest in a company that will likely be an acquisition target, leading us again back to the breakout companies.
3. Early stage risk is not being adequately rewarded.  Over the past 10 years VCs have come to realize that by and large they are not being rewarded for taking early stage risk, as startups take longer to mature and require more capital than many early investors had anticipated.  The proceeds from the exits of early stage companies don’t provide sufficient returns for the funds these VCs have raised.  For example, having a 2x return on a company where a venture investor invested $5M out of the $300M fund is not “moving the fund’s needle.”

Related articles

• Things To Consider Before Saying "I Do" To Investors (techcrunch.com)
• How To Find The Right Investors and When (grasshopper.com)

CMOs are Starting to Drive the Next-Gen Application Agenda

A couple of weeks ago my partners and I hosted a meeting of our SaaS advisory board.  This is one of our firm’s four advisory boards.  I had written about the role of these boards and the value our firm and portfolio companies derive from our advisors’ insights, feedback and help.  Our SaaS advisory board includes executives from SaaS application vendors, CIOs and CTOs of companies that are heavy users of SaaS applications, and leading SaaS consultants.  One of the most interesting insights that came out of our meeting was that the Chief Marketing Officers (CMOs) are starting to drive the corporate application agenda.  This is consistent with Laura McLellan’s position who in a recent Gartner webinar stated that by 2017 the CMO will spend more on IT than the CIO, as well as the conclusions presented here. 

There are several reasons for the CMO’s emerging power:

1. The accelerating move from offline to online for commerce, entertainment, and socialization.  The web with its various personas (desktop, social, mobile, local) is enabling corporations to finally become truly customer-centric, i.e., to understand the problems customers face and provide mutually advantageous solutions.
2. The big data that is collected from the various online and offline interactions between a consumer and a brand can now be utilized effectively through a new generation of analytic solutions that enable corporations to better target existing customers and prospects with the right message, at the right time through the right channel, as well as to assess the effectiveness of each message based on the resulting actions.
3. Through the consumerization of the enterprise we are seeing a new generation of easier to “consume” applications that don’t resemble the monoliths of the past but instead take their cues from mobile applications, i.e., task-specific pieces of functionality that are easy to install, learn and use effectively.
4. The cloud that is making acquisition and deployment of these next-generation applications easier and faster.
5. The new generation of marketing personnel, including CMOs, that is more analytical, data-driven and technology-savvy.

Today we are seeing marketing departments acquiring applications to address online advertising for brand development and direct response commerce, social and mobile marketing and commerce, and analytics.  Having anticipated this trend, over the past several years Trident Capital has been investing in such applications and today our relevant portfolio includes the online advertising technology companies Turn, Exelate, Jiwire, Brightroll, Sojern, the social marketing and commerce applications Extole and 8thbridge, and the retail analytic applications company Pivotlink.

Though the opportunities may appear brilliant, based on our experiences with these portfolio companies we have learned that working with the marketing organization also presents several challenges:

1. There is little tolerance for long application-implementation periods, inappropriately functioning software and need for specialized personnel to operate these applications.  Marketing departments want to see results quickly and, under today’s typical corporate budget environments, they don’t want to have to hire new people just so that they can use a new application.
2. Short period during which to demonstrate meaningful ROI.  Marketing departments may be willing to evaluate several different applications but they will ultimately commit to the ones that give them quick time to value with sustainable and growing ROI.
3. Data is not always well organized and structured.  This is area where most frequently application vendors see a big difference between working with the marketing and the IT departments.  For marketing departments managing data and maintaining its quality are new tasks.  This task becomes harder as the volume, velocity, complexity, and structure of customer data are increasing.  Marketing application vendors must be prepared to help by providing appropriate services in this area and thus ensuring that the application’s time to value will be short.
4. Skills for data analysis for insight-generation are lacking.  While marketing departments are becoming awash in data, they often don’t have the people who can effectively analyze this data.  Again, the marketing application vendors need to step and fill the void by offering their own data analytics and insight generation services.
5. Shorter initial licensing contracts and smaller marketing campaigns.  As they try to understand the value of the myriad of applications offered to them in order to implement their customer-centric strategies, marketing departments feel that they must first “get their feet wet.“  In most cases this approach results in application licensing contracts that initially are short-term (1-3 months), or in smaller-dollar (typically $10-50K) marketing campaigns.
6. Need sales people who can first speak the marketer’s language rather than IT’s language.  Over the past 30 years we have trained a cadre of application sales people who are expert at interacting with IT organizations, speaking IT’s language.  This was necessary because front- and back-office enterprise applications, regardless of who was using them, were mostly purchased by the IT organization.  If the next generation of marketing application companies is to be successful, they will need to hire sales people who can interact with marketing executives.
7. The sales cycles for these applications are becoming longer and more complex (see also here).  Before the final decision for the licensing of these applications is made, IT is now becoming involved, and will continue to do so.  Though the CMO’s prominence is rising, don’t expect the CIO’s role in marketing technology decisions to disappear.  Over the past year our relevant portfolio companies started to see CIOs participating in important procurement decisions involving solutions for the marketing department.
8. The application’s user experience must be tailored to the marketing department’s users.  We are starting to see application developers creating user experiences that are more akin to the practices being established around consumer software, particularly PostPC consumer applications.  To easily adopt the multitude of new applications offered to them, marketing departments must want to interact with them and must be able to do so easily and with little or, preferably, no training.

As corporations become more customer-centric and the move to online continues, data-driven marketing departments stand to reap big rewards.  For this reason they are acquiring a new generation of applications to help them improve their interactions with customers and prospects regardless of channel. Marketing application vendors must understand this trend along with its positive and negative implications, as well as the evolving roles of CMOs and CIOs, in order to best capitalize on it.

Related articles

• IT Risks Irrelevance In Digital Marketing Revolution (informationweek.com)
• Ten traits of a successful serial CMO (customerthink.com)

Insight as a Service (Part 3)

A few days ago I presented a webinar on Insight as a Service. In the presentation I tried to provide further details on the concept which I first introduced here and later elaborated here.  I am including the webinar presentation (click on the slide below) and the notes because they elaborate further on Insight as a Service and provide some examples.

4Q11 was a Late-Breaking Quarter for Trident Capital’s SaaS Portfolio

The typical 4Q budget flush that most IT companies have learned to expect didn’t come in the same extent this year.  As a result, public and private SaaS companies had a tougher quarter than they expected; certainly a much tougher quarter than 4Q10.  We are still not seeing as much exuberance about the economy as some of the recent reports would have you believe.  Certainly during 4Q11, based on checks I made with some of the prospects and customers of our SaaS portfolio companies, I got the sense that the SMB sector has not yet fully recovered. But, pleasantly, I have started seeing more evidence that the larger corporations (Fortune 500) are starting to fully embrace SaaS (more on that later).  Our SaaS portfolio companies did a little worse than planned with 85% of them achieving their revenue and booking targets (compared to 90% during 3Q11). 

The public SaaS companies appear to have faced similar market conditions during the quarter, i.e., they had harder time making their numbers.  None pre-announced (positive or negative) but a couple missed their numbers (Realpage, SciQuest), with the rest, e.g., Netsuite, comscore, Concur, Cornerstone onDemand, Kenexa, reporting inline results. The big acquisition news for the quarter were Oracle’s acquisition of Rightnow (Oracle also announced the acquisition of Taleo but that’s a 1Q12 transaction), SAP’s acquisition of SuccessFactors were the really big news.  IBM’s acquisition of Demandtec, the leader in SaaS pricing optimization solutions, added another analytic application to IBM’s portfolio.  Salesforce’s acquisition of Rypple demonstrated the company’s continuing strong interest in social applications. 

Positive conclusions from our SaaS portfolio performance:

1. The annual growth for the SaaS companies continues to surpass that of the on-premise software portfolio companies.  During 2011 our SaaS companies experienced 30-150% yoy revenue and bookings growth.
2. Renewal rates remain steady at 85-95%.  Upsell rates were at 20-45%.  This was better than expected and a good indication that customers are finding value and good ROI from the use of SaaS applications.
3. Most of our SaaS portfolio companies were able to increase their license pricing 10-20% during the quarter; another indication of the value customers experience.
4. Discounting remained at 20-25% for multi-year deals and 5-8% for 1-year deals.  Upfront payment terms held steady with customers paying 1 year in advance for the multi-year deals and 1 quarter in advance for the annual deals.
5. Analytics-driven applications, social applications, and mobile applications with vertical focus continue to be in high demand.
6. The portfolio is seeing accelerating demand from large enterprise clients (Fortune 500 including Fortune 50 companies).  I’m sure this was one of the major reasons that Oracle, IBM, and SAP have started acquiring SaaS companies.  Our companies have continued to receive strong inbound interest for their solutions from foreign companies (Australia, New Zealand, Singapore, parts of Western Europe).
7. System Integrators (SIs), including several of the large ones, are becoming more interested in providing services around packaged SaaS applications.  This is something that I couldn’t have imagined a year ago.  However, with the increasing interest of F500 companies in SaaS applications it should have been expected that the larger SIs would come calling.  The question is whether they will use their traditional model (calling for services that cost 5-7x the licensing cost) to deliver services around SaaS applications or whether they will create a new model.  It will also be interested to see the SIs will be able to change their customer onboarding model and make it more compatible to the fast onboarding models used by SaaS companies.

The characteristics my partners and I didn’t like from the quarterly performance of our SaaS companies include:

1. While large enterprises are starting to adopt SaaS applications more regularly they expect a sales process that is more similar to the on-premise enterprise software sale, rather than to what we have been typically seeing with the sales of SaaS application software to SMB customers and mid-upper enterprise customers, i.e., a 2-4 month sales process.  The longer and more expensive sales process (requiring field sales people with enterprise experience, more demos and pilot projects), has a negative impact on margins.  This is an issue we plan to work on with our relevant SaaS portfolio companies during 1Q12.
2. The monthly sales targets were not achieved according to plan.  For our SaaS portfolio companies we would like to see 20% of the quarterly target to be achieved during the first month of the quarter, 30-40% during the second month, and the remaining the last month.  During 4Q11 we saw a new pattern.  During October and November the companies were able to achieve only 20% of their quarterly target (10% each month).  Another 10% was achieved during the first half of December.  The remaining 70% was achieved during the last two weeks of the quarter.  This is the reason some of our SaaS companies run out of “runway” and couldn’t get all of their contracts done, resulting in some to miss their quarterly targets.  Sales productivity slipped.
3. Hiring was difficult during the quarter because the SaaS companies have a high demand for the same type of people as Internet companies: engineers, sales people, product managers, services people, and data analysts.  If this trend continues, it will negatively impact the aggressive growth plans our companies have for 2012, as well as their costs and margins.

Some additional observations from the quarter:

1. Once again customers showed that they don’t care about the SaaS solution’s “purity,” i.e., is the solution multi-tenant, is it built on a single technology stack, but they care about the solution’s ease of deployment, overall economics and the time to ROI.  If a solution’s purity leads to faster deployment, better economics and faster ROI then they are all for purity.
2. IT organizations are finally taking SaaS seriously.  They are starting become very involved with SaaS licensing decisions.  In addition, they are also starting to worry about how to instrument their corporate IT infrastructure so that they can better monitor the performance of such applications and improve their performance.

Looking to the next 12 months, I’m expecting a more muted 2012 with flat budgets for IT solutions (compared to the 3-5% yoy increases we had seen the last couple of years) and tougher sales cycles, decreasing contract values and more discounting.  While I expect continued strong M&A interest in SaaS companies, I don’t foresee more blockbuster acquisitions like the ones we saw with Rightnow, Taleo, SuccessFactors and Demandtec.

Related articles

• Cloud War Heats Up As Oracle Buys Taleo for $1.9B (wired.com)
• SaaS valuations: off the charts and staying that way (gigaom.com)
• SaaS Trends in 2012 (clean-clouds.com)

Insight as a Service (Part 2)

Over a year ago, I introduced the concept of Insight as a Service and described some of the issues that will need to be addressed for such services to be possible.  Insight as a Service refers to action-oriented, analytic-driven solutions that operate on data generated by SaaS applications, proprietary corporate data, as well as syndicated and open source data and are delivered over the cloud.  This definition is meant to differentiate Insight as a Service, which I associate with action, from Analytics as a Service, which I associate with data science, and Data as a Service which I associate with the cloud-based delivery of syndicated and open source data.  For example, a cloud-based solution that analyzes data to create a model that predicts customer attrition and then uses it to score a company’s customer base in order to establish their propensity to churn is an Analytics as a Service solution.  On the other hand, a cloud-based solution which, in addition to establishing each customer’s attrition score, automatically identifies the customers to focus on, recommends the attrition-prevention actions to apply on each target customer and determines the portion of the marketing budget that must be allocated to each set of related actions, is an Insight as a Service solution.

Companies that utilize analytic solutions (whether they are delivered over the cloud or not) use them to extract information from data.  However, deriving insights from the information/analyses that result in actions is much harder and time-consuming.  I had identified the difficulty in the inability of analytic solutions, or of data scientists, to first properly translate a business problem to a data analysis problem, and then to formulate (or re-translate) the analysis results into insights paired with associated actions in a way that business people will understand, and be able to execute.  Even companies like IBM, muSigma, Opera Solutions which provide corporations with large scale outsourced analytic services they rarely provide insights and actions.  There exist independent consultants who play this two-way analytics translator role very effectively but their extensive and continuous use by corporations is not feasible, mostly for financial reasons; they are too expensive and in too high demand.  In past discussions with members of IBM’s 7000-strong analytics and optimization business unit I heard that those of their consultants who can provide such “two way analytic translation” and insight services are in the highest demand.

Since I wrote that initial article on Insight as a Service, several companies such as Acteea, 9Lenses, JBara, Totango, Startup Genome Compass, as well as a few that are still in stealth have developed such solutions, while companies like Host Analytics, 8thbridge and Dachis Group have created Insight as a Service offerings to complement their existing SaaS solutions. 

Insight as a Service is a distinct layer of the cloud stack and is positioned above Software as a Service, i.e., the cloud’s application layer.  The cloud provides insight-generation solutions with several distinct advantages:

1. An efficient and cost-effective environment for collecting the SaaS application data but also for distributing and managing other appropriate data types.
2. An environment enabling collaboration among teams of data scientists, analysts, business translators and domain experts in utilizing, refining and applying the insights and associated actions.
3. Elastic computing and storage resources since insight-generation solutions are even more computationally and storage intensive than analytic solutions.
4. A medium for rapid solution deployment and incremental improvement.

Insight as a Service solutions analyze data and recommend actions.  The actions they recommend result in business process improvement, and business practice improvement.  The Insight as a Service solutions of the companies I mentioned above do exactly that.  To identify the right actions these solutions rely on:

1. Data generated by SaaS applications, proprietary corporate data, as well as syndicated and open source data.  For example, Host Analytics, which provides a SaaS application for corporate performance management, integrates customer’s budget data with data from ERP and CRM SaaS applications and open source industry-specific financial data for its Insight as a Service offering. 8thbridge combines open source data about Facebook engagement/use, YouTube use, Twitter use, Klout score, Tumblr use, Flickr use with its customers’ data to create the Social Commerce IQ index.
2. Strong analytic functionality that includes both predictive modeling, and optimization components.
3. Deep (including industry-specific) understanding of particular business processes and tasks.  For example, Acteea’s solution has an elaborate representation of the keyword bidding process used by ecommerce retailers for search advertising.
4. Business best practices.  For example, JBara’s solution incorporates best practices for improving customer profitability or improving customer retention.
5. Benchmarking practices through which a company’s performance can be compared to that of its peers and competitors, or to its past performance.  For example, 9Lenses’ solution allows a company to benchmark its performance along several dimensions to that of its competitors.  As Craig Schiff recently wrote, benchmarking will become an important component of corporate performance management.

Insight as a Service is starting to be recognized as a distinct and important layer of the cloud’s stack, as well as an important extension to analytic applications.  As I had predicted, Insight as a Service solutions are being developed by new and exciting pureplay vendors, as well as by SaaS application vendors that view such solutions as a way to clearly differentiate their offerings.  As the data generation pace along with the data diversity are increasing, and corporations begin to understand the importance of data-driven decision-making, Insight as a Service solutions will become as essential and as ubiquitous as SaaS applications have become.

Related articles

• Companies get SaaS-y with business intelligence (gigaom.com)
• Forrester: As SaaS matures, buyers face new considerations (infoworld.com)

CES 2012 Report

The Consumer Electronics Show (CES) this year attracted 153k attendees (10% increase over last year), with 34K attendees being international.  This was another event that showcased the continuing evolution of consumer electronic devices rather than anything revolutionary.  Mobility and internet connectivity dominated the exhibits.  My focus continues to be on the implications of these themes on our SaaS, adtech, mobility and big data strategies.  Google’s influence was felt strongly this year both because of Motorola’s presence but also because of the incorporation of Android in many mobile devices and TVs, and so was Apple’s based on the number of iOS peripheral devices that were demonstrated. In other words, the two companies continue to be the front runners in ecosystems.

Themes of Interest

1. Mobility.  Manufacturers tried to differentiate their mobile offerings in two ways: a) by introducing new form factors (Samsung offers several smartphones with 4.3” screens, a 5” tablet, called the Galaxy Note, and 7” and 10” tablets also under the Galaxy brand) that also carry different price points, b) by making small modifications to the Android operating system which most of these devices run, and c) by incorporating technologies from their other divisions (TV technology, camera technology, etc.) into these mobile devices, such as Sony’s Xperia. Most of these devices run various versions of Android. Because of the OS customizations performed by the mobile device manufacturers, the demonstrated devices were running different versions of the Android OS with uncertain plans for migration to V4 (the latest version).  The introduction of Amazon’s Fire at $199 before the holidays demonstrated that there is tremendous demand for devices at that price point.  Most of the tablets introduced at CES will be priced between $199-250. Nokia’s Loomia 900 Windows phone was also introduced to positive reviews. We’ll have see whether it provides the push that Microsoft needs in this area.  The smartphone screens are getting larger because, according to the phone manufacturer representatives I spoke to, most consumers run  entertainment-based applications (60% of the mobile traffic is now video). This year also saw the introduction of “ultrabooks,” extremely light (3-3.5 lbs) running Windows.  These products have many of the attributes of tables, i.e., long battery life, instant on, solid state memory, better graphics, but with the power of a PC. Along with Windows 8, they may provide another opportunity for Microsoft to rejuvenate its ecosystem.
   
   
   
   
2. Smart TVs.  More gesture-based and voice-based interfaces (Microsoft’s Kinect influence) and more connected TVs (built mostly on a Google platform) running as many applications as we typically see on mobile devices or use the cloud to have content streamed to them.  Tablets and smartphones are now connectable to these Smart TVs to enhance interactivity with the device and consumer interactions through the social web.  At the end of 2011 there were 82 million connected TVs in homes worldwide and by 2016 it is projected that number will increase to 892 million.  Content consumption through applications or through streaming over the internet can change consumer viewing patterns.  Consumers will no longer be subject to the formats, choices and content pricing imposed by cable and satellite TV operators.  Instead such operators may be relegated to simple internet providers rather than content providers.
   
3. Health monitors.  The number of such devices introduced in this year’s show rivaled the number of new TVs.  Zeo, Fitbit, BodyMedia, Tanita, iHealthLabs, Striiv, Motorola and Qualcomm were some of the companies that introduced new such devices to measure heart functions, weight, glucose levels, calorie count, sleep patterns, activity levels, etc. and several of them include gamification concepts in order to better motivate the wearer. Unfortunately, each creates its own data silo with the data it captures.
   

Investment Implications

1. The choices among the available mobility form factors (smartphones, mini-tablets, tablets and maybe even ultrabooks) are so many that consumers and enterprise users will have a hard time selecting the right device for their needs.  The OS variations among the Android-based mobile devices will start presenting problems to application developers who typically decide whether to try to optimize an application for a particular device and form-factor.  During CES Google announced that it wants Android developers to focus on application consistency and is now requiring they make the stock Google experience available to developers on their phones in order to carry a link to the Android Market.  As a result, application developers may start using HTML5 more aggressively in order to address application consistency and portability.  Of course, HTML5 is still quite immature, with slow execution particularly around graphics and a memory hog.  Microsoft may be in a good position here because of their early commitment to HTML5.  Finally, the use of gesture- and voice-based interfaces will also make application development more complex.
2. The OS variability among the mobile devices will also challenge corporate IT infrastructures in companies that allow their employees to bring their own devices. These companies will need to adopt or develop solutions that provide easy ways for “fitting” enterprise applications to the available devices and offer strong device management capabilities.
3. The increasing use of mobile devices, including ultrabooks, will further accelerate cloud adoption by the enterprises for the provision of content and services, e.g., storage, training, etc.
4. Based on Android’s adoption as the platform for both next-generation mobile devices and next-generation interactive TV sets, online and in-app advertising will remain the major means for monetizing the content and applications.  Advertising solutions that have already been deployed on desktops and Android-based mobile devices are expected to transfer easily to the new TVs.  Some content will continue to be monetized through subscriptions (see Hulu’s progress during 2011).
5. The health sensors being deployed are creating large quantities of data that must be captured, securely moved to and stored in the cloud, managed and hopefully analyzed.  We will see a strong consumer need for personal dashboard and BI solutions that automatically integrate, analyze and appropriately present the information extracted from the data collected by each device.  In other words there will be strong need to break down the data silos now being created by these devices.  Once such integration and analysis of the data is achieved, consumers would want to start linking this data with their electronic medical records and perform additional correlations and analyses.

Related articles

• That's A Wrap! CES 2012, Smart and Connected (blogher.com)
• The Winners And Losers Of CES 2012 (techcrunch.com)

Areas of Investment Interest for 2012

Happy New Year!  After a nice break, as I head back to the office I thought I’d provide you with my views regarding the overall environment we expect to face in 2012, as well as the areas we will be looking to invest within a two of our focus sectors: adtech/Internet and SaaS.  Data (big and small) as well as business analytics are common themes across both of these sectors so I break them out.

During 2012 we expect the economic volatility to continue and to have a significant impact on the financial performance of companies (private and public).  We anticipate that IPOs at a pace similar to that of 2011 (NVCA reported that during 2011 52 VC-backed companies raised $9.9B through IPOs), but also post-IPO price volatility to be exhibit comparable characteristics to that of the 2011 IPOs.  We also expect large traditional IT and Internet vendors to continue acquiring high growth, innovative companies, with SaaS, adtech, mobile and analytics to be their favorite sectors.  According to NVCA, 429 VC-backed companies were acquired in 2011.  As I wrote here, during 2012 more large software vendors will look to acquire private adtech companies, as adtech solutions start to be viewed as important components of enterprise marketing platforms.

Continued IPOs and acquisitions will contribute to the continued improvement of venture returns.  However, despite this improvement fewer venture firms will be able to raise new funds during 2012 as LPs, perceiving venture returns as lackluster, continue to decrease their allocations to the venture asset class.  As a result, the venture industry will continue to shrink evolving into two segments: the top 100 venture firms, among which the competition for investing in the best companies intensifies, and everybody else.  The top 100 will continue raising new funds, as was evident during 2011.  Because of these trends venture business will go back to basics.  The Venture investors will work side by side with strong entrepreneurs and management teams to build scalable and enduring companies.  I don’t expect Trident to increase its investment pace during 2012 (at Trident Capital we invest in 8-10 new companies every year) and, like other VCs, may even decrease it.  During 2012 we need to see more companies that are achieving scale.  We will focus our investment attention on companies that are showing strong signs of such scaling ability. 

Seed stage companies will have hard time fundraising during 2012.  Too many seed stage companies have been created and funded in the last 18 months, over 10K by some estimates.  In 2012 several of these will be looking for their first institutional venture investment, and will not get it.  Many such seed-stage companies will go out of business during 2012.  Moreover, the fund and flip investment model that had been recently re-adopted by entrepreneurs, and angel investors will come to an end. 

Adtech/Internet: During 2011 too many early stage undifferentiated adtech were created, continuing a trend that started in 2010.  I hope this trend doesn’t continue in 2012.  We don’t need another DSP, or DMP.  I expect that consolidation of the most promising of these early stage companies will start.  Late 4Q11 we saw several later stage companies going on the road to raise capital to use for “tuck in” acquisitions during 2012.  Advertisers are becoming more customer-centric and are moving away from silo adtech solutions.  I’m very interested in companies that provide cross-channel marketing and optimization solutions with strong attribution models, i.e., solutions that use technology to address some hard problems.  Social is moving from a fan acquisition to the need for demonstrable ROI and ongoing fan engagement.  Solutions that can provide such ROI and measure the effectiveness of social engagement are also of great interest.  Social advertising showed good performance during 2011.  As a result, I anticipate that during 2012 we will see the continued growth of the Facebook ad ecosystem and maybe even the emergence of a Twitter ad ecosystem.  Therefore, companies that work in these ecosystems are of interest.  During the 2H11 and particularly during the holiday season, the power of mobile solutions was soundly demonstrated.  We expect this trend to continue during 2012 with mobile social solutions attracting strong interest than other types of social solutions. 

SaaS:  Enterprises continued to adopt SaaS solutions at a rapid pace during 2011.  This trend has not escaped the large IT vendors which made big acquisitions (Oracle acquired Rightnow, SAP acquired Success Factors, and IBM acquired Demandtec).  Adoption of SaaS applications (horizontal and vertical) and of cloud computing solutions of any type (public, private, and hybrid) will continue to accelerate during 2012.  With that, demand for cloud security and data privacy solutions will also continue to increase. Corporations continue to become more social and are refining their notions of how to better engage consumers in a social conversation and value exchange.  While I have already invested in 8thbridge and Extole, social marketing and commerce solutions continue to be of investment interest for 2012.  The PaaS offerings and the applications built on such platforms are also becoming more interesting and will get closer attention by VCs. Finally, the adoption of tablets by the enterprise remains strong and has surpassed even the most optimistic 2011 predictions.  There is a need for new, tablet-native apps that solve important enterprise problems, including analytic applications that make BI truly mobile.

Data:  Big data was everywhere in 2011 and particularly in software and adtech.  We are tracking about 100 private companies of all stages that are “involved” in big data software and services.  For 2012, the world doesn't need additional Hadoop distributions.  But, we sorely need more analytic applications, including applications that are built on one of the existing big data frameworks, that can effectively address high-value business problems, particularly in retailing (online and offline), online advertising, healthcare, pharma, and manufacturing.  We also need applications that enable the rapid and interactive exploration of big data sets, including through the use of visualization.  Finally, we will continue to look at investment opportunities in analytics services companies in order to address one of the major problems with business analytics that corporations are facing. 

Related articles

• Mahendra Ramsinghani: 2011 A Year Of Recovery For Venture Capital, But Still A Ways To Go (huffingtonpost.com)
• VC Outlook: Emergence Capital's Ritter On The Industry's Swinging Pendulum (blogs.wsj.com)

The Value of Advisory Boards to Trident Capital's Investments

Last summer I had written about how our firm is organized around four core investment areas (Adtech/Internet, SaaS/cloud, security, and healthcare IT).  Each of these areas has a dedicated investment team that is able to invest on both early and late stage opportunities, as well as its own advisory board.  An investment team meets with its advisory board every 8-10 months.  Our investors frequently ask us how we derive value from each advisory board.  These boards

1. Provide insights about the sector-specific market conditions and trends that can impact a) our firm’s approach to relevant new investment theses, new investments under consideration, and potential exit opportunities for existing portfolio companies; b) how existing portfolio companies may approach specific initiatives, e.g., entering a new geography, or raising new capital.
2. Offer their perspective on new business models, e.g., daily deals, so that we can determine if an investment around such a model is warranted.
3. Help existing portfolio companies with introductions to potential customers and partners, as well as offer them business advice.
4. Participate in the due diligence process for new investment opportunities.

In fast-moving markets, such as adtech, where significant capital inflows by venture and private equity firms continue, and new companies are created regularly even though every subsector is crowded (see below the most recent version of LUMA’s crowded landscape for the display advertising ecosystem of adtech), receiving advice on which subsectors to avoid or where to invest, even if the subsector appears overcrowded, increases our opportunity to provide better returns to our investors.

A few weeks ago we convened our adtech/Internet advisory board, a group of 15 industry executives.  During the lively discussion that ensued among the participants, we came away with the following conclusions:

1. Market: The display advertising market is doing better than it is officially reported while the search advertising market is not doing as well as reported. Within display advertising, social advertising, particularly around Facebook, and non-premium display are doing extremely well, with DSPs (such as our own portfolio company Turn) increasing their market share over ad networks.  Power is shifting to demand aggregators.
2. Budgets: While 2012 online advertising budgets in the US remain more tentative than in years past, for yet another year online advertising will continue to be a US-centric market because of European macroeconomic conditions and approach to data privacy, and still immature Internet infrastructure in the rest of the world.
3. Advertisers: Advertisers are starting to care about engagement, rather than just a funnel.  There will be strong demand to create a brand’s social graph and quantify the value of a fan (big issue for 2012).  Brands are starting to care again about how and where they show up, so ad safety will be a big issue.  Media is becoming part of the brand message.  Performance marketers and brand advertisers are separating. 
4. Data: Managing and analyzing data assets will continue to be a growth opportunity for 2012.  Our advisors expect to see increasing adoption of big data management and analytics approaches as ad buying is shifting away from site/network or even audience buys and is now directed to identifying the right people to target.  Advertisers will continue to combine online with offline and social data in order to better understand who to target.  In fact, managing data assets is a big opportunity.
5. Mobile: All 2012 metrics point to the continued increasing importance of PostPC (here and here) devices (both for advertising but also for commerce) along with the growth of social, but attribution is important.
6. Exits: Large corporations, even those outside the traditional Internet ecosystem and particularly certain IT vendors such as IBM, realizing the importance of advertising for the monetization of online content and services, will follow Adobe’s example and become increasingly interested in private adtech companies.  They will thus provide exit opportunities to high-growth private adtech companies even if the IPO window remains only slightly open.

Next up is our SaaS advisory board that will be meeting in February.

Related articles

• Facebook is beating Google in 'the battle for eyeballs', or display advertising (nextlevelofnews.com)
• Marketers Use Online Video to Complement, Not Cannibalize, TV Ads - eMarketer (huguesrey.wordpress.com)

3Q11 Was a Solid Quarter for Trident Capital's SaaS Portfolio

Against a continued volatile world economic environment that was dominated by the European debt crisis, and the persistent 9% unemployment here at home, SaaS companies had a very good quarter.  We were particularly concerned this quarter because around July we started to read about the deteriorating sentiment and buying behavior among consumers and small businesses.  3Q11didn’t have the same number of pre-announcements we saw during 2Q11.  Of the public SaaS companies I track only SuccessFactors pre-announced.  None of our portfolio companies offered any pre-announcement surprises (good or bad).  Like in the previous quarter, 90% achieved their revenue and bookings targets and 85% their bottom line objectives.  We saw similar solid performance by other private SaaS companies that we considered for investment during the quarter.

Of the public SaaS companies I’ve been tracking (SuccessFactors, NetSuite, Concur, Realpage, Kenexa, SciQuest, SPS Commerce, Vocus, AthenaHealth) reported results that met expectations.  Salesforce will report on 11/17 and is expected to meet expectations. The big M&A news during the quarter was Oracle’s acquisition of Rigthnow which followed the company’s announcements on upcoming cloud-based solutions during OpenWorld.  Salesforce continued acquiring social enterprise application companies with the acquisition of Assistly, and Citrix acquired Cloud.com.  Valuations of equity investment rounds in private SaaS companies continued to defy reason and always exceeded public company comps and the multiples public corporations were paying to acquire private companies.

Positive conclusions from our SaaS portfolio performance:

1. While the SMBs may continue to feel uncertain about the economy and not investing in new technologies, enterprises (particularly the mid-upper enterprise segment that represents the ideal target for our SaaS portfolio companies) are starting to invest heavily.  Our portfolio companies project a strong 4Q11, a sentiment we share.
2. Adoption of SaaS applications is accelerating in the mid-upper enterprise segment, particularly in the US, with human capital management, analytics, collaboration, social customer-facing applications and mobile (mostly tablet-based) applications leading the way.  Interestingly enough, retailers that typically stop buying new technology by the end of 3Q appear to be changing their purchase patterns and are expected to continue their strong adoption of SaaS applications during 4Q. 
3. Social and mobile applications are attracting disproportionate buyer interest.  During the quarter we saw several companies engaging our relevant SaaS portfolio companies in the development of business cases that led to software licensing deals by the quarter’s end.
4. Very smooth distribution of deals.  Our portfolio companies’ ACVs range from $40-120K.  While we were again glad to see some $300-500K ACV opportunities in the sales pipelines of some portfolio companies, we were glad that none of our companies had to rely on such deals to make their quarterly bookings targets.
5. Discounting levels remained similar to 2Q.
6. Our drive to get our portfolio companies to “templatize” their onboarding services has started to pay off.  Our companies have continued to accelerate the time it is taking their teams to onboard a newly signed customer thus improving their time to revenue recognition.

The performance elements we didn’t’ like included:

1. Higher than expected churn rates particularly in those companies offering social enterprise applications.  For our SaaS applications companies we expect 8-10% annual churn rates.  In our social and mobile application companies we are seeing annualized churn rates that approach 20% and this is worrisome.  My sense is that many, particularly smaller, clients that licensed such software are not able to achieve the ROI they had envisioned, though I am still trying to find out what is the right ROI that will make such new applications attractive to smaller companies.  Our portfolio companies certainly don’t have this issue with larger corporations.  More of our companies are now putting in place “farmer” sales teams that will be tasked exclusively to sign the customers whose subscriptions are up for renewal.
2. The majority of the quarterly business continues to close towards the quarter’s end.  In fact, I would say that this is trending in the wrong direction.  In the past I had reported of increasingly more of the business closing during the last month of the quarter.  This time we saw more business closing during the last 2 weeks of the quarter and very little closing in July.  While I’m hoping that this will not become a trend and will only be viewed as the result of the world economic events we are experiences, October performance didn’t give me reason for optimism.  Therefore, sales execution remains a concern.
3. Competition from large IT vendors continues to increase and is also impacting sales and marketing execution.  Through marketing messages around what constitutes a cloud-based application these vendors often confuse the market.  So the public, private, and hybrid cloud-based applications are all getting in the mix leading to longer and more expensive sales cycles. The marketing organizations of our SaaS portfolio companies will need to increase their efforts (and unfortunately their spending) to educate the market (customers, partners, analysts/influencers) about the benefits of true SaaS solutions.

We think that our SaaS companies will have a strong 4Q.  IT budgets for 2012 remain unclear.  For 2012 we project a smaller than initially anticipated budget increase.  We expect IT budgets to increase somewhere in the range of 3-4% over 2011.  Applications in general and SaaS applications in particular will fare well with social, mobile, and analytics continuing to be in strong demand.

IP Alert: Time to Reexamine Patent Indemnification Clauses

This is a guest post contributed by Peter Savich and my partner Howard Zeprun.

Summary

Young companies that license enterprise software or sell components to OEM customers (collectively, “Suppliers”) face a new and dire threat emanating from counter-claim-proof patent Non-Practicing Entities (“NPEs”), often called “patent trolls.”  Because royalty claims by NPEs can be based upon the revenues and profits of the software licensees and OEM channel customers, rather than the revenues and profits of the Supplier, contractual clauses that require the Supplier to indemnify licensees and channel customers in full against patent damages threaten to drive the Supplier out of business.  Potential patent indemnification liability is a time bomb for young Suppliers.  This Alert explains this new threat and encourages every young Supplier to reexamine the indemnity clauses contained in their customer license and channel agreements.

It is customary in enterprise software license and OEM channel agreements for the licensor of the software or the manufacturer of the OEM component (collectively, “Suppliers”) to indemnify the licensee or channel partner against any patent claims arising from the licensed software or sold OEM component.   Damages related to such patent claims are often excluded from any contractual limitations on liability, rendering the patent indemnification obligation unbounded.  This unbounded exposure can be fatal to a young Supplier.

Such indemnity contract provisions have been standard practice for decades. But with the emergence of recent trends relating to NPEs, such provisions can threaten the continuing existence of the indemnifying Supplier.

In the past, patent litigation was largely driven by one operating company seeking marketplace leverage over another.   The defendant’s strongest defense was often comprised of a counter-suit or threat of counter-suit based on the defendant’s own patent portfolio.  Accordingly, many suits were settled through a combination of monetary payments and patent cross-licensing, where the cross-licensing arrangement often tended to reduce the amount of monetary payments. 

Today, however, the patent litigation world is dramatically different, in large part due to the emergence of the NPE.

NPEs are Changing the Technology World

An NPE is an entity that owns patent rights but has no material business operations of its own.  Many NPEs acquire patents for the sole purpose of generating license revenue through litigation or threat of litigation.  The NPE has no operations that can give rise to any counterclaims, and therefore there is little to no business pressure the defendant can bring to bear to encourage settlement.   Given that NPEs are counter-claim proof, it serves their interests to sue every company with business operations in a given sector, and they have little to no incentive to settle without extracting significant monetary value.

The acceleration of patent litigation activity at the hands of the NPEs has resulted in patent litigation and licensing costs rapidly becoming a basic cost of doing business.  It is now a “Patent Tax” that must be paid and a Tax that must be financed.  Technology companies are coming to realize that every product they offer likely infringes a large number of patents.  

For example, take any smart phone device such as an Apple iPhone.  The increasingly wide range of technology incorporated into any one of these devices probably operates against thousands of patents.  Most of these patents are not owned or licensed by the manufacturer of the device.  Large numbers of these patents are owned by NPEs.  

In years past, the various device manufacturers and their suppliers would cross-license their patents and compete in the marketplace.  Today, the dockets of these companies are filled with patent infringement lawsuits by NPEs. The costs of such lawsuits are staggering, starting from the typical legal expense of $3-5 million per case, to settlement and damage awards that can escalate into the tens or hundreds of millions of dollars per case.  

Motivated by the emergence of this new patent battlefield, and forced in part by a need to fund the massive license fees payable to trolls NPEs and others, large technology companies are starting to go on the offensive as well.   In the smartphone field, numerous high profile lawsuits have been filed, creating a spaghetti bowl of lawsuits among the major players.  See http://www.ppcgeeks.com/2011/08/19/who-is-using-whom-with-graphic-chart/.  At the same time, there have been several high profile acquisitions of relevant patent portfolios at staggering prices (e.g. Google acquiring Motorola for $12.5B; Apple et al acquiring Nortel patents for $4.5B; etc.).  We expect other industry sectors to follow suit. 

The patent wars are only going to escalate, throughout the technology world, and the Patent Tax on every company will continue to increase.

The Problem facing Suppliers

Given the emergent dynamics described above, the problem with unbounded patent indemnification liability becomes clear.   Patent holders typically seek damages from an infringer based upon the total revenues and profits accrued to the infringer based on its patent infringement activity.  When an NPE sues multiple operating companies who may have licensed technology or purchased components from one Supplier, the NPE seeks damages and royalties based upon the collective revenue of those multiple customers of the Supplier, not based upon the revenues or profits of the Supplier.  

The total financial exposure is therefore significantly magnified relative to the revenue of the Supplier.   The channel might have total revenues 20x, 50x, 100x the revenues of the Supplier.  Accordingly, if the Supplier is indemnifying each channel partner for its full liability, the total exposure to the Supplier can be 20x, 50x, 100x the liability that would accrue to the Supplier based on the size of its business. 

At a patent royalty rate of even 0.5%, a 50x multiplier results in a royalty rate to the Supplier of 25% of its revenues.  This is a cost that no company can bear.  That fact is immaterial to the NPE business.  What the Supplier can’t pay, the channel legally must.  In the absence of concessions from the channel, the Supplier very well could go out of business.

The above scenario of dire risk facing Suppliers is not fiction. It is happening right now for at least one unlucky Supplier that we know of.  History says that this dynamic will only spread. How far? As far as the money will go. 

In short, Suppliers are sitting on a time bomb. That time bomb is found in the patent indemnification clauses of their channel agreements. Prudence in defusing these bombs is required.

Recommendation

Because of the risks explained above, we recommend that every young Supplier review and, as appropriate, seek to modify the patent indemnity clauses in its existing agreements.  The revised clauses could take any of the following forms (from most favorable to less favorable, within the perspective of the Supplier):

• Exclude indemnity for any suit brought by a non-practicing entity.
• Limit the amount of indemnity for patent claims to what would be a reasonable royalty on the amounts paid by the licensee or channel partner to the Supplier.
• Limit the amount of indemnity for patent claims to the total amounts paid by the licensee or channel partner to the Supplier.

Practical Considerations

We realize it will be very difficult to obtain any changes to indemnification provisions with very large customers and channel partners. Any single Supplier typically has little negotiating leverage against a big player.   However, change can be brought about as more Suppliers seek such changes and as more Suppliers educate large customers on the rationale for the change.

The basic argument by Suppliers for this modification is that the patent world has changed and the proposed contract modifications are necessary as a result of this change.

Larger companies today are more focused than ever before on managing their financial exposure to patent risk.  At the same time, however, we believe that they will become more sympathetic to the argument by a young Supplier that patent infringement risk has become a basic tax on operating a business, what we refer to as the Patent Tax, and is largely out of the control of the Supplier.  At this point in time, parties need to accept that they will almost certainly be sued, and arguably that risk is largely independent of any “fault” on the part of one party or the other. 

Accordingly, Suppliers and their customers need to determine how to allocate between them the cost of addressing that risk, on the basis of the relative benefits received by the two parties from the underlying product, rather than simply saying the risk lies fully with the Supplier.  The benefit received by any Supplier is defined by the revenues received by the Supplier, not the revenues realized by its channel partners.

Related articles

• Patent trolls cost inventors half a trillion dollars (money.cnn.com)
• The Real Costs of Patent Trolls (paul.kedrosky.com)

Presentation on Big Data Analytics and Watson at IBM’s Information on Demand Conference

Last week, I spoke at IBM’s Information on Demand conference about big data and Watson.  I also moderated a panel discussion on the initial applications being developed using the technology developed for Watson.  Below is the annotated and properly hyperlinked text of my presentation.

Data is emerging as an extremely valuable asset; some even characterize it as valuable as a natural resource.  Last year the Economist wrote that data is becoming the new raw material of business: an economic input almost on par with capital and labor.

As we continue to instrument our world, we are able to collect data of amazing quantity and extraordinary detail.  Just think for example of the data collected by Nike+, a relatively simple sensor that provides a detailed runner's log, or Zeo, one of our big data portfolio companies, that uses a more complex sensor to collect data on sleep patterns. Data is coming from the roads we drive in, the trucks that move our goods around the country, the grid that transmits our energy, and countless other sources. In a recent speech Eric Schmidt, Google’s executive chairman, reported that we are generating 5 exabytes of information every 2 days, and the pace is increasing.  An Exabyte is a 1 followed by 18 zeroes. It is 1 billion gigabytes, or the capacity of approximately 15.6M 64GB iPads.

Data comes in all forms and complexity.  Some is clean and well-structured like the data received from the smart meters that record electricity consumption in our homes.  Other is less structured, messier and hard to understand like the data a technician records while performing a repair.  Some of this data, such as a consumer's purchasing activity, can be stored for later use and reuse.  Other, such as traffic data, must be used immediately because its utility is only short-term.

Today we refer to Big Data as data that is:

1. Large in size.
2. Semi-structured or unstructured in form.
3. Real-time or near real-time in the way it is generated and consumed.

Through advances that resulted in the dramatic decrease of storage, computing and bandwidth costs and in the increase of network access, our ability to collect, store and manage Big Data has changed dramatically and has kept up with the generated volumes.  Unfortunately our ability to analyze Big Data has not kept pace.  Today we find ourselves in the position which is similar to knowing that we have large oil deposits but lack the right extraction equipment to bring oil to the surface, the refineries to convert it to fuel, the machinery to put it to productive use, and more importantly the petroleum engineers that tell us where to drill, how deep to drill, and what process to use in order to make best use of the oil we find.

Realizing our shortcomings in analyzing Big Data and operationalizing, or actionalizing if you will, the analysis results, many organizations have embarked on efforts to develop new tools and processes.  These efforts are resulting in a data analytics renaissance. As venture investors of high-tech companies we have been actively funding this renaissance and today close to 20% of our active portfolio includes companies that collect, manage, analyze or operationalize Big Data.  Since the beginning of this renaissance close to 100 data analytics companies have been funded by venture investors alone.

Recognizing the potential of data exploitation in today’s business environment, my firm, Trident Capital, continues to look for investments in three areas that address Big Data's critical needs:

1. People.  Data scientists and business analysts have emerged as the critical personnel for the analysis and utilization of data. We are looking for services companies with large teams of such people and scalable analytic processes.
2. Tools. Today's Big Data analysis tools remain too low-level requiring analysts to perform many tasks manually.  For this reason we are searching for new technologies to help with data ingestion, manipulation and exploitation.
3. Applications.  Businesses are still not able to capitalize on the results of the performed analyses in a timely manner often missing important opportunities.  We are searching for companies developing analytic applications that enable business users to actionalize the Big Data sets their organizations collect.  Example applications include customer experience data analysis enabling organizations to offer the right level of customer support, Internet of Things data analysis to optimize supply chains, and applications that use analysis results to assist professionals with complex tasks, such as a doctor during the diagnosis process.

As an investor of Big Data analytics companies I find Watson’s approach important for several reasons:

1. First, it uses a question and answer interaction which business users find more natural as it enables them to incrementally improve their understanding of a problem.
2. Second, it effectively combines structured with unstructured data some of which is curated, such as published articles of special or general interest, while other is dynamically collected from the open internet.
3. Third, Watson's data analysis speed, that is the result of its underlying architecture, makes the system suitable for several application areas, particularly those where data remains useful for a short period such as medical analysis, financial analysis, and consumer sentiment analysis.
4. And finally, Watson's concurrent use of many analysis and prediction techniques, not only provides a unique approach to machine learning and fact-prediction, but more importantly it enables the analytic application to explore more alternatives to a possible solution, thus increasing the probability of successfully addressing a problem.

We are just starting to comprehend some of the many benefits from the innovations made by the Watson research team and I believe that we will continue profiting from the advances they made for years to come.

Related articles

• IBM Seeks Bigger Stake in Big-Data Analytics (allthingsd.com)

Common Worries Among Corporations and Governments

Corporations and governments are starting to worry about a common set of related issues. During the last two months I was fortunate to participate in several conversations with top corporate executives and foreign government officials all of whom are visiting Silicon Valley with increasing frequency. The conversations covered topics ranging from innovation and the rapid technological changes we are experiencing and must adapt to, the mismatch of skills and jobs and the changes we must institute to meet our evolving labor needs, and the state of the world economy and the continued impact of globalization. I want to summarize the topics being discussed by these diverse constituencies and provide a place for relevant comments and opinions.

The ever-decreasing cost of developing new technologies is leading to an acceleration of innovation.  Delegations are visiting our area because they are trying to figure out ways to address the impact of innovation on their organizations. They are interested in:

1. Understanding technology changes and particularly the accelerating pace of IT innovation. Many corporations are starting to realize their inability to keep up with the simultaneous information technology waves and associated innovations created around mobile applications and devices, cloud computing, social media, and information creation and comprehension through the analysis of big data (that is now universally starting to be recognized as an important asset or resource).
2. Participating in and copying (or at least attempting to) Silicon Valley’s innovation creation and nurturing model. They view our area as having mastered the unique ability to unleash multiple innovation waves in areas as diverse as information technology, biotechnology, cleantech, etc.
3. Identifying startups that can provide them with an early competitive advantage around technology, data, or business model.
4. Understanding substance from hype as it pertains to startups, and in de-risking the technology offered by early stage companies.
5. Forming partnerships with venture firms and relevant venture-backed companies.

Corporations are not looking for innovation just in Silicon Valley, but around the world. They are quickly realizing that they need to innovate along a variety of dimensions (technology, sales model, customer interaction model, business model). They are also acknowledging that in the face of globalization, under which economies have become so inter-dependent, and hyper-connectivity, through which information is disseminated instantaneously, innovation is as likely to come from a team whose members are distributed between Sao Paolo, Brazil, Kiev, Ukraine and Athens, Greece, as it is to come from a Silicon Valley-based team. Corporations and governments are also quickly realizing that the models (economic, financial, agricultural, weather, customer interaction, etc.) in use today are no longer adequate or sufficiently accurate. As I’ve been saying for some time now, we need to innovate in that area also and work on developing new models that reflect today's realities.

While unemployment in this country remains stubbornly above 9%, we continue to receive more evidence that US-based IT, manufacturing and healthcare companies are not able to find enough engineers, scientists, doctors, and nurses to fill their open positions. Even within Trident's small portfolio of 50 companies we have several openings many of which have remained unfilled for several weeks. The US educational system is not producing enough software, electrical, and computer engineers, scientists and health care professionals. The demand for health care professionals stems from our rapidly aging populations (similar trends exist in other developed economies as well). The demand for IT workers is driven by the unprecedented innovation pace we have been experiencing, particularly in information technology. It is not only the educational background of the people companies are looking to hire that is important. Companies today seek people who can invent, re-invent, and constantly re-engineer. Who are creative and bring something special to work; have a unique value proposition. People who are proud of everything they are producing, no matter how small or insignificant. People who even on the insignificant find a way to impart their genius and creativity. Critical reasoning and thinking are becoming table-stakes. Routine work in many fields is disappearing to algorithms.

Corporations have been trying to address the labor/job market mismatch in four ways. First, within the US they have broadened the geographic scope of their recruiting efforts by looking for employees in states with high unemployment and being willing to reallocate them. Second, they are working with the federal government to adapt its immigration policies so that they can recruit personnel from countries that graduate more people with the skills in demand, e.g., India, China, Russia. Globalization and Internet connectivity make possible for well-educated foreign engineers, whose drive is often compared to that of the immigrants that arrived here in the late 19th and early 20th centuries and transformed this country, to effectively compete for the open positions. Third, often in collaboration with state and federal governments, they are establishing programs to retrain laid off workers and provide them with the skills that are in demand. Fourth, they are establishing operations in countries where the supply of employees with the right skills is strong. For example, over the past few years companies like IBM, Google and Cisco have greatly expanded their engineering operations in India, and China but also in Ireland.

Government delegations visit Silicon Valley companies to tout their countries' engineering, science or healthcare talent pools and describe the legislation and infrastructure they are putting in place in order to entice them to establish operations there. They are also starting to realize that by establishing the right environments for innovation they will be able to attract the right jobs.  As Tom Friedman recently said in an address, the next war may very well be economic, not military. It will be waged in order to secure good jobs. The US must do a SWOT analysis. For example, we have a good university system which, however, is no longer the best in the world. We have good infrastructure but which, unfortunately is rapidly deteriorating and is in need of a $1T facelift for roads, bridges, airports, broadband connectivity, etc.  Look at some of the characteristics that make Silicon Valley a magnet. We embrace diversity and over our relatively short history we have seen the spectacular results of the hard work that immigrants to this country have created.

We may be entering a prolonged period where the developed economies may not be able to exhibit annual growth rates that won't be higher than 1-3%, compared to the typical 5-7%, particularly following recessions. This anemic growth rate may become the new norm. While they continue to worry of the impact of the European debt crisis on the world economy, corporate leaders acknowledge that the US economy is in better shape now than it was in 2008 so they tend to discount the risk of another recession in the short term. In fact, with the IPO window having closed for the time being, corporations are becoming more aggressive about acquisitions using their healthy balance sheets. However, the economic slowdown that started during the summer cannot be ignored. If nothing else, it is demonstrating that the US cannot count on consumer consumption alone for the economy's growth rates to increase significantly. In fact, we are seeing consumers in developed economies, including the US, starting to change their purchasing patterns, particularly their discretionary spending patterns, and begin to go through what is expected to be a massive de-leveraging process that is expected to last for several years. Paying down debt will unboubtedly have big implications to banking (remember that banks and other financial servivces institutions are some of the biggest purchasers and users of IT).  If nothing else, banks may find necessasry to change their business models.  More importantly, it is not clear whether the consumer spending patterns of the past that had lifted the economy out of several recessions, will ever return. This emerging reality of economic growth rates and its long-term ramifications must be explained in simple and comprehensible terms to the citizens of every developed economy.

These have been fascinating conversations that I expect will continue at many levels and will even spread as more people in corporate and government positions realize the magnitude of the problems we are facing and their impact to our every-day existence. As venture investors funding innovation and the entrepreneurs who make it possible and who themselves represent some of the best economic drivers and job creators, we are ready and willing to continue contributing both to the shaping of the economy but also to the overall conversation.

Related articles

• Mary Meeker: Silicon Valley Innovation May Be Unprecedented (downtheavenue.com)
• Silicon Valley remains an oasis of optimism amid the global storm (mercurynews.com)
• Why It's So Tough To Replicate Silicon Valley (businessinsider.com)

Analyzing the Success of Our Portfolio Companies

Most fundraising presentation we see include two pieces of information: the company’s position relative to its competition, hopefully through rankings created by industry analyst groups, e.g., Gartner’s Magic Quadrant or Forrester’s Wave, and the list of awards and recognitions the company has received, e.g., the Inc. 500 award.  During an initial presentation these two pieces of information are never particularly important.  However, they play a more significant role later on, if we proceed with a more detailed analysis of a company while we consider the investment opportunity.  A couple of weeks ago AlwaysOn announced their list of the annual 250 top private technology companies.  Ten of the selected companies are Trident Capital portfolio companies (8thbridge, Appia, Extole, Exelate, Host Analytics, JiWire, Jobvite, mBlox, Pivotlink and Qualys), some making a return appearance in the list.  A few months ago, several of our SaaS portfolio companies (Host Analytics, Pivotlink, Qualys and Voltage Security) were recognized by JMP Securities in their annual Hot 100 Best Privately Held Software Companies list. In addition to some of these companies being included in these lists, they also figure prominently in the relevant category rankings created by Gartner and Forrester.  These two recent recognitions got me thinking about the importance, or futility, of private company rankings, Trident’s contribution to the success of the selected companies, as well as about how the companies can be using such recognitions to benchmark themselves and continue to improve their performance.

It is easy to become cynical about many of these Top X lists (X can be practically anything these days) that have proliferated over the years.  Often enough just paying a fee will guarantee a company’s selection as being top in some category.  For this reason, before we determine whether we should care about any such recognition, we try to understand the process by which a ranking was created.  We consider the how many companies were evaluated overall, the type of companies that were considered, the evaluation criteria used, and the backgrounds of the selection committee’s members. For example, we found out that for this year’s group of top 250 private technology companies, AlwaysOn’s selection committee considered over 1000 such companies (not all venture-funded) and evaluated them in terms of innovation, market opportunity, commercialization ability, shareholder value creation and media buzz. 

Let’s turn now to Trident’s role in the success of these companies.  The portfolio companies mentioned above belong to one or more of Trident’s four core investment areas: SaaS/cloud, adtech, security, healthcare IT.  To better appreciate how our firm works, it is necessary to briefly describe how we approach each such core investment area.  For each of these areas we:

1. Form a separate investment team that is responsible for sizing the overall market opportunity, e.g., search advertising is a $15B market growing at 7% annually, segmenting the market into relevant subsectors, e.g., for search advertising relevant subsectors include keyword management, campaign management, SEO, tracking the company ecosystems and market dynamics that develop around each subsector, developing in-depth knowledge about the management teams, operations and performance of the public and private companies participating in each subsector, formulating area-specific investment theses and leading investments in the companies that satisfy one of these theses.
2. Create a portfolio of related investments.  For example, our adtech portfolio consists of Turn, Exelate, Jiwire, Sojern, Kayak, and Elucido.  Note that each of these companies belongs to a different subsector within adtech.
3. Recruit an advisory board whose members periodically meet with the relevant Trident investment team to provide us with detailed market insight, recommend areas of investment, review our ongoing investment theses, and identify ways to help existing portfolio companies.
4. Hold portfolio company CEO meetings to enable the sharing of best practices and executive networking.
5. Work and syndicate investment opportunities with a select set of other venture firms that share our emphasis in the particular area and have demonstrated the ability to add value to a portfolio company.  For example, we have such relationships with StarVest in the area of SaaS/cloud, and with Norwest in adtech.
6. Maintain an extensive network of executives and entrepreneurs that work with us and our relevant portfolio companies helping us identify the best investment opportunities and then, once an investment is made, contribute meaningfully to the creation of category leaders. 

In addition to the benefits a portfolio company reaps from the efforts of Trident’s area-specific team and network, it can also benefit from cross-area synergies.  For example, one of our firm’s ongoing investment theses is around big data.  While we have not created a dedicated investment team around big data, many of our portfolio companies are big data consumers, producers and/or transformers.  For example, portfolio companies like Pivotlink and Acteea, whose cloud-based software is used for big data analytics, help adtech companies like Turn and Exelate that produce and need to analyze large sets of internet behavioral data, as well as social application companies Extole, 8thbridge and Jobvite that need to analyze social data.  Similarly, these social application companies also benefit from the best practices developed by our SaaS and adtech portfolio companies.  Therefore, the success of portfolio companies and the frequent recognition they receive is the result of an ongoing, multi-year effort by Trident’s area-specific teams.  Such recognitions also tend to reinforce a secondary network effect.  Other venture investors want to work with us to take advantage of our sector knowledge and our network of entrepreneurs and executives, further improving our deal flow.  Entrepreneurs and executives also want to be part of our network, either in order to start new companies and again take advantage of our sector expertise, or join the teams of existing portfolio companies because they want to work in companies that have high probability of success.

I started this post commenting on how management teams utilize external recognition their companies receive for their PR value with potential investors. They may also use such awards as an opportunity to generate leads among prospective customers and partners.  However, by just doing so they miss the more important opportunity to benchmark their company’s performance against other relevant companies that are also similarly recognized.  Steve Blank recently wrote about the importance of benchmarking when he described the Startup Genome Project that benchmarked 650 early stage internet startups.  In order to properly benchmark their companies, management teams need to analyze the selection process in much the same way we do.  They need to understand the companies that were considered, the criteria used for the selection, the backgrounds of the selection committee’s members.  They then need to try to identify the similarities and differences between their company and the other companies that were similarly recognized.  Benchmarking among similar stage companies that have been selected by a group of knowledgeable evaluators under a set of consistent criteria offers a company the opportunity to identify and ultimately adopt best practices in areas such as sales model, customer onboarding, management team composition, and capital efficiency.   Most of the companies, including those in our portfolio, typically compare themselves only against their direct competitors primarily in order to address sales opportunities.  While this is also important, benchmarking plays a different role altogether.

The ongoing achievements of our portfolio companies validate our conviction that investment success during this highly competitive environment and volatile market is based on our area-focused and thesis-driven investment approach and strategy, and on working with companies that have strong management teams, tackle hard business problems that require immediate solution for which companies are willing to pay, and provide this solution through innovative business and delivery models.  Such recognitions also provide unique, even if yet not widely used, opportunities to these companies to benchmark their performance against that of their peers.  Finally, such industry recognitions demonstrate how the work of our internal investment teams and our extended networks can improve the success probability for our portfolio companies and ultimately the financial returns to our investors.

Related articles

• Growing SaaS Companies with Declining Bookings (davidcummings.org)

Commentary on Pacific Crest’s SaaS Surveys and other Relevant Thoughts

A few days ago I participated in Pacific Crest’s workshop for private SaaS companies.  This workshop is being held every year as part of Pacific Crest’s technology conference.  In addition to the spirited discussion among SaaS company executives and investors, during the workshop Pacific Crest’s Brendan Barnicle and David Spitz presented the results of two surveys they conducted.  Brendan spoke about the CIO survey (sample of about 100 CIOs) regarding SaaS trends and sentiment.  David presented the results of the SaaS private company survey (sample of about 70 private SaaS companies) about business metrics.  A number of Trident Capital’s SaaS portfolio companies were invited to participate in the workshop in addition to me.  Of the material that was presented, the data that caught my attention included:

• Overall 2011 IT budgets are expected to increase by 0.9% over 2010 numbers, compared to the 1.1% increase that was anticipated during the 1H11.  Of the surveyed CIOs 35% indicated their intention to re-evaluate their IT budgets during 2H11, with 60% of them anticipating selective budget increases.
• SaaS application usage in the enterprise is increasing and adoption of such applications is becoming a higher priority.  The surveyed CIOs indicated that today 16% of the applications used by their corporations are SaaS, whereas next year the number will be 17%. 
• CRM and BI/analytics, including web analytics, remain the top the areas where SaaS applications are first being used in the enterprise.  More importantly, according to the survey and other information presented by SaaS vendors in the conference, CIOs are now asking for suggestions on the types of SaaS applications to include in their portfolio.  I think that CIOs are realizing the unstoppable SaaS adoption and they don’t want to be marginalized by opposing it as was the case just a couple of years ago.  According to InformationWeek, 65% of contracts with SaaS companies are still being initiated by the business, and only 35% is initiated by CIOs.
• During 2Q11 SaaS vendors were able to increase prices, around 5%, or they offered fewer discounts.  Two reasons were given for this trend.  First, corporations are finding that SaaS applications can drive revenues or significantly reduce cost.  Second, their employees like using these applications so their usage is expanding within each company.  Several of the private SaaS company executives participating in the workshop confirmed this pricing trend but they also countered that they are spending more time than in the past negotiating terms with clients.
• Data is becoming an increasingly important component of every SaaS solution.  SaaS vendors are starting to exploit the data they collect from each customer either in order to offer additional applications around this data, or to provide benchmarking services among their clients.  Almost a year ago I had written about this opportunity and called it insight-as-a-service.  In the main conference, Realpage reported how it is using data to offer 10 new applications to its customers.
• Security, or the perception about the higher security vulnerability of SaaS applications, remains the biggest obstacle to the broader adoption by the enterprise of cloud computing in general and such applications in particular.  The CIOs must also move from a product to a service mentality in order to better support the business units that adopt SaaS applications.  The employees of SaaS companies realize the importance of service and are focusing on this issue much more than the employees of on-premise software companies.
• During 2011 SaaS companies have been growing faster than during 2010 (median revenue will grow 44% during 2011 vs 40% during 2010) but with over 30% of the respondents projecting YoY growth that will be greater than 60%.
• SaaS companies expecting to do $10-25M in 2011 revenue are growing the fastest compared to other smaller and larger companies that were surveyed. These companies expect an average growth rate of 75%.  This rate  is about double of what it was last year’s, indicating that for SaaS companies $10-15M in revenue provides them with “escape velocity.”
• In last year’s survey, SaaS companies that were using field sales were growing faster than those relying predominantly on inside sales.  The 2010 survey results were more balanced.  The companies using inside sales were growing at similar rates to those using field sales.  Moreover, among the 2011 survey participants field and inside sales were the two dominant go-to-market models.  Internet and channel appear to be used relatively infrequently as the primary sales models.  As I had also reported from our own SaaS portfolio company results, the field sales model is being predominantly used by companies whose solutions command higher ACV (over $60-70K).
• Median CAC for new customer dollar was reported at $0.93, whereas for upsells and renewals was reported at $0.28 and $0.16, along expected patterns.
• The surveyed companies reported that they expected their gross margin at scale (defined as $50M in annual license revenue) to be 71%.  Pacific Crest’s target model is at 79%.  Companies that are expected to grow by more than 45% expect to spend 38% of their budget in sales and marketing.
• More companies, particularly those with larger ACVs, are reporting contract lengths of more than 1 year, again indicating a trend that we have also been seeing in our own portfolio companies.  A few of the company executives that participated in the workshop indicated that their customers are asking for longer-term contracts (primarily 3 years) typically paying 1 year upfront.  In fewer cases, SaaS company CEOs reported that they are pushing multiyear contracts on their customers.
• Companies are moving away from pricing based on seats and are looking for other business models that are primarily related to the application’s usage.
• Best in class churn among the companies surveyed was reported at around 5%.
• Most companies that have reached “escape velocity,” i.e., annual revenues that are larger than $10-15M, have raised $25-40M
• Companies are reaching breakeven and are expecting to generate free cash flow at around $20M of annual revenue.

I walked away from the workshop with a few conclusions regarding the state of SaaS.  First, the data presented reaffirmed the unstoppable wave that SaaS and cloud computing represent, along with the tremendous investment opportunity in these sectors.  Second, the presented data further validated the data we track in our own SaaS portfolio companies: customer behavior metrics, annual growth rates, contract terms, ACV, CAC, churn, capital efficiency, and escape velocity.  As I had written a couple of years ago, the 2008 recession catalyzed and even accelerated the adoption of SaaS applications in the same way the Y2K problem catalyzed the use of IT outsourcing during the late ‘90s and the first decade of this century.  I expect that even if the economy continues to exhibit the weakness that has recently been reported, SaaS companies will do great.  Enterprises have come to understand and appreciate the financial benefits resulting from the use of SaaS applications to both their top and bottom lines.  Finally, over the past couple of years, more than ever before, enterprises have comprehended the importance of customer centricity and customer intimacy.  Through the use of SaaS applications, corporations are able to more easily collect and analyze pertinent transactional customer data and mash it with social, mobile and sensor data creating big data collections of unprecedented detail that help them better understand their customers and thus become more customer-centric. 

Strong Results during 2Q11 for our SaaS Portfolio

Despite the macro trends that continue to be challenging for the US economy, concerns about Europe and Greece’s impact on the continent’s economy, and the continued impasse for an agreement that will raise the US debt ceiling, SaaS companies have been reporting strong performance results for 2Q11.  I got a good feeling for the quarter when our SaaS portfolio company CEOs started to report preliminary positive results before the end of June.  We typically have to send messages asking them to update us on the quarter’s performance.  During 1Q11 only 40% of our SaaS companies achieved their numbers.  It was a different story during 2Q11 when 90% of our SaaS portfolio companies made or exceeded their financial targets. 

The public SaaS companies that have already reported quarterly results (Rightnow, Concur, Netsuite, SPS Commerce, Vocus, AthenaHealth) demonstrated strong performance, meeting or beating expectations.  Salesforce and SuccessFactors will be reporting in the next few days but are expected to turn up strong results.  During the quarter we didn’t see the M&A activity that was exhibited during 1Q11, but there were plenty of private company financings (both initial and follow-on rounds) indicating the continued strong investment interest in the sector.  Most of these rounds commanded valuations that depending on how you see it either defy reason or point to investor bullishness on the strength of the SaaS model; but that’s another story.  Based on the data provided to Trident by the private SaaS companies that sought financing during the quarter we saw strong performance during 2Q11. 

There were several elements of our SaaS portfolio’s performance we liked:

1. Increasing demand for SaaS applications particularly by the larger enterprises where business application updates remain one of the top priorities.  We are seeing similar upmarket movement by several of the public SaaS vendors.
2. The percent of multiyear contracts is growing, with more of the larger customers opting for 3-year contracts.  These customers are prepaying at least the first year which greatly helps SaaS companies with their cash flow needs.
3. As the demand for SaaS applications increases, more systems integrators are starting to support the model and are seeking partnerships with the right application vendors, including private companies.  Our portfolio companies signed more partnership deals during this quarter than ever before.
4. Contract renewals met targets and several customers not only renewed but expanded their usage.  This is the result of continued strong ROI that customers are seeing through the use of our portfolio’s SaaS applications.
5. Interest from international clients, particularly from Europe, continues to increase and several US customers are expanding the use of SaaS applications to their international operations and subsidiaries.
6. While still early for definite conclusions, sales pipelines for 3Q and 4Q are growing generating optimism for strong results during these quarters, assuming the US economy does not stall.

The performance elements we didn’t like include:

1. Higher discounting and more deals signed at the end of the quarter.  The larger customers, particularly those signing multi-year contracts, have continued to hold off until the end of the quarter before they commit.  We have seen a few percentage points increase in the amount of discounting necessary in order to close several of these larger deals, compared to 1Q11.  In addition to the discounting, as can be expected, signing a contract at the end of the quarter had a negative impact on the target MRR for these companies.  However, backlogs grew as expected.
2. Increasing sales and marketing costs.  The move upmarket by several of our SaaS companies, as well as many of the public ones by the way, necessitates a different and more expensive sales and marketing approach.  Several of our companies are establishing additional field sales teams to adequately address customer expectations. This move is negatively impacting margins and challenges the high-leverage SaaS sales model that, at least at Trident as long term investors of this software area, we have come to expect.
3. Some of the larger companies looking to adopt SaaS applications expect hybrid cloud implementations primarily because they want to keep their data behind their firewall.  Thus far private SaaS companies have been resisting this requirement because it will necessitate R&D investments to create hybrid cloud versions of their applications.  It is not clear whether our companies will ultimately be successful in convincing customers, particularly in industries such as financial services, telco and health care, about the adequacy of the public cloud for their application needs.

We hope that the lackluster performance of 1Q11 was this year’s exception and that our SaaS companies during 3Q and 4Q will continue demonstrating the strong performance they exhibited during 2Q11.

Social Business SaaS Applications

A couple of years ago while analyzing the ways SaaS business applications could evolve we started thinking about the social web’s impact on business processes.  At the time, Facebook’s success was accelerating while Twitter and Zynga were emerging. We know that consumer-oriented companies want to engage their customers and prospects in the places they frequent, i.e., the social web.  We also started seeing early signs of consumer-oriented technology adoption by corporations. These realizations made us hypothesize that the social web will figure prominently in the next generation of business applications and that these applications will be built on top of new platforms that have the social web at their core.  To date we have invested in three social application companies: Extole, a company that provides a social marketing application, 8thbridge, a company that provides a social shopping and commerce application, and Jobvite, a company that provides a social recruiting application.

As we examine the characteristics of our three investments as well as those of other relevant companies we have considered investing, we have concluded that the applications developed by such companies:

1. Are delivered over the cloud.
2. Automate businesses processes that target individuals (consumers or employees), e.g., marketing, shopping, recruiting, customer experience management, collaboration.  For example, Starbucks’ 13M Facebook fans or Coke’s 11M Facebook fans do nothing for these brands unless they can somehow demonstrate their engagement with each brand. A couple of weeks ago 8thbridge, working with Paramount Pictures, created the Facebook store for the recent Transformers movie.  In the first two days the store went up in resulted in 900K new fans that, most importantly, generated 77K content interactions and also led to many ticket sales.  As consumers increase their participation in social media, business executives continue to create programs to engage with them. In fact, 70% of interactive marketers are currently piloting processes to drive word-of-mouth marketing through their most vocal consumers, 58% have launched systems encouraging consumers to spread company messages; and 47% have launched social tools that allow consumers to support each other, e.g., forums.
3. Are implemented on new platforms with social networking structures, e.g., enable access and operations on a social graph, and capabilities, e.g., capitalize on the social graph to enable viral distribution, at their core.  In addition, these platforms have global reach, support large partner ecosystems, are device agnostic, support online and mobile communications, advertising and commerce.  Facebook has emerged as the strongest platform with these characteristics, in the same way that Google a few years earlier emerged as a platform for applications that had search at their core.  However, we expect that Google, Microsoft and Apple will soon augment their own web platforms with such features as well.
4. Are data-centric, in that they generate and operate on big data, and use analytics to provide a variety of insights pertinent to the business.  Insights on how a fan uses his social graph to spread a message about a brand, how to improve user engagement around a brand, identify which customers must be nurtured because they are brand influencers or can attract talent to a particular company, which customers or brand fans must be rewarded because they can address product problems, and which consumers shall be offered a reward, e.g., more frequent flier miles, because they can drive a particular group-buying behavior, e.g., organizing a vacation with a group of their Facebook friends and purchasing plane tickets, identify customers that are ready to defect because they are dissatisfied with a company’s service quality.
5. Require significant consulting services as corporations are in the very early stages of trying to determine how to take advantage of the social web and appropriately adjust their business processes and practices.  In general, we are seeing that as much as 50% of these companies’ revenue could come from consulting services.  Unfortunately, the established professional services organizations are not yet able to field the right solutions.  As a result, the social application companies end up offering the services themselves.

We continue to look for additional investment opportunities in early and expansion stage companies whose applications use the social web to address important business processes in unique and valuable ways.  Some application categories are becoming overcrowded with companies that have little differentiation and overfunded by investors.  We, however, are looking for the companies that have developed social applications whose value will not become obvious for another couple of years.

Beyond SaaS; Cloud Computing Update and Investment Opportunities

After being away for a few weeks (vacation and business travel), I returned to the Bay Area and attended GigaOm’s Structure conference and Amazon’s AWS Summit.  I have been attending Structure since the first event but this was my first time attending the AWS Summit.  I was drawn to these conferences for two reasons.  First, while over the past 10 years we have invested and continue to invest heavily in SaaS application companies, we have foregone investment opportunities in companies that provide cloud infrastructure solutions, i.e., PaaS and IaaS.  I have been trying to determine whether we should be considering investments in cloud infrastructure companies today, particularly capitalizing on our extensive experience from SaaS.  Second, I am always interested to hear about cloud computing best practices that can be used by our portfolio companies.

Cloud adoption is growing among corporations of every size but particularly SMBs.  In a report published by Forrester on 4/11 the total size of the public cloud market is pegged at roughly $25B (with the majority today being in SaaS applications) and is projected to grow to $160B by 2020.  A recent (May 2011) survey conducted by Morgan Stanley establishes that the usage of public clouds for a variety of workloads is expected to show a 23% CAGR over at least the next three years, with higher usage rates for SaaS applications compared to cloud-based infrastructure.  SMBs see the use of public clouds as a means of significantly reducing their hardware costs.  Larger enterprises are using the public clouds more for rapidly extending the functionality of internally developed applications, with mobile extensions cited most frequently, as well as for executing compute-intensive workloads like analytics.  There is also a lot more talk about private clouds and hybrid clouds.  Most companies in fact are either using all three types of cloud deployment or state their intent to use them.  Only 37% of companies surveyed indicated that they will only use public cloud deployments.  This means that SaaS application vendors may need to start thinking more seriously about the need to offer versions of their software running on private and hybrid clouds rather than the public cloud options that most, particularly the startups, have today.  For investors this will mean that their SaaS companies may need to invest more in R&D and support as they roll out such options.

Security, interoperability, vendor lock-in, reliability, complexity and data privacy continue to be listed as the top inhibitors to cloud adoption.  However, ironically customers don’t always feel that public clouds are less secure than their own data centers.  But in security they also tend to include regulatory and compliance issues.  Privacy is a different story and one that is viewed differently by the US and Europe. 

In a report released during the Structure conference, with some numbers corroborated by Werner Vogels, CTO of Amazon.com during his address at the AWS Summit, GigaOm ranks Amazon as the largest public cloud provider with 2010 revenue of $500M with Rackspace being second.  In his address Dr. Vogels talked about the investments Amazon has made and continues to make around AWS. Rackspace, Salesforce, Microsoft, Google, IBM, and other large companies that want to be providers of public cloud infrastructure and services, are also making huge investments in order to remain price-competitive and offer the broadest possible set of services.  Based on what I heard during that week, and despite the fact that investments in cloud companies are increasing (64 investments in 2009 totaling $180M, and 93 investments in 2010 totaling $713M) I think that it will be hard, if not impossible, for a startup to compete effectively with the large public cloud computing providers.  Public cloud infrastructure has therefore emerged as the battle of the giants.  I continue to maintain that the SaaS application space offers more opportunity to startup companies and their investors, Trident included.

Cloud continues to be defined by its benefits rather than its technology.  Cloud computing’s benefits that were only stated by vendors, are now validated by customers that have been using such solutions.  Surveyed customers see cloud computing as a way to lower IT costs, increase corporate agility, and provide the foundation for 21^st century architectures with the right levels of abstraction from infrastructure to platform that will result in higher quality systems.  Based on these benefits and what was discussed and reported during the conferences, a few of the best practices that may be of use to SaaS application companies include:

1. The application’s architecture determines the level of success and the overall cost of deploying the solution to a public cloud.  Moreover, the successful use of a public cloud by an application provider requires the continuous collaboration between the cloud provider and the application vendor.
2. Public cloud vendors strive to provide uniform, rather than peak-performance, characteristics across the computing resources they provision. This must be taken into account by the SaaS application vendors as they architect their solutions.
3. While a public cloud provider could offer a SaaS application vendor with a low cost way to develop and launch a new application, scaling costs continue to be high, often leading the application vendor to create its own public cloud.  Of course, companies the size of Zynga and Netflix are able to negotiate special pricing with their public cloud providers, e.g., AWS.  However, for private companies that have not yet reached that scale, the options are more limited.

I expect that this year the number of venture investments and the amount invested in cloud computing companies will surpass last year’s numbers.  I continue to see investment opportunities the following areas:

1. Big Data Analytics.  Analysis of Big Data is starting to become synonymous with cloud computing.  I expect that this trend will continue as public cloud providers offer Hadoop and MapReduce options allowing analysts to send their large workloads to the cloud.  Data movement and “accessibility” of such services by business analysts (you shouldn’t need to be a data scientists just so that you can use such a service) will continue to be issues that will need to be addressed.
2. Enterprise mobile applications. Because of the smartphone proliferation, enterprises are now starting to aggressively adopt mobile applications.   As a first step enterprises are looking to create mobile versions of their mission critical applications, as well as develop mobile applications in completely new, innovative areas.  Public and hybrid clouds are uniquely suited for the rapid development and deployment of these applications.  Therefore, both specific enterprise mobile applications and environments for developing and deploying such applications are of interest for potential investments.
3. Data and application integration.  I have often written about how the proliferation of public and hybrid clouds will increase the need for integrating data to such applications as well as integrating applications.  For example, a cloud-based application may need to access data that is behind the firewall, or two cloud-based applications may need to be integrated to effectively automate a business process.
4. Data marketplaces and API management.  As companies expose more of their data for cloud-based application, the data itself and the APIs through which this access is accomplished will need to be managed.   While I think that we are still in very early stages of data marketplaces and API management, and it is not clear whether either of these areas will emerge into substantial markets and lead to the creation of large companies, there may exist a few interesting investment opportunities to consider.
5. Accelerating data movement. Moving large data sets from data centers to the cloud remains a vexing problem particularly for big data analytics applications.  While cloud-based processing and storage performance are improving, data movement has not yet made corresponding strides and is thus approaches to address this problem are ripe for investment.

I continue to be excited about the prospects offered by cloud computing and delighted by the increasing usage of all its layers (application to infrastructure) by small and large companies.  I don’t feel that we have missed big opportunities by not investing below the cloud’s application layer, but feel that there are at least five areas that represent interesting areas for future investments.

Understanding General-Purpose, Cloud-Based Data Marketplaces

Last October I wrote about emerging data analytic services that could be offered under the term Insight as a Service.  More recently Mark Suster wrote about the need for data as a service, and Gordon Ritter in his post added his thoughts on Insight as a Service.  In my post I had proposed three types of data that can be used for the creation of such insights: internal company data, web usage data, and third party syndicated data.   That same month I invested in Exelate, a company that provides a marketplace for online data and a Data Management Platform (DMP) that can both be used to improve the targeting effectiveness of display advertising.  Online advertising and financial analytics are two areas where data marketplaces are succeeding.  Exelate and other marketplaces demonstrate that significant companies can be built in this area.  Companies like Thompson/Reuters and Bloomberg, and startups like cloud-based Xignite, have also been successful in selling financial data to application vendors.  More recently we are seeing the emergence of startups like Gnip, Factual, Infochimps, WebServius, as well as Microsoft's Azure DataMarket introduced cloud-based marketplaces offering a broad variety of commercial and open source data sets.  The success of data-driven application companies such as Zillow, Recorded Future Payscale and a few others provide proof that innovative solutions can be developed from third-party data.  But, the cost of the base data on top of which these solutions are developed, is miniscule compared to the cost of processing and augmenting the data to provide unique value to the user of these solutions.  So, outside the online marketing and financial services areas, under what conditions can venture investors make money investing in companies that offer data marketplaces?

Large quantities of data are made available daily.  Even though Hadoop and other emerging open source Big Data management technologies are significantly reducing the cost of storing, managing and processing such data, I claim that creating a data marketplace from scratch is still an expensive proposition.  For data offered through a marketplace to be valuable it must be unique, and complete.  For the marketplace to be successful in addition to having data with such characteristics it must solve the data distribution and monetization problem.  This is actually a chicken-and-egg problem.  The marketplace must contain enough variety of unique and complete data to attract buyers, but it needs data buyers to attract such data sources. Companies like Factual and Infochimps solve this problem by investing heavily on marketing, offering free onboarding of data, regardless of the data’s revenue potential, and focusing primarily to open source data that is typically coming from governments.

Uniqueness is often created by augmenting a data set in a variety of ways.  For example, Zillow processes Google Earth data.  Exelate’s analytics group does the same to data contributed by online publishers increasing its value and information content for the DSPs that use it, by identifying trends, attributes that are predictive of specific desired outcomes, etc.  It is not clear whether general purpose data marketplaces will be able to provide such augmentation because it will imply that they become experts in several different application areas. This kind of processing costs money and is proprietary, along with the resulting data.  As a result, the processed data many never find its way to a data marketplace.

Completeness of a data set is also very important.  For example, if I want to compare the room prices of major hotel chains across the US in order to determine whether one chain is consistently more expensive than the others, I will need to obtain prices from every US city where the hotel chains being compared have properties.  If I want to be comprehensive I can’t be satisfied having prices for only 60% of the cities, and 50% of the properties of the hotel chain.  I need a complete set.

In addition to distribution, monetization, uniqueness and completeness, privacy, data ownership and data location are a few of the other issues data marketplaces must address.  The marketplace must have clearly articulated policies about who owns the data and what operations can be performed on the licensed data.  For example,  I give my data to Facebook and feel relatively comfortable with their data privacy policies or at least the setting I can control.  We are now seeing applications being built on top of Facebook with completely undefined privacy policies, (Examples: What data are these applications capturing in addition to what is provided by Facebook? How are they using it?  Are they selling the data they capture?).  Contributors to data marketplaces must also understand where their data is stored and what can be done on the data. For example, is their data stored in a country where it can be easily subpoenaed, or distributed with no control?

If these are indeed the necessary conditions for creating a financially-viable data marketplace, then rather than focusing on open source data, marketplaces must focus on licensing and distributing premium data that may be coming from companies like Zillow, Experian, Nielsen, etc.  However, focusing on such premium data providers could imply a vertical, industry-specific approach to building marketplaces rather than a horizontal, general-purpose approach.

We are generating ever increasing quantities of data that can be used in a new generation of innovative solutions. In the presence of all this data, data marketplaces offer to the data owners an attractive model for distributing and monetizing on such data.  However, early indications from companies that have built valuable data-driven solutions, as well as from application-specific data marketplaces show that the type of processing and augmentation that needs to be performed on data before it can be effectively used by such solutions necessitates a vertical marketplace approach rather than a horizontal one.

Trident Capital's Annual LP Meeting

A few days ago our firm held its annual meeting.  We regularly meet with our investors (LPs) individually to update them on the progress of the funds where they have invested.  On a quarterly basis we send them reports detailing each portfolio company’s financial performance.  However, during the annual meeting we bring it all together.  We review the macroeconomic environment in the geographic regions we invest and discuss its impact on the venture investment environment, review the new investments we made and the follow-on financings we completed during the previous 12 months, detail our investment strategy for the next 12 months and invite portfolio company CEOs to present their companies and meet with our LPs.

This year’s meeting was particularly important for Trident. It was the first annual meeting since closing our most recent fund; our 7^th.  Moreover, the last 12 months have been some of the most active in recent investment history with valuations in certain sectors rising to unprecedented levels and fierce competition among VCs for certain deals.  So our LPs were particularly interested to hear our perspective on what transpired during the year and what lies ahead.  We have already made eight investments under our 7^th fund (8thbridge, Acclaris, Appia, Exelate, Extole, Jiwire, Jobvite, Solera) and lost a few more opportunities to competitors.  We also completed 10 follow-on financings in existing portfolio companies, all up-rounds.  During the meeting we stated the investment thesis for each of these new investment, discussed the competitive environment and detailed our plans for helping each new portfolio company.

We invest in early-, expansion- and late-stage North American, Indian and Chinese companies that focus on software, internet and technology-enabled services.  In North America we see a slowly improving economy but with uneven regional growth. In our focus sectors several of our portfolio companies (particularly the early stage ones) continue to see their customers hesitating to invest in new initiatives, particularly when these involve early stage companies. IT budgets are still on track to grow by 5% over last year, even though we are starting to hear of decreasing confidence by CIOs despite the fact that corporate profits continue to increase.  Internet advertising budgets are projected to grow by more than 10% over last year’s numbers.  The business environment is much better for the more mature of our portfolio companies with several seeing 50-100% year over year growth.  The Indian and Chinese economies are obviously growing faster which is reflected in the progress our relevant portfolio companies have made over the past 12 months.

We see technology and business model disruption occurring around cloud computing, social web, local services, and mobile computing. We also see transformational opportunities in sectors such as enterprise security, healthcare IT, and energy IT.  We expect to see accelerating adoption of these technologies by both consumers and enterprises.  This adoption will lead to the emergence of new winners.  For this reason we have been aggressively investing in earlier stage companies that provide solutions using these technologies.  Unfortunately other VCs see exactly the same opportunity.  This has created the emergence of an extremely competitive venture investing environment.  We find that in this environment we compete with the same small group of top-tier VCs.  Our LPs, who attend the annual meetings of several other venture firms, indicated that they are hearing exactly the same story regarding the investment competition from these firms.  They claim to be witnessing the creation of a two-tier ecosystem with the firms that have been able to raise new funds recently occupying the top tier and being able to compete for the better investment opportunities, i.e., the companies with the better management teams, the innovative business models, the breakthrough solutions, and the best market traction.  So while several venture firms are not able to raise new funds and are going out of business, the remaining VCs create a fiercely competitive environment. 

The competition among VCs is causing valuation prices to rise to levels not seen in several years; some say to levels last seen in 1996-1999.  We are still trying to figure out whether such valuations are justified.   In addition to the competition among VCs, higher valuations are aided by an increasing appetite for acquisitions by larger companies and the opening of the IPO market.  While the prices paid for smaller, less mature companies working on cloud computing, social, local and mobile solutions are not particularly high, they still provide very attractive returns to their early investors.  However, the multiples paid for larger companies with strong growth and significant revenues are high.  We predict this acquisition and IPO environment continuing for the next 12 months.

This year we invited the CEO of Turn (www.turn.com) to talk about developments in the online advertising industry and how his company’s Demand Side Platform is becoming the standard platform for Real Time Bidding.  We also invited the CEO of Teladoc (www.teladoc.com) to talk about how telehealth can be used  to control health care costs.  Finally, we hosted a panel on Social/Local/Mobile (SoLoMo as is often now called) with the CEOs of four of our relevant portfolio companies: Extole, 8thbridge, JiWire and Appia.  SoLoMo is succeeding because:

1. We are becoming increasingly connected.
2. Smartphone and tablet shipments will overtake PC shipments for the first time during 2011.
3. Social networking is replacing email as the communication platform and Facebook is emerging as the next internet platform.  Many innovative applications will be developed on top of this platform.
4. Revenues opportunities through the use of local services are increasing with a projected CAGR of 17%.

SoLoMo is:

• Enabled by cloud computing
• Monetized through online advertising
• Accelerated by the consumerization of the enterprise
• Changes shopping/commerce behavior
• Drives the creation and utilization of Big Data

Trident is well-positioned to take advantage of this opportunity because these are all areas where we have strong experience.

This was a particularly positive meeting with lively discussions and beneficial feedback.  We always look forward to the interactions with our LPs, as every investor should.  They provide us with the fuel that makes possible what we do on a daily basis.

Saugatuck Technology’s Cloud Business Summit

Last Tuesday I was on a panel discussion that focused on cloud computing innovations.  The panel was part of Saugatuck Technology’s Cloud Business Summit that was held in NY.  A brief write-up of the entire conference can be found here.  The panel was asked to address several questions such as:

1. Over the next 5 years, what are the key business technologies that will be the most impactful in, and impacted by, the Cloud?
2. How will the consumerization of IT shape how we interface, interact with and profit from Cloud?
3. Who will be the next big Cloud players – where will they come from and how will they change what we already do?

In my remarks I indicated that through our SaaS portfolio companies we are seeing increasing and accelerating adoption of cloud computing.  Companies of different sizes, during the last year increasingly from the Fortune 500, and from different industries are already rolling out or seriously considering SaaS applications to address their business needs.  The drivers for this adoption include a need to reduce the total cost of application ownership, and the need to push sophisticated tools to every part of the enterprise. It is becoming clear that enterprises want deployment options for the SaaS applications they adopt.  In the next 2-5 years SaaS applications will be deployed in public, private and hybrid clouds.  The use of cloud computing, commodity hardware and of standards-based IT stacks will contribute to decreasing data center operating costs, estimated to drop by 5-25% over the next 5 years. 

In the same period we also expect an increasing number of SaaS applications to be developed and tested on top of a PaaS such as Azure, and other applications to be deployed on top of IaaS platforms such as Amazon’s or Rackspace’s.  There will also be increasing use of Amazon’s AWS service to test application functionality and configurability, and in order to address spikes in application usage.  Finally, we expect that corporate IT and third-party application vendors will increase their focus on integration between on-premise and on-demand applications by building more around standards, data security and privacy, as well as on SaaS application adherence to corporate risk and compliance policies.

During the initial phase of investing in SaaS (which lasted roughly until 2008) we focused on companies whose cloud-based applications implemented well-understood business processes, such as sales force automation, employee management, spend management, inventory management, etc. More recently we have been investing in companies that develop applications combining aspects of cloud computing, the social web (we view Facebook emerging as the next web platform in the same way Google emerged as such a platform 8 years ago) and mobile computing to address novel business process.  For example, we invested in Extole that has developed a SaaS application for social marketing, 8thbridge that has developed a SaaS application for social commerce, and Turn, Exelate, and JiWire that have developed SaaS applications that address various processes in online advertising.  We have also been considering investments in companies that develop solutions managing, utilizing or analyzing data from the Internet of Things.

We are paying particular attention to mobile devices and mobile computing.  During 2011 for the first time the shipment of mobile devices (smartphones and tablets) will surpass that of PCs. Consumer use of these devices has altered irrevocably the way we discover (app marketplaces, friend recommendations, user testimonials in social networks), buy (app stores), interact and use applications (touch and gesture-based user interfaces).  It is for this reason that we have invested in Appia that provides a platform for building application marketplaces.  Applications have morphed from large pieces of software with intricate functionality most of which is never used by the average user, to bite-size codes that perform a well-defined important functions extremely well. Consumers have embraced this transformation, are starting to reflect it in the applications they choose to use on their mobile devices to address their corporate needs, e.g., Evernote, Dropbox, and are now demanding to see the same characteristics and user experience from corporate applications developed by corporate IT groups and incumbent third-party application vendors.  All these trends are accelerating the consumerization of the enterprise. The next cloud application leaders will come from the companies that are able to embrace and capitalize on these trends.

We also focus on the new generation of tools and applications that manage and analyze the big structured and unstructured data being generated by applications.  At the top of our list is Hadoop and the associated technology ecosystem. Many of the CIOs we talk to acknowledge that they are testing Hadoop-based solutions to address the rapidly increasing data volumes that must be managed and analyzed.  In the process they recognize the steep learning curve their people have to climb in order to work with Hadoop and Hadoop-based solutions, and are looking for assistance.

This was a lively panel that capped the proceedings of a great conference.

Related articles

• The widening chasm (zdnet.com)

Mixed Results during 1Q11 for our SaaS Portfolio

Back in January I had read some reports indicating that after a strong 4Q10, the US economy was showing the signs of a slowdown.  During January and February in particular businesses slowed their investment activities.  These sobering reports were counterbalanced with more upbeat reports that small and larger enterprises continue their switch to SaaS solutions with CIOs looking to invest in new SaaS applications.  This trend was reflected in the sales pipelines of our SaaS portfolio companies that continued to show strong growth during the quarter.   However, ultimately our SaaS portfolio performance was ordinary, more reminiscent of the performance during 2Q10 rather than that of 4Q10.  In other words, about 40% of our SaaS portfolio companies made or exceeded their quarterly financial targets, with over 70% coming to within 80% of their targets.  By comparison, over 80% of our SaaS companies made or exceeded their financial targets during 4Q10.

The public SaaS companies are starting to present a more hopeful story.  As these companies are starting to report their quarterly results, e.g., Success Factors, RightNow, netsuite, Constant Contact, SPS Commerce, Vocus, we are seeing bookings and revenue growth that meets or exceeds the guidance they had provided.  This growth is coming from multiple industries and particularly from the mid-upper enterprise segment.  We are also seeing the public SaaS companies accelerating their M&A activity (see Salesforce, Success Factors, VMWare) as they try to expand the functionality of their core solutions.   Such moves of course will likely have a negative impact on margins.

Over the past couple of weeks my partners and I attended several board meetings to review the 1Q11 performance of our SaaS companies.  As I mentioned above, the great momentum our SaaS companies achieved during 4Q10 was not carried during 1Q11 resulting in an OK quarter.  Our analysis of their performance is leading us to the following conclusions:

1. Companies of different sizes and from several different industries are considering SaaS applications to address their business needs.  This is reflected in the overall size of the sales pipelines of each of our SaaS portfolio companies by number of opportunities and the size of each opportunity.  In general we are seeing
   • the size of the average opportunity increasing,
   • the age of each opportunity remains small, i.e., few opportunities are over 3-4 months old,
   • the distribution of contract duration has remained steady, i.e., the distribution among one-, two- and three-year contracts has remained the same as in the previous two quarters,
   • the distribution among the size of the prospects, i.e., among small, mid-size and larger enterprise companies, has remained the same as in the past two quarters, and
   • while the geographic distribution of the deals continues to be US-centric, the number of foreign companies in the pipelines is increasing.
2. Analysis of the deals that were won and lost during the quarter indicates that while companies are accelerating their adoption of SaaS applications, in this economic environment they tend to prefer to sign deals with larger, public SaaS vendors rather that smaller, private ones.  Many other companies decided to push their purchase decisions out by 1-2 quarters presumably in order to see how the economy will do during this time.
3. Regardless of the customer size, and similar to 3Q10 and 4Q10, the majority of the sales closed during the last 2-3 weeks of the quarter.
4. Customer churn remained 7-10%.

During the past two weeks I have also had the opportunity to talk with other investors with significant SaaS portfolios and heard that their companies reported similar quarterly performance.

Our management teams feel rather upbeat about 2Q11.  They are basing their optimism on the discussions they are having with the prospects that didn’t buy during last quarter but have indicated that they will make a decision in the very near future, as well as the overall size of their sales pipelines which have continued to grow with consistent regularity.  Finally, as investors we hope that the problems with Amazon’s AWS service that impacted many SaaS companies last week will not have any negative material impact in the 2Q11 revenue and bookings of these companies.  It was fortuitous that it happened relatively early in the quarter.

Related articles

• SaaS will dominate your cloud strategy (zdnet.com)

Hadoop is Many Things Including the Ideal ETL Tool for Big Data Analytics

The success of the recent Strata and Structure conferences (conclusions from last year’s conference and resulting trends can be found here) reinforced the accelerating corporate interest in big data and the specific need for applications and techniques that take advantage of Hadoop.  Based on the presentations I attended or read about, it appears that more companies are getting comfortable collecting Petabyte scale data sets from sensor networks, social applications, IT log files, and online advertising applications.  However, many of the companies collecting these data sets appear to have been struggling with the analysis of the collected data, primarily because of its volume and its complexity (reflected in both the number of unique attributes but also in the fact that data relevant for a particular type of analysis may be spread among several data sets that need to be brought together).  Larger corporations that have already developed data warehousing and analytic infrastructures must understand how to use Hadoop in order to deal with the data volumes being collected in the context of their existing infrastructures.  Smaller private companies, on the other hand, are trying to establish such infrastructures for the first time and trying to determine what role Hadoop can ultimately play.

Companies analyze data either through interactive queries or by creating models.  Such models can predict the outcome of future actions or automatically describe characteristics of data sets.  Examples of emerging analytic big data applications include social media sentiment analysis, and analysis of various forms of data logs for online advertising, computer security, etc.  Hadoop’s MapReduce batch processing programming model has proven effective for model creation.  One may even say that for model creation Hadoop could further benefit by interfacing with open source modeling tools such as those offered by Revolution Analytics.  But for applications that require the generation of real time decisions using such models, e.g., deciding which online ad to display in a particular web page, or determining the likelihood that a credit card transaction is fraudulent before authorizing it, Hadoop’s batch model is inappropriate.  Similarly, Hadoop’s batch processing model is inappropriate for applications that are driven by interactive analytic queries, e.g., identifying the effectiveness of particular price discounts in increasing the unit sales of a product in a specific geographic region.  Hadoop’s strengths make it the ideal “preprocessor” for big data; essentially, the ETL tool for big data analytic infrastructures.

Let me elaborate.  Users of analytic applications that are driven by interactive queries can use Hadoop to select the right data to query (which often involves testing the information content of various data sources before deciding which ones to use), determine whether data from the selected sources needs to be merged into a new source, or transform the data in some other way, (for example, by creating new derived attributes).  In other words, a lot of what commercial ETL tools do today.  In a company with a pre-existing data warehousing infrastructure, analysts can import (load) the preprocessed data into the commercial analytic database, e.g., Teradata, Netezza, Greenplum, or the in-memory database, e.g., Qliktech, and start interacting with it through queries.  In a company without such infrastructure, as is the case with most startups that make heavy use of big data analytics, the preprocessed data can be subsequently loaded in a NoSQL database for further analysis.

Where does this leave big data analytic workbenches like those offered by companies such as Karmasphere and Datameer?  To reach the big data analytic mainstream such workbenches must be part of the Hadoop ecosystem as they have the potential to make it easy for users to set up analytic tasks and perform analyses.  However, their ultimate success will depend on whether Hadoop continues to be viewed as an important component for big data analytics, the approach big data stack vendors, e.g., Cloudera, decide to take regarding the end user/analyst, i.e., will they support such a user directly or through partners, and how well these workbenches become integrated with each big data stack.

Related articles

• DataStax Brisk: Marrying big data tools Hadroop and Apache Cassandra (zdnet.com)
• Hadoop Goes Mainstream for Big BI Tasks (pcworld.com)
• Deriving Intelligence from Large Data Using Hadoop and Applying Analytics (oreilly.com)

eXelate’s DMP

A few days ago eXelate (www.exelate.com), one of my portfolio companies, announced the latest release of its Data Management Platform (DMP).  A DMP is software that centralizes the management of online audience data.  It enables marketers to manage pixels, control data access and latency, package and segment data, gain insight into audience activity through the use of analytics, and control privacy.  Similar to Demand Side Platforms (DSP) that enable Real Time Bidding (RTB) and are radically transforming online display advertising, Data Management Platforms are becoming an essential and important component of the emerging display advertising technology stack. 

Because of the DMP’s importance to display advertising, over the past year several companies have announced such solutions.  I organize these solutions into three categories: a) pureplay technology offerings, b) solutions aimed at the advertiser, and c) solutions aimed at the publisher.  The best example of the first category is Demdex (www.demdex.com) that was recently acquired by Adobe.  The best examples in the second category are the DMPs offered by BlueKai and by our own portfolio company Turn.  In my opinion, the best example of the final category is eXelate’s DMP, with Rubicon having a potential competitor.

eXelate’s DMP enables publishers and data owners to manage access to their data through a system of configurable connectors.  As publisher websites are increasingly pixelated, eXelate’s DMP helps reduce the impact of these pixels by monitoring site latency and leveraging pixel-free integrations.  eXelate’s DMP also helps publishers leverage data on their own ad inventory and through media extensions.  It enables publishers to build direct relationships with data buyers, set pricing and prioritize their data buying queue, and get visibility into how much revenue audience data is generating including analytics on historical trends relating to pricing and volume.

A major concern for publishers today is data theft.  They want to control audience access by detecting and monitoring third party trackers running on their websites.  However, today they are challenged in determining who is accessing data on their sites and what the associated monetary and privacy risk may be.  eXelate’s DMP allows them to gain the appropriate visibility.  By also incorporating the latest consumer privacy policies it allows audiences to control what information a publisher’s site can collect on them and provides an easy opt-out of all third party cookie activity.  In this way, publishers learn more about their audience.  Publishers can then incorporate eXelate’s data about their visitors in order to serve them more relevant ads.

Exelate offers both a data marketplace and a DMP.  The work the company is doing to support its data marketplace customers has provided particularly useful know-how that has been directly reflected in the DMP’s functionality.  For example, the marketplace is already interfacing with hundreds of publishers and has server to server integration with many DSPs.  Making these integrations successful in a way that enables RTB has provided valuable knowledge that is reflected in the DMP’s configurable connectors and has resulted in improving its performance, thus reducing latency.  Pureplay DMPs don’t have extensive knowledge in this area unless their customers choose to share their relevant experiences with them and even then one would assume that it will take some time before these are reflected as appropriate DMP characteristics.  Similarly, eXelate has been working for the past couple of years on defining analytics that help its publisher customer analyzing the big data that is transacted in eXelate’s marketplace in order to understand their audience.  Determine which of these analytics need to be supported by the DMP only comes from having such experiences. 

Over the next 12-18 months I expect that Data Management Platforms will be a very active technology area with new offerings specialized by intended user (publisher or advertiser) entering the market, and with several startups being acquired by larger companies, e.g., software providers, data providers, ad agencies, that are in the process of creating complete RTB systems.

Related articles

• The Morning Lowdown 03-23-11 (paidcontent.org)
• The Like-ification of 2011 (venturebeat.com)

Social Commerce and Our Investment in 8thbridge

Today we are announcing our investment in 8thbridge (www.8thbridge.com), a company that provides social commerce solutions to mid- and upper-enterprise customers.  Following our successful investment in Extole (www.extole.com), a company that provides social marketing solutions to the same market segment, we had been looking for an investment in social commerce to round out or portfolio.  The meteoric success of social commerce companies like Groupon, LivingSocial, Gilt, Rue La La, and Haute Look convinced that there will be a need for integrated solutions that enable companies to participate in social commerce.  Brands are aggressively building their Facebook presence to take advantage of where consumers spend their time.  For this reason we believe that they will invest in solutions which enable social interaction on Facebook and use it as an important sales channel.  Over the past two years 8thbridge’s team led by Wade Gerten has developed an innovative social commerce application and has signed up a significant number of large customers including companies such as Delta Airlines, Haute Look, Brooks Brothers, and Mark Avon’s fastest-growing division. 

Consumers connect to a brand on Facebook for three reasons: 1) to stay current on available new products, 2) to receive coupons and discount offers, and 3) to let their friends know about the products they support.  Corporations like Coca Cola, Starbucks, P&G, and Disney have come to realize that consumers are engaging around their brands on Facebook and during the past year they have started investing heavily on marketing programs that to facilitate and enhance this type of engagement.  Social commerce may be a key to demonstrating ROI to brands on Facebook.  Companies use 8thbridge’s solution to enable in-stream shopping in Facebook’s brand’s pages, essentially the equivalent of natural search for a brand.  A recent report published by Booz& Co puts social commerce of hard goods (apparel, tickets, etc.) at $5B during 2011 and projects it to grow to $30B by 2015 split almost evenly between US and the rest of the world, for a growth rate of 56%.

During a relatively short time we’ve seen social commerce solutions evolve in three phases.  The solutions of the first phase offered stores built on the tabs of a brand’s fan page.  The solutions of the second phase offered shopping in the news feed.  Brands can market to consumers who opt-in and they in turn market to their friends.  The most recent solutions are able to utilize the power of the Open Graph enabling consumers to engage their friends, participate in a truly social shopping experience and in the process get better deals.  Several of 8thbridge’s customers, with Delta Airlines being the leading one, have already implemented such third-phase social commerce programs using the company’s solution.

We view social commerce as an extension and complement to ecommerce; certainly not a replacement.  Whereas consumers go to ecommerce sites seeking needed items, they engage in social commerce more for impromptu purchases.  Ecommerce is fueled by paid search, SEO programs.  Social commerce on the other hand is fueled by fans and their friends, paid Facebook ads, and social marketing programs driven by ecommerce sites.  Finally, whereas ecommerce sites use affiliates to drive traffic and sales, social commerce uses affiliates to drive sales within social networks. 

Social commerce is still in its infancy.  We expect that during 2011 brands will continue experimenting with both social marketing solutions as they look to expand their presence on Facebook as well as with social commerce solutions such as those provided by 8thbridge as they try to determine how to best sell to consumers without distracting from the overall Facebook social experience.  We also anticipate that around the 2011 Christmas holiday season companies will start looking for hard ROI metrics for these solutions.  In addition, merchants are also waiting for Facebook’s approach to commerce and how parallel it will be to its approach towards social games.  We look forward to working together with 8thbridge’s team to build a great company around this exciting opportunity.

CIOs: Focus on Mobility, Cloud Computing, Security and Innovation

A few weeks ago my partners and I met with the members of our IT advisory board, a group of corporate IT executives from a variety of industries that work with our firm.  During this daylong meeting we discussed a variety of topics such as analytics, vendor management, infrastructure management.  However, we focused primarily on mobility, cloud computing, social applications, security, and IT innovation in the enterprise.  We also confirmed that for the time being 2011 IT budgets are holding steady at 5-6% above the 2010 numbers, a range that is consistent with what had been reported by investment analysts at the end of 2010.

1. Mobility. This is a big year for mobility with smartphones and tablets starting to have a significant impact in the enterprise. CIOs are adding iphone and iPad to the mix of devices they support because the employees forced them to.  In the process they are accepting that IT is falling behind being able to properly control mobile application dissemination.  Because of the proliferation of these devices, enterprise refresh cycles are changing.  PC refresh cycles are now at 4 years whereas refresh cycles for smartphone and tablets are expected to be 1-2 years.  The CIOs noted a lack of talent in their shops for building mobile device applications. Mobile device management and compliance around contracts for the mobile applications are becoming big deals.  App stores don’t provide the right model for the corporate IT to control mobile enterprise applications.  However, the app store provides the right paradigm for distributing applications.  CIOs are slowly realizing that on mobility it is not only about the device but also about understanding what users are doing on the devices. Finally, it appears that Android is making strong strides in the enterprise.
2. Cloud computing.  CIOs understand the advantages of the public cloud but they often can’t push their businesses processes to the public cloud.  However, they are working to understand which of the Tier 2 and Tier 3 applications can move to the cloud.  Understanding the Total Cost of Ownership (TCO) of cloud-based software, including SaaS applications, continues to be a thorny issue preventing quicker migration of certain workloads to the cloud.  According to our board, vendors of cloud-based software are not doing a good job in providing transparency to their solutions’ TCO.  However, the CIOs acknowledged that business units are taking matters in their own hands and are moving business processes to the cloud.  Application and data integration (integrating among cloud-based applications, as well as integration between cloud-based and on-premise applications) was mentioned again as a problem that further complicates the migration. As CIOs consider application refresh cycles, cloud-based alternatives become viable options.
3. Social computing.  Companies, particularly in the pharmaceutical industry, are starting to consider how social applications for CRM, Customer Experience Management and closed loop marketing allow them to establish better connections with their customers and with physicians.  They are trying to understand how to use social applications to disseminate information more effectively and use techniques found in consumer-oriented social networks, e.g., likes, referrals, testimonials, to better interact with their constituencies. Security. Mobile, social and cloud computing are putting further strain on how to be secure the enterprise.  CIOs started thinking about how their strategies are being impacted by these computing styles as well as by the mobile devices being adopted by the employees.
4. Innovation.  Companies are not doing enough about IT innovation.  Today most IT organizations spend 80% of their budgets on fixed costs, including maintenance and only 20% on strategic projects.  One of our CIOs in our advisory board indicated that he spends 35% of his budget on strategic projects but he appears to be the exception.  Based on the ensued discussed we also learned that many business units have budgets for innovation-related projects.  However, the lack of the right talent was identified as the biggest inhibitor to driving IT innovation in the enterprise.  The competition for the right talent is becoming very intense and is mostly coming from internet companies.

Related articles

• The Year of the Hybrid Cloud (blogs.cisco.com)
• Hybrid Cloud Computing Security: Real Life Tales (pcworld.com)

Watson on Jeopardy! Big Data Analytics and User Experience

Last week five other VCs and I were invited by IBM’s Venture Capital Group to a private viewing of Jeopardy’s final round where Watson was competing.  Following the show, and Watson’s win, we engaged in a very interesting conversation with Eric Brown, Watson’s technical lead, and Anant Jhingran, CTO of IBM’s Information Management Division, about the potential applications of the technologies that made Watson’s win possible.

Let’s first talk about the overall system.  Watson is a question-answering system that represents 100 person-years effort by a team of 25 IBM scientists.  Watson is running on 750 Linux servers with 2880 cores, 15TB of RAM and providing 80 teraflops of computing.  Its software architecture is based on UIMA and integrates a variety of machine learning algorithms that have been used to develop approximately 3000 predictive models.  These models are running in parallel every time Watson is trying to answer a question. The predictive models were tuned over several months by utilizing Watson’s results from a series of 134 “sparring matches” with past Jeopardy winners. Watson’s “knowledge base” was seeded with 70GB of curated, i.e., noise-free, full-text documents and eventually grew to 500GB, consisting of additional curated documents and information derived from the seed database.  The final knowledge base represented approximately 200M pages of textual content.  The text data was preprocessed using Hadoop.  However, Hadoop was not used while Watson was competing in Jeopardy.  Watson’s knowledge base also included various sets of handcrafted rules including rules that provide clues on what to look for and others that describe strategies on how players select within a category so that they can find Jeopardy’s daily double.

Watson operates through a cycle of hypothesizing an answer, gathering evidence that supports each hypothesized answer, evaluating the probabilities associated with the collected evidence and proposing the final answer.  As audiences discovered over 3 days of play, all this is done in “warp” speed.

There are several reasons of why we should care about Watson as a Big Data analytics system.

1. The interaction with Watson through spoken language will be particularly important for the broader use of analytic applications by business users.  The use of such applications is often limited because business users are often intimidated by their complex interfaces.  Watson demonstrated convincingly that natural spoken language interaction with computers is no longer science fiction or the result of Hollywood special effects teams. In prior posts I wrote about Watson exhibited superior natural language-understanding skills; and this is a really big deal.  It was able to address the inherent ambiguity of natural language and understand word-meaning and context.  Jeopardy’s statements represent much harder problem descriptions than the queries we typically pose to search engines.  They use puns, double meanings and misspellings to convey meaning.  While for a human this may be second nature, for a computer it is a very hard task.
2. Watson is making decisions and is responding to questions by utilizing a knowledge base of textual, unstructured information, rather than a knowledge base of well-structured concepts and rules that has previously digested and represented using a knowledge representation language, such as CYC.  In this respect Watson is significantly different from other question-answering systems such as Wolfram|Alpha.  Stephen Wolfram wrote an interesting post regarding the different approaches taken by Alpha and Watson.
3. While the data sets Watson was analyzing during Jeopardy were relatively small by Big Data standards, being able to quickly and effectively analyze unstructured data is representative of many big data analytics situations, where you don’t always know what data you will need to analyze, where it will come from, how large each data set will be, how clean it will be and how long you will have to provide an answer.
4. Watson concurrently utilizes a large number of predictive models to analyze big data and come up with answers in real time.  This is significant because it provides another important approach to analyzing big data, i.e., rather than parallelizing a single analysis algorithm and then using MapReduce to apply it on a big data set, as is typically done in various Hadoop/MapReduce implementations, Watson applies several different predictive and scoring algorithms concurrently.  Some of these algorithms may be parallelizable and thus able to take advantage of MapReduce.  The application of these algorithms on text data is particularly important to IBM since the majority of its customers possess a lot of such data.  Admittedly the data analyzed by Watson was curated and clean.  As mentioned above, the majority of big data is not of such quality.  IBM will need to test the system’s performance with noisier data, since corporate data is rather noisy, as well as with voice and video data.  Moreover, incorporating online data will introduce additional noise which will undoubtedly impact the Watson’s performance.  Watson cannot deal with incremental additions to its knowledge base regardless of the form these additions take, i.e., text documents or rules.  Such additions necessitate the re-tuning of the predictive models used.
5. According to IBM, the majority of the software used in Watson is open source.  That we can build such a sophisticated system from open source components is a feat in itself.

Of course IBM is very interested in business applications of the technologies that made Watson so successful.  These application areas must involve the use of complex language, including the use of such language in the data to be analyzed, the need for reaching high-precision responses/decisions/actions using ambiguous and noisy data, as well as the need to provide responses with confidence in real-time.  Some initial application ideas we discussed following the show included:

1. Medical diagnosis, including telemedicine.  The body of medical knowledge is becoming large and growing very fast. Being able to work directly from text rather than having to first represent medical knowledge in some intermediate language, as was the case with expert systems in the past, could represent a big breakthrough.
2. Technical support.  Help desks use mostly text data to provide answers to product issues. Increasing the accuracy of these responses while improving the overall user experience is important. 
3. Insurance claims analysis.  This is another area where the captured data is in text form and a system like Watson can be used to analyze it and provide a better user experience when consumers interact with their insurance provider.
4. Other application areas we discussed included online advertising, air traffic control and financial portfolio creation where Watson’s real-time analytics can be the central component of an overall solution.

The business model under which to offer Watson-like technology is another issue IBM is thinking about.  Should such a system be offered as a service or as on-premise software?  Of course it will depend on the application.  One of the ideas we discussed was to run Watson as a service and charge by the difficulty of the question asked or the importance of the answer provided.  This may be something that IBM can do for medical applications, for example, in collaboration with its traditional partners Mayo Clinic and Cleveland Clinic.

The Watson team deserves all the kudos they have received.  Not only for their win in Jeopardy! but, more importantly, for their technical accomplishments, the water-cooler discussions that resulted the day after each broadcast which will hopefully make more people (particularly young people) interested in technology and engineering, and the technical conversations they motivated among engineers and scientists about what is possible regarding big data analytics and human/machine interactions.

Related articles

• IBM's Watson crowned trivia king (bbc.co.uk)

Impressions from Strata 2011

Last week I attended Strata, a conference organized by O’ Reilly and devoted to big data.  I was a large conference (790 attendees) whose content included both technical talks and tutorials about the new generation of big data tools, e.g., Hadoop, Cassandra, visualization, as well presentations on big data business applications.  The diversity and size of the audience and the reported business successes provided a strong indication of how important and popular the area of big data has become. 

Big data is pervasive in many of the companies Trident has funded the last few years.  We have invested in companies that generate and/or process big data, e.g., eXelate, Extole, HomeAway, Sojern, Turn, Xata, as well as companies that provide platforms for storing, managing and analyzing big data, .e.g., Acteea, Host Analytics, Pivotlink.  We recognize that many of the companies we invest in the future will need to have competence in big data.

There is a big difference between big data and data warehousing stemming primarily from the nature of the data.  Data warehousing was all about analyzing transactional data that was captured from enterprise applications such an ERP or POS system.  In addition to the actual transactions, big data is about capturing, storing, managing and analyzing data about the behavior of transactions, i.e., what happens before and after a transaction.  This has several implications.  First it means that the captured data is less structured.  It is easier to analyze a collection of purchasing transactions in order to try to identify a pattern, instead of analyzing a series of selections made across of set of web pages to establish a pattern of behavior.  Second it implies that meaning must be extracted from events, e.g., the browsing activity prior to buying an item.  To be effective in this more open-ended exploratory data analysis one has to break through the data silos that are typically found in enterprises and bring all available data to bear.  It also means that one must be collecting all available data rather than trying to decide a priori which data to collect and keep.

Data science is becoming a field.  Big data is eliminating the segregation between the people who manage the data, the people who analyze the data, and the people who present/visualize the data.  A good data scientist must be able to do all three, though, as I wrote last week, translating business requirements to a data problem and the resulting insights to business actions and value remain largely missing skills in data scientists.  Good data scientists are in high demand, as indicated by the jobs being advertised at the conference and as reported at the conference by LinkedIn.  They are expected to play a significant role on how their companies evolve.  That’s not something we were used to hearing about data analysts who were always considered fixtures of the back office.  I know because I started my career in data analysis.

Corporations have a lot to learn about big data from consumer-oriented companies that generate, manage and analyze big data, e.g., Amazon, eBay, Facebook, Twitter, and LinkedIn to name a few.  This is a reversal of sorts.  In the mid 90s when I was with IBM I was running an organization that was devoted to building data warehouses and providing analytical tools and services to Global 1000 companies.  At that time various companies, including many of the then nascent Internet companies, were trying to learn from the data warehousing and business intelligence practices of Walmart, Citibank, and First Data.  Today such companies will do well by trying to understand and apply the big data techniques being developed by many internet and social media companies.  One big difference is how such companies approach data stores.  Traditional businesses see the enterprise data warehouse as storing the “single version of truth” about the data.  Big data stores are viewed as containing multiple perspectives.  Their contents must be analyzed with the right set of tools in order to gain a perspective about the problem at hand.

Talking to the conference’s attendees I got the impression that more companies than ever before are starting to view data as an invaluable asset and a potential key to their success. They are no longer intimidated by data volumes and are using the new generation of big data management and analysis tools to bring more data under their control. 

Strata was a great conference that brought under one roof the leaders in big data thinking, and doing.  It also showed that, though increasingly important, this is still a small community and in many respects its overall size has not changed since the time I was one of the analysts.  We all need to find ways to accelerate the education and introduction to market of new data scientists.  The ability of many companies to continuously innovate, become leaders, and remain in this position could largely depend on their ability to recruit data scientists who can effectively exploit their big data assets.

Related articles

• Will data warehousing survive the advent of big data? (radar.oreilly.com)
• Executive Summit kicks of O'Reilly Strata Conference 2010 (cloudave.com)
• Strata Conference 2010: Real World Applications in the Enterprise and Industry (cloudave.com)

Business Analytics Obstacles

Last week my partners and I hosted a meeting of our IT Advisory Board.  This board consists of senior IT executives from Global 2000 companies including CIOs and CTOs.  I will write about the topics discussed in this meeting in a few days, once I had the opportunity to clean up the several pages of notes I took.  Today I wanted to relate one of the conversations I had with a couple of the board’s members during one of the meeting’s breaks.  We started talking about the effective utilization of business analytics by companies.  Both executives commented that their companies are increasing the utilization of analytics to understand their consumer customers.  In fact, one of them stated that during the last 3 years their analytics group grew from 4 analysts to 20.  Moreover, they stated that senior business management in their companies is more sensitized to the importance of analyzing corporate data to gain any type of competitive advantage.  As I tried to ask them about the analytic tools and solutions their companies currently employ and how these have been changing over time to deal with the increasing volumes of data, they both stopped and said that their biggest obstacle for the broader utilization of business analytics was not technology but the proper and effective application of the information they extract from the analyses they perform.

Both of these companies have always been early adopters of analytic and associated data management technologies.  Both executives indicated that they feel particularly good about the caliber of their corporate data analyst groups.  However, today, by their admission, both of their companies lack the people who can provide a “two-way translation,” i.e., first to properly translate a business problem to a data analysis problem (that can subsequently be tackled by the quants), and second to formulate (or re-translate) the analysis results in a way that business executives will understand, appreciate, and be able to act on.  Companies that provide business intelligence (BI), analytics and even data warehousing solutions talk about how they target “business analysts.”  The business analyst has become a mythical position in corporations.  The business analyst is generic description for an individual who works for a business unit, as opposed to an IT organization, and uses such analytic solutions in the course of business.  However, our advisory board members said that the business analysts in their companies use such solutions to address well-understood problems and activities, not novel situations that may call for an data-driven analytic approach.  These business analysts may use a query and reporting solution like Qliktech’s or a multidimensional analysis solution such as Microstrategy’s but they are not able to provide the two-way “translation” I described above.  In their opinion, the right translator/analyst must have the appropriate level of business understanding and experience to understand complex business problems in their entirety, be articulate enough to describe it appropriately to data analysts, the right amount of data knowledge to be able to broadly identify the types of data that will need to be utilized by the quants to provide insights and information, the ability to take these insights and relate them to the original problem providing actionable solutions and finally the executive gravitas to present these solutions to the business executive(s) who will act on them.

There exist independent consultants who play this two-way analytics translator role very effectively but their extensive and continuous use by corporations is not feasible, mostly for financial reasons; they are too expensive and in too high demand.  In discussions I’ve had with some members of IBM’s 7000-strong analytics and optimization consulting unit I heard that those of their consultants who can provide such services are in the highest demand.  In fact IBM can’t find enough of them to hire and deploy with corporate clients around the world.

So while we celebrate the development of new analytic tools or solutions that can deal with even larger and more complex quantities of data that must be processed faster than ever before, we must not lose sight of the fact that we must address our inability to identify enough “translators” who can help us analyze the right problems and effectively use the insights we discover.

Related articles

• IBM doubles down on business analytics (infoworld.com)
• IBM's Watson: The Future of Business Analytics? (enterpriseirregulars.com)

CES 2011 Report

The CES this year had about 140K attendees, a significant increase over last year’s attendance.  More importantly, 30K of these attendees were international.  Last year was good for consumer electronic sales, particularly the Christmas season, so that buoyed the attendees spirits. This was another show demonstrating CE evolution rather than revolution.  As I wrote last week, this year I went to CES looking for the impact on consumer electronics in three areas: mobility (tablets and smartphones), app stores, and Internet. 

Themes of Interest

• Tablets. This is definitely going to be the year of the tablet.  In all, 80 tablets were introduced at CES showing different visions for the device.  For example, Samsung and Dell introduced tablets with full keyboards aimed at people that want to create content rather than just consume it.  Most of these will start hitting the market by April.  Undoubtedly with so many tablets hitting the market, prices will drop.  I spoke to a few CE buyers who stated that consumers would want tablets with Kindle’s weight and battery life and iPad’s functionality and overall application experience. Google emerged as the early tablet operating system/platform winner as most of the introduced devices were running Android.  Google also demonstrated Android 3.0 that has been designed for tablets (better video performance on YouTube, 3D maps, video chat).  Motorola demonstrated Xoon, a tablet running it.  I liked Blackberry’s tablet (the Playbook) but it will be hard to catch up Android-based tablets in terms of applications running on it.  Microsoft announced the porting of Windows on ARM devices but I think that it will take a couple of years until we see such devices in the hands of consumers.  However, the availability of applications such as Office in ARM devices, combined with the appropriate cloud computing services, may represent Microsoft’s best hope in having an impact in tablets.  With Windows on ARM the consumer will stop caring about the PC’s architecture and focus on the seamless operation of applications across all devices he is using.
• Smartphones. Two types of devices caught my attention: 4G smartphones and a new category of phones called superphones.  Several 4G smartphones were introduced this year and the prediction was that in next year show every-high end phone will be 4G.  For example, Verizon alone introduced 10 4G-enabled devices.  While the devices looked great, the availability of 4G wireless networks and of bandwidth will become the key factors to their success and to the overall success of the mobile internet.  Carriers expect 100-fold increase in the use of bandwidth through the use of 4G.  In his presentation FCC’s Chairman Julius Genachowski talked about auctioning new spectrum for broadband.  It may take at least another 2 years before we know whether consumers will adopt 4G and will start upgrading their 3G smartphones.  This year also saw the introduction of a new category of smartphone which are starting to be called superphones.  These 4G devices, while the have the dimensions of smartphones, their capabilities make them more like tablets.  They run on Android and include 2GHz processor, 1 GB of RAM, multi-gigabyte storage, can be connected to a keyboard and a display and show video at 1080p resolution.  Motorola introduced the Atrix that in addition to being a superphone comes with its own webtop device. 

 

Two more thoughts on mobility.  First, it appears that we are settling into an operating system duopoly (Android, and iOS). Second, 3D is coming to smartphone screens (we’ll see several devices working next year) which I actually think that it is a better idea than 3D on TV screens.  The 3D effect is better because the user is relatively close to the phone’s screen and is staring directly into it.

• App stores. I didn’t think that we needed so many app stores but apparently many CE vendors (e.g., Samsung, LG, Intel, Dell) think we do, so they introduced one.  Samsung’s has 150 applications, LG’s has over 100 applications, and Intel’s has over 2500 applications.  Many appear to run the same applications, e.g., Pandora, and incorporate cloud-based services to store content.  Unfortunately none of the app stores are compatible so application developers have to maintain different versions of each application.  Ford also introduced an app store to provide applications for its Fusion Electric car that was introduced at CES and will be available next summer.  Ford’s goal is to provide applications that allow consumers to personalize their car experience, much like they personalizes their smartphone experience, better operate the electric car, by providing for example energy management applications, and allow for application updates over the cloud, thus allowing for improved technology refreshing. 
• Internet. This year TV sets were getting smarter as they are being built on Internet platforms (Google, Yahoo) allowing the consumer to access and interact with the web from the TV set. 

 

This 2-way interactivity will allow marketers to use direct response models through the TV.  It also means that consumers will be able to access content without the use of set top boxes. The cloud plays an important role in this area as it also enables content to be streamed to these connected devices.  This year’s CES provided a great showcase for the Internet of Things. Several manufacturers, e.g., GE, LG, Samsung, introduced internet-connected home appliances that take advantage of the smart grid and provide better home energy management.

Investment ramifications

1. More emphasis on mobility and the mobile internet.  The new tablets, smartphones and superphones will need new, specialized applications that take full advantage of the device functionality and intended audience, as well as of the rich network services provided by the carriers.  For example, in at interview at D@CES, Twitter’s CEO Dick Costolo said that while today 40% of all Twitter’s users are on mobile (up from 25% last year), 50% of the most active users are primarily tweeting from mobile devices.  For this reason, he is talking to mobile device manufacturers about embedding Twitter into their new platforms to make easier for the users to tweet.  The use of 4G phones will result in 100-fold increase in the use of bandwidth.  We need to develop applications that innovate in the use of bandwidth.
2. Platform dominance.  While Google with Android is trying to emulate Microsoft’s Windows strategy on the PC by attempting to become pervasive on mobile devices and IPTV, there will not be a single platform winner this time around.  Apple (with iOS for mobile devices and Apple TV) , and Microsoft (with xBox for IPTV, and eventually Windows on ARM for mobile devices) will continue to compete with Google.  Wireless carriers and cable operators are going to play a prominent role in this competition as well.  The competition presents interesting choices for application developers, since they will need to support multiple platforms (expensive) and each platform uses a different business model.
3. More emphasis on social media.  This CES showed the impact social media are having on the new generation of mobile (I heard the term “mobile sociality”) and home devices.  The Facebook application was on every announced app store along with several other social apps.  Dick Costolo spoke about remote controls with a Twitter button.
4. Cloud computing.  Device manufacturers sense that consumers’ comfort with cloud computing is increasing.  This is therefore the right time to be investing in a broad range of cloud-based solutions.

Related articles

• CES 2011: The Best New Android Devices (readwriteweb.com)
• Android invasion arrives at CES (cnn.com)
• Editorial: Five Things Android Tablets Will Need In Order To Succeed (androidpolice.com)
• Xoom stands out in a CES sea of Android tablet dreck (linuxfordevices.com)

Areas of Investment Interest for 2011

Happy New Year to all!  Like every year I am writing about the technology areas I will be following and focusing on during 2011.  These areas build upon those my partners and I followed during 2010.  During the holidays I wrote about online advertising, mobile and social web as areas Trident will continue to target.

1. Tablets and smartphones.  In a couple of days I’ll be heading to CES where I expect that several vendors will be introducing new tablets and smartphones targeting different customer segments.  My interest around these devices centers on the platforms they support, e.g., HTML5, novel features they will incorporate, e.g., NFC, the new types of applications these features will enable, e.g., mobile wallets, and the types of data they will be generating.  Tablets and smartphones are sensor platforms. 
2. Cloud computing, SaaS, and virtualization.  Cloud computing was one of the biggest technology trends for 2010 and corporations continued to virtualize their data centers (see my comments from the Goldman conference). Cloud management and management of virtualized environments are two important areas we are targeting.  Cloud management in particular is becoming a hot space.  We just lost a deal in this area after significant competition with two other venture firms.  I am also following closely the evolution of PaaS platforms and the SaaS applications they will be enabling, particularly now that enterprises have started aggressively adopting SaaS applications and developing their own cloud-based applications.  We will continue looking for context-aware, social (see below) and vertical SaaS applications.  In 2010 we invested in Acclaris (healthcare IT) but passed on several others.
3. App stores and application models.  I am watching how the app store is developing as a general purpose applicaiton distribution mechanism.  App stores are moving beyond smartphones (see what Apple is doing with the Mac App Store) into other consumer electronics devices, e.g., TVs, cars, (another area I’ll be watching at CES) and finally the enterprise.  An area of interest is application discovery within app stores.  As the number of applications offered by an app store increases, identifying those with the functionality that is appropriate for a particular task or specific business process will become very important.  Finally, between the proliferation of app stores and the more extensive use of PaaS for application development we see a new model emerging for enterprise application delivery and licensing.  Enterprise application functionality will be developed in much smaller chunks and will be priced accordingly, very much like it is happening today in smartphones. 
4. Social computing for the enterprise. We are focusing on three areas within social computing for the enterprise: customer service where I think there is opportunity for significant innovation in business settings, marketing, where word of mouth and friend referral programs are proving very effective for B2C and B2B businesses, and Facebook ecommerce, because so many companies are now setting up their stores within Facebook.  We are rethinking the workflows and business processes as we try to better understand how social computing can be used effectively in the enterprise.
5. Big data and analytics. We will be moving from just collecting and managing/organizing big data (web site data, social data, mobile data, data from the Internet of Things) to thinking how to effectively analyze it.  In-memory analytics, Hadoop, Google’s Percolator are technologies we follow.  Privacy and security will be important data-related issues that started coming to fore during 2010 and will remain so during 2011.  While I don’t expect to see technology-driven solutions to these issues, I anticipate that during 2011 we will need to engage in healthy dialogs about what data privacy in today’s environment really means.

Related articles

• Research Report: Constellation's Research Outlook For 2011 (enterpriseirregulars.com)
• 2011 tech preview: A tour through tablets, mobile, hardware, software and cloud (zdnet.com)

Meeting with our Internet Advisory Board

A few days before the holidays our partnership met with our Internet Advisory Board, a group of 10 senior internet executives.   This Board advises us on our internet investment strategy, helps us vet related investment opportunities, and assists our internet portfolio companies on business development, strategy and technology areas.  The group meets once or twice a year.  However, this was our first meeting in 15 months because our recent successful fundraising effort for Fund 7 kept us on the road for about a year.  As a result, and also because of the rapid rate of change in the internet and mobile sectors, the meeting was long and full of lively conversation.  During the meeting with discussed:

1. Market conditions.  2011 is expected to be another year of strong growth for companies with desktop and mobile online advertising and ecommerce offerings. Social and local will be the new growth areas. Ecommerce sales are expected to grow around 10% Y/Y.  The search market will grow approximately 15% in the US and maybe 20% internationally.  The display market is expected to grow 10% in the US.
2. Online advertising.  The investment opportunities in search and display advertising technologies and models, including mobile, remain strong even though billions have already been invested.  Our Board agreed that we remain in the early innings of online advertising and there still exists significant opportunity for innovation and increasing automation.  Video consumption will be a big driver for the continued growth of display advertising.  While privately held DSPs have so far dominated an opportunity in its early stages.  Recognizing the trends in online ad buying we have already invested in Turn, a DSP, and Sojern, an ad network that leverages traveler data.  Recognizing the importance of data in improving the targeting effectiveness of display advertising solutions, and capitalizing on our expertise in big data management and analytics, we recently invested in eXelate, an online data marketplace and data management platform (DMP).
3. Consumer privacy. The adoption of the recent FTC recommendations on giving consumers more control over tracking information has the potential of negatively impacting the growth of companies with online advertising solutions.  These recommendations are still viewed as moderate and rely on self-regulation.  Our advisors believe that when implemented they will represent a positive step for consumers without destroying the online advertising industry. 
4. The explosion of the social web.  The rapid growth of the social web among consumers and businesses points to an internet platform shift.  Facebook is emerging as the new platform of choice.  It is being used by over 500M consumers and businesses that are spending more time with Facebook than on any other site.  Over 70% of Facebook’s users live outside the US.  We discussed a recent DDB study of 1,642 international Facebook users, according to which the average user is 31 years old and follows nine brands.  This is the reason CMOs are quickly embracing the social web.  As a result of this adoption they are becoming more quantitative in their decision-making though it is not yet clear which metrics are most effective in assessing advertising effectiveness in the social web.   Three-quarters have already pressed "like" to signal they are a fan of a brand. In return, they expect special treatment and are willing to advocate for the brand if necessary. In addition to the thousands of apps that are running on the Facebook platform, Facebook Connect is becoming a major API that will enable the user base’s monetization.  Our advisors also pointed to the need for social and mobile to come together seamlessly.  Investment appetite in social web companies will continue during 2011.  Several such companies were funded in the last 4 months of 2010.  In 2009 we invested in Extole, a company we incubated in our office.  Extole has developed a SaaS social marketing platform and is experiencing rapid growth.  The company has received investments from Redpoint and Norwest.   Exelate’s is also working around the social web as its data is being used in social targeting.  We will continue to look for investment opportunities in this sector and are ready to start incubating another team that is working in this area. 
5. The acceleration of local.  2010 showed the potential of online local advertising.  Companies are beginning to crack the code on how to offer local merchants options that combine the effectiveness and accountability of online marketing with the simplicity of traditional offline channels like yellow pages.  We expect group buying and local review sites, as well as companies combining mobile with local to benefit from this shift.
6. Internet usage and penetration rates.  The internet penetration rates in emerging markets remain low.  However, amid increasing middle class populations in these markets, internet usage and media consumption is expected to grow briskly.  In these markets mobile will continue providing the primary internet gateway with smartphones starting to represent a great computing and internet-access device option.  For example, only 81 million Indians (7% of the population) use the desktop internet, but six times as many (507 million) have mobile phones. In China PC vs. mobile penetration rates are 20% vs. 57% respectively, whereas in Brazil the corresponding numbers are 32% and 86%.  In the short term, the high cost of smartphones, such as the iphone, and of associated data plans will inhibit smartphone adoption broadly in these countries.  For the time being the high costs provide opportunities to companies like SMS Gupshup whose services emulate in feature phones functionality typically found in smartphones.  SMS Gupshup has 40M users and its base is growing over 2% monthly.  We will be looking for more investments in this area leveraging our experience in India and China.
7. Mobile.  In the US and Europe we expect that the continued improvements in smartphone functionality, including geosocial, will sustain their drive strong adoption rates during 2011. This holiday season demonstrated convincingly that US consumers are able to effectively use their smartphones during shopping for price comparison in brick and mortar stores, as well as to buy online.  During 2011 more US consumers will start using smartphones as a payment option.  We are leveraging our payments experience as we look for investments in this area.
8. Information overload.  The data volumes that result from the email messages, tweets, SMS, IM, and the messages exchanged within social networks is overwhelming users.  It is becoming impossible or impractical to keep up, manage this data and make sense of it.  Calling on our firm’s big data expertise, our board members pointed to investment opportunities in new approaches for organizing, managing, and consuming such information; a new type of inbox if you will.

The session re-affirmed the basic elements of our internet investment strategy and provided us with several ideas on how to refine it. 

Wishing everybody a happy and prosperous New Year.

Impression from Dreamforce 2010

Long gone are the days when Dreamforce was a smallish conference devoted to SaaS; the first conference 10 years ago had fewer than 1000 attendees. This year's conference had over 30k attendees (business users, IT users and vendors) almost 70% higher than last year's. The lines in and around the Moscone, the hotel rates and the jammed restaurants, bars and parking lots around the conference venue provided adequate proof of the high attendance. This was an event of high importance to Salesforce and even to SaaS in general. My impressions:

1. Based on the attendee affiliations (small and large companies, business and IT users, foreign and domestic delegates) the event provided additional proof that SaaS and cloud computing have penetrated the enterprise for good, as several of us have been predicting. Sarah Friar of Goldman Sachs calls it the "unstoppable SaaS wave." Heroku is very significant acquisition for Salesforce. In addition to the development environment it provides, 1m Ruby application developers that are Heroku's community, including developers of mobile applications, can be channeled toward the platform Salesforce is putting in place.
2. The introduction of database.com along with Heroku's Ruby-based development environment now position Salesforce among the premier PaaS providers along with Microsoft, VMWare, and maybe even Red Hat thought its acquisition Makara. This is a significant development since Salesforce's force.com platform and APEX language alone were not adequate to provide a general purpose, world-class PaaS (in a previous post I wrote some initial thoughts on force.com). In addition, because of its applications heritage, Salesforce has a wealth of application know-how that it can reflect to its PaaS, whereas companies like Microsoft and VMWare must rely on their third party application developers to acquire the corresponding know-how. Salesforce needs to work quickly to integrate together all its pieces (Chatter, Jigsaw, force.com, database.com, Heroku tools, etc.), in the process defining and exposing the right APIs. In this way developers will be able to create applications for a variety of tasks and complexity, not just CRM-related applications as was the case with force.com. It was already announced that objects and services (application and platform) will be exposed through SOAP and REST APIs. Developers will not be restricted to program only in Ruby but will be able to use any language like Java, C# and PHP. They will also be able to create their own data models. Moreover, by opening up its PaaS, Salesforce will allow developers to use applications developed in other similar platforms like Azure.
3. The announcements of additional "clouds," such as the one for web site development, prove that Salesforce continues to have a strong vision for where SaaS and cloud computing can go.
4. As we've seen in previously published surveys, security is no longer the top concern for SaaS adoption. Data and application integration have claimed that spot indicating that we are moving to a phase of trying to make on premise systems work well with the cloud-based ones. The presence of several of the major Indian and Chinese IT outsourcing companies all of which had big booths at the show indicates that the they now see a significant opportunity around systems integration that involves SaaS applications.

As investors we are excited particularly about the PaaS announcements. The emergence of another strong PaaS and the competition it is bound to generate among Salesforce, VMWare, Microsoft, Red Hat, and potentially Google, will be beneficial on two fronts. First, the competition will result in further PaaS innovations. This is obviously good for SaaS application developers who will consider more seriously a PaaS as a viable alternative on top of which to develop a new SaaS application. The improved capabilities of PaaS platforms will also accelerate application development resulting in the creation of new, and most likely, innovative packaged SaaS applications; the type we as investors like funding. The competition among PaaS providers will not only good for the continuing penetration of SaaS applications, but also for lowering the operating costs of deploying and supporting a SaaS applications, thus improving the application vendors' margins. While the PaaS pricing announced by Salesforce announced for the PaaS are on the high side, particularly for smaller ISVs, I expect that competition will lead to lower prices. My only concern from Salesforce's PaaS-related announcements is whether the company can develop the right DNA and evolve into an infrastructure company to ultimately implement the world-class PaaS it announced, since at heart it is still an applications company.

We Need a New Generation of eCommerce Analytics

In 1996, while I was running IBM’s BI solutions organization, one of my groups developed the Surfaid web analytics solution.  Surfaid, one of the first such solutions, was later acquired by Coremetrics (that was in turn recently acquired by IBM and made part of its marketing automation solution).  Later on Omniture dominated the high-end web analytics market by figuring out the right ingredients of a web analytics solution (quick set up, effective data collection and management, informative reports for the emarketer) and the right model for delivering it (SaaS).  Google also entered the market and dominated the low-end with a free offering.  The evolution of this market over the past 10 years has taught us that web analytics will remain a relatively small component of the overall analytics and BI market. 

Ecommerce marketers and merchandisers were some of the earliest adopters of web analytics.  However, the continued growth of ecommerce combined with the increasing complexity of the decisions these business users must make is causing retailers (both pureplay and multi-channel) to look for more sophisticated analytic solutions than those offered by the web analytics vendors, or the ecommerce platform vendors, e.g., Demandware and ATG (recently acquired by Oracle),  could offer.  While web analytics solutions can be used to determine which landing pages encourage customers to make a purchase, or which pay per click ad campaigns are most effective, ecommerce marketers and merchandisers want to now understand customer loyalty, the impact of their customer retention strategies (discounts, coupons, extra services), and the customer segments with the greatest Lifetime Value (LTV).  Today’s web analytics solutions cannot address these needs.

During the summer of 2009 Infopia, one of my portfolio companies and an ecommerce platform company at the time, asked the larger of its 300 etailers about their analytics needs.  The company found out that while all of its customers were using a web analytics solution, none were able to address their particular ecommerce decision needs through these solutions.  The market demand for a sophisticated ecommerce analytic application was so strong that the company’s board decided to direct significant resources towards the development of such an application.  A year later the company sold its ecommerce platform business to Versata, changed its name to Acteea, did a pivot and is now a SaaS ecommerce analytic application company.  Acteea’s SaaS analytic application enables merchandisers and marketers to track customer LTV and define winning product and customer segment strategies. 

Acteea’s analytic application integrates into a cloud-based data mart pricing data, marketing campaign effectiveness data, adword data (words bid and words purchased), customer order data, inventory data, web site activity data (what is typically fed to the web analytics solutions), customer activity data from other channels, e.g., catalog, promotions data, and competitor pricing data.  Data integration and cleaning has become a very complex process compared to the data integration that web analytics solutions must address.  Extole, another of my portfolio companies, has developed a SaaS platform for social marketing that is quickly being adopted by etailers.  The data produced by the platform’s applications (3 to date) will undoubtedly become another source to Acteea’s analytics as it can help etailers with decisions around social commerce.

In a recent board meeting we reviewed some of the early successes Acteea’s customers are having through the use of the company’s analytic application.  For example, one of the companies analyzed keyword, adword, web analytics, pricing and product catalog data, refined its adword bidding approach and identified “driver” products that drew existing target customers into making add-on sales.  Another customer began measuring the total return on marketing investment, and cart value by customer segment which led to revamping customer segmentation based on channel-loyalty, and cross-channel behavior leading to improved quarter-over-quarter sales.  Finally, a third customer analyzed product sales and gross margin return on inventory and quickly identified the lowest performing products eliminating them from the appropriate channels, including the web site.

It is still too early to tell whether Acteea’s pivot will be successful, though the initial results are encouraging.  Regardless, the company’s work is proving the market’s need for complex ecommerce analytic solutions that are distinct from the existing web analytic toolkits that have been available.

Takeaways from the Goldman Sachs and Rutberg Conferences

I recently attended the Goldman Sachs Datacenter Techtonics and the Rutberg Wireless Influencers conferences.  Cloud computing and SaaS figured prominently in both events.  This was not a surprise for the first conference but it was for the second.  I have consolidated my takeways in the following categories:

• Reasons for adopting cloud computing and SaaS.  Corporations continue to aggressively adopt cloud computing because it provides them with:
  • Elastic scalable infrastructure at the point of need, leading to business agility.
  • Improved user experience through a more web-based user interface, accelerating the consumerization of the enterprise.
  • Ease of deployment since business users want to simplify their IT structures and use computing more effectively
  • Integration with social and collaboration tools, again contributing to the consumerization of the enterprise
  • Cost reduction.  For example, in the Goldman event it was reported that IaaS may be leading to 20% in cost reductions.
  • Measurability that enables benchmarking and analytics-driven decision-making.  Due to the Internet’s measurability, analytics on the data generated through the use of SaaS applications provides unprecedented insights around business benchmarking (see my post on Insight-as-a-Service), user engagement that can help the application developer to constantly improve various aspects of the user experience, as well as improve customer Lifetime Value (LTV) and reduce customer churn.
• Cloud computing adoption metrics.  Enterprise adoption will occur in stages.  It has started with private cloud deployments and some experimentation of the public cloud particularly around application development and testing.  Hybrid clouds in the enterprise will continue for the foreseeable future.  Virtualization is the key technology for private clouds and participating enterprise IT executives stated that (a) 50% of their servers are virtualized along with 60-70% of desktops, (b) all new application deployments are on virtualized servers, and (c) within 5 years 30-50% of enterprise applications will be cloud-based.  It should be noted that within the same period 100% of the companies with less than 100 employees will only use SaaS applications and cloud-based IT infrastructure. Corporate IT is investing on ways to increase server and storage utilization (backup storage is aggressively moving to the cloud explaining again 3PAR’s high acquisition price), improve service (computing and storage) provisioning with the ultimate goal of getting to self-provisioning, and manage private clouds. 
• Issues preventing broader adoption of cloud computing:
  • Data and application integration has emerged as the primary issue. Information Logistics as the process of moving data among the various cloud-based and on-premise applications being used by an enterprise.  We are shifting from worrying about how a single SaaS application ingests data to how a set of on-premise and cloud-based applications work together to automate a business process. 
  • Security is an inhibitor but it is no longer the top issue as it was as late as a year ago. 
  • Customizability of SaaS applications is still an issue for the larger enterprises but the SaaS vendors are providing additional application controls allowing for greater configuration of each application while they continue to focus on having all their customers run under a single application version. 
  • SLAs (defining them and adhering to them). 

• Social computing. Social computing functionality is starting to aggressively be incorporated into enterprise applications, raising the bar on what the corporate business user should expect as baseline functionality of any enterprise application.  SaaS applications have the upper hand in this area.  Compared to on-premise applications, SaaS applications can both interface easily with external social networks and applications, but can also more easily integrate and embed social functionality.  Despite these characteristics it is not clear yet whether enterprise social computing applications will be offered as standalone system or as components of other SaaS applications, e.g., Chatter.  It is also not clear whether standalone enterprise social computing applications will be easily monetizable.  Finally, Taleo, that is now starting to aggressively focus on analytics, views the data generated by enterprise social applications as very valuable.
• Mobility and cloud computing.  By 2014 the number of users accessing the internet through a mobile device and the bandwidth requirements associated with that will surpass the PC ecosystem’s, as a whole.  This will lead vendors to build applications with an eye to mobile first, which is accomplished more easily under a SaaS model.  Business users are starting to view mobile and SaaS interchangeably.  Smartphones and tablets are becoming additional catalysts for moving applications and data to the cloud.  Small business owners want to run their entire business on a tablet or a smartphone.  HTML5 will be used to deliver the right user interface experience in these devices.
• Application granularity.  Mini apps, of the type found today in mobile phones and tablets, will provide the next-generation enterprise application development model replacing the large scale applications being developed by corporate IT to date.
• Enterprise IT.  Several business executives in both conferences stated that enterprise IT organizations are:
  • No longer in the position to address corporate user needs.  Corporations need new, cloud-based application deployment models.  In another sign of the impact of mobile in corporate IT and of the consumerization of the enterprise, I heard that application stores are being carefully considered in order provide one such alternative deployment model.  By the way, this is the reason we invested in PocketGear.
  • Becoming the controllers of data, i.e., they control the data that is being served to cloud-based applications, rather than the developers of new applications.  Application development is rapidly shifting to vendors.

I recently attended the Goldman Sachs Datacenter Techtonics and the Rutberg Wireless Influencers conferences.  Cloud computing and SaaS figured prominently in both events.  This was not a surprise for the first conference but it was for the second.  I have consolidated my takeways in the following categories:

• Reasons for adopting cloud computing and SaaS.  Corporations continue to aggressively adopt cloud computing because it provides them with:
  • Elastic scalable infrastructure at the point of need, leading to business agility.
  • Improved user experience through a more web-based user interface, accelerating the consumerization of the enterprise.
  • Ease of deployment since business users want to simplify their IT structures and use computing more effectively
  • Integration with social and collaboration tools, again contributing to the consumerization of the enterprise
  • Cost reduction.  For example, in the Goldman event it was reported that IaaS may be leading to 20% in cost reductions.
  • Measurability that enables benchmarking and analytics-driven decision-making.  Due to the Internet’s measurability, analytics on the data generated through the use of SaaS applications provides unprecedented insights around business benchmarking (see my post on Insight-as-a-Service), user engagement that can help the application developer to constantly improve various aspects of the user experience, as well as improve customer Lifetime Value (LTV) and reduce customer churn.
• Cloud computing adoption metrics.  Enterprise adoption will occur in stages.  It has started with private cloud deployments and some experimentation of the public cloud particularly around application development and testing.  Hybrid clouds in the enterprise will continue for the foreseeable future.  Virtualization is the key technology for private clouds and participating enterprise IT executives stated that (a) 50% of their servers are virtualized along with 60-70% of desktops, (b) all new application deployments are on virtualized servers, and (c) within 5 years 30-50% of enterprise applications will be cloud-based.  It should be noted that within the same period 100% of the companies with less than 100 employees will only use SaaS applications and cloud-based IT infrastructure. Corporate IT is investing on ways to increase server and storage utilization (backup storage is aggressively moving to the cloud explaining again 3PAR’s high acquisition price), improve service (computing and storage) provisioning with the ultimate goal of getting to self-provisioning, and manage private clouds. 
• Issues preventing broader adoption of cloud computing:
  • Data and application integration has emerged as the primary issue. Information Logistics as the process of moving data among the various cloud-based and on-premise applications being used by an enterprise.  We are shifting from worrying about how a single SaaS application ingests data to how a set of on-premise and cloud-based applications work together to automate a business process. 
  • Security is an inhibitor but it is no longer the top issue as it was as late as a year ago. 
  • Customizability of SaaS applications is still an issue for the larger enterprises but the SaaS vendors are providing additional application controls allowing for greater configuration of each application while they continue to focus on having all their customers run under a single application version. 
  • SLAs (defining them and adhering to them). 

• Social computing. Social computing functionality is starting to aggressively be incorporated into enterprise applications, raising the bar on what the corporate business user should expect as baseline functionality of any enterprise application.  SaaS applications have the upper hand in this area.  Compared to on-premise applications, SaaS applications can both interface easily with external social networks and applications, but can also more easily integrate and embed social functionality.  Despite these characteristics it is not clear yet whether enterprise social computing applications will be offered as standalone system or as components of other SaaS applications, e.g., Chatter.  It is also not clear whether standalone enterprise social computing applications will be easily monetizable.  Finally, Taleo, that is now starting to aggressively focus on analytics, views the data generated by enterprise social applications as very valuable.
• Mobility and the cloud computing.  By 2014 the number of users accessing the internet through a mobile device and the bandwidth requirements associated with that will surpass the PC ecosystem’s, as a whole.  This will lead vendors to build applications with an eye to mobile first, which is accomplished more easily under a SaaS model.  Business users are starting to view mobile and SaaS interchangeably.  Smartphones and tablets are becoming additional catalysts for moving applications and data to the cloud.  Small business owners want to run their entire business on a tablet or a smartphone.  HTML5 will be used to deliver the right user interface experience in these devices.
• Application granularity.  Mini apps, of the type found today in mobile phones and tablets, will provide the next-generation enterprise application development model replacing the large scale applications being developed by corporate IT to date.
• Enterprise IT.  Several business executives in both conferences stated that enterprise IT organizations are:
  • No longer in the position to address corporate user needs.  Corporations need new, cloud-based application deployment models.  In another sign of the impact of mobile in corporate IT and of the consumerization of the enterprise, I heard that application stores are being carefully considered in order provide one such alternative deployment model.  By the way, this is the reason we invested in PocketGear.
  • Becoming the controllers of data, i.e., they control the data that is being served to cloud-based applications, rather than the developers of applications.  Application development is rapidly shifting to vendors.

Mobile Data Analytics

Over the past couple of years I have met with several startups that offer analytic solutions for mobile data.  I have not invested in any of them.  I had felt that the data captured from feature phones and early generations of smartphones was not rich enough to lead to interesting and distinct analytics.  For example, while data captured from a mobile web browser such as sites visited, pageviews, time spent browsing could be analyzed, we didn’t need a new company to do that.  Omniture could do that just fine.  However, the new smartphones capture more interesting data.  These data sets could drive the creation of a new and interesting analytics.  As a result, I am becoming interested in mobile data analytics and have been actively looking for investment opportunities in this sector.

The new smartphones are becoming sensor platforms, as well as being computing platforms.  In addition to photo and video camera, touch screen, GPS and accelerometer, new types of sensors are being connected to smartphones.  For example, Bling Nation has introduced a sensor that adheres to a smartphone and is linked to the user’s PayPal account.  Our own portfolio company Zeo has announced that it will connect its sensor to the iPhone in order to capture sleep-related data.  Some of the data sets generated by all these sensors that I find interesting include:

1. The time-series of GPS and accelerometer data for each subscriber.  By analyzing these time-series one can predict where and when the subscriber will be next and offer relevant services at the predicted location, e.g., parking availability with offers from parking garages.
2. Data generated from the use of augmented reality (AR) application can create new advertising opportunities, as well the opportunities to serve up relevant content the user had not thought to ask for.
3. Configuration data on the complete software stack running on each phone (from firmware to operating system to application software).  This data can then be used, for example, by an app store to recommend new available applications that will be augment the user’s productivity.  Such configuration databases today exist only in corporate IT settings.
4. Mobile payments data combined with geolocation data.  Analyzing this data can lead to predictions about customer brand or product loyalty.

Entertainment-related applications, e.g., gaming, and health care applications, e.g., prescription dispensing, will also benefit from the analysis of this type of data.  I am not certain whether new data management systems will be necessary for such data sets, though I imagine that the data will be big and complex, particularly as various time-series are captured, and will be stored in the cloud.

The wireless carriers may not be in the best position of collecting this data, not only because of their lack of experience with diverse data types, but also because they are regulated businesses.  Google and Apple are in a much better position because they already collect much of this data through their Android and iOS platforms respectively.  While these companies may also be best able to mine the data, they won’t enter this business in the near term.  Instead it will be startups that will first experiment with creating interesting data sets out of the collected data and analyzing them.  My assumption, also driving my interest in the sector, is that companies like Google will wait to see how these “experiments” go and proceed to acquire the more interesting of the analytics startup companies.

Users will need to give their permission for this rich data to be collected and combined.  Vendors, including wireless carriers, will get the users’ permission by offering free services (something for which consumers have shown interest and affinity), better experience (optimized bandwidth, improved application performance, more accurate recommendations around applications, products, services, social connections, etc), and more accurate targeting of ads in ad-supported services.

The mobile space remains highly fragmented and the talent to create and analyze these data sets may be hard to find.  The new smartphone platforms present opportunities for collecting valuable data sets that will lead to the development of unique analytics which will in turn drive important and novel decisions.  Startups can lead the way to create these analytics and the enterprise platforms that manage them.

Related articles

• A sea of sensors (economist.com)

During 3Q10 SaaS Continued to Strengthen in the Enterprise

Continuing on a trend I started last year (see examples here and here), I wanted to add my commentary on the quarterly performance of our SaaS portfolio companies in the heels of the 3Q10 pubic company reporting season.  The public SaaS companies that have already announced, e.g., Success Factors, NetSuite, Taleo, DemandTec, demonstrated good results that fell within analyst estimates, in what is typically considered a tough quarter for IT vendors.  Our portfolio of 10 SaaS companies had a decent quarter; no blowout results, but no craters either. 

Reviewing the public SaaS company results I was noted the following:

1. The economy continues to negatively and disproportionally impact small companies that had been the traditional sales target for SaaS vendors.  As a result, these companies have slowed their purchasing or renewed their subscriptions.  Many such companies are going out of business. However, the SaaS adoption by larger enterprises is accelerating.
2. Bookings growth in the 15-30% through a combination of landing new customers and aggressively expanding within existing customers.  During the continued economic uncertainty the land and expand sales strategy is helping many public SaaS vendors, e.g., Success Factors, Rightnow, DemandTec.  The same is the case for our SaaS portfolio companies as well.
3. Churn rates are improving as customers feel increasingly comfortable with the SaaS solutions they have already adopted and the vendors are emphasizing churn reduction in order to provide downside protection to their sales efforts that continue to be challenged in this economy.
4. While the adoption of SaaS CRM and HRC solutions continues to accelerate in larger enterprises, according to recent surveys by Goldman Sachs and Morgan Stanley, SaaS ERP applications are slower to adopt.  Enterprises expect to customize the ERP solutions they adopt.  This expectation is counter to the SaaS philosophy, thus leading to the slower than expected adoption of SaaS ERP by larger enterprises.

In our SaaS portfolio

1. At least 50% of the total number of deals signed by our SaaS companies during the quarter came from large enterprises, across industries such as manufacturing, publishing, retail, CPG, travel and services, continuing a trend that started late last year. 
   1. These tended to involved multi-year contracts (2- and 3-year).  The multi-year contract approach is used by the large enterprises to ensure price stability.  We have advised our companies to try to resist such deals because we see them as an attempt by enterprises to replicate the perpetual license model while shifting all the IT costs to the vendor.  It is also important to note that in all of these deals with larger enterprises the CIO, or some other IT executive, was always involved in the decision process.
   2. The Total Contract Value (TCV) is increasing but not necessarily in the ways we want.  In particular, in addition to the multi year contract expectation, larger enterprises require the vendor to provide significant amount post-sale professional services (often as much as 40% of the TCV). Therefore, while with the higher TCV the SaaS vendor’s cash flow is improving, the MRR (the most important measure of a SaaS company’s performance) is not benefiting commensurably.  Increasing TCV in this manner also compresses margins as such deals require a more expensive and lengthier sales process.  As a result we advise our companies to view sales opportunities of such TCV profile as upside rather than making them the core of their quarterly sales performance.
   3. Our companies are starting to see more opportunities to expand their deployments to other departments within their larger customers as well upsell new modules of their solution.  As a result of this trend, more of our companies are expanding their account development/management teams and further modularizing their solutions to create reasons to upsell.
2. Regardless of the customer size, and similar to 2Q10, several of the deals closed during the last 2-3 weeks of the quarter.
3. Like with the public SaaS companies, reducing customer churn became a more important quarterly goal than ever in the past and a way to provide downside protection to new sales.  These days in earlier stage companies we expect 7-10% churn.  Our companies have been able to bring churn down to 2-5% during the quarter.
4. Continued accelerating interest in SaaS applications by international customers.  This quarter our SaaS portfolio received strong interest from and signed deals with Western European (British, French, Dutch, German), Brazilian, and Asian (Chinese, Singaporean, Australian, New Zealand) companies.
5. Webinars, particularly they include a presentation by an existing customer and, maybe even, a partner, proved the most effective lead generation channel during the quarter.
6. The demand for BI, and analytic solutions is increasing.  In addition to the increasing demand that is seen by our SaaS BI and analytics portfolio companies, all of our other SaaS application companies are asked by their customers to at least provide out of the box reporting functionality as part of the offering. 

During the quarter we sold one SaaS company (Tricipher to VMWare) and added a company (Acclaris) to our portfolio.  Our portfolio company Infopia sold its ecommerce SaaS platform business to Versata/Trilogy, changed its name to Acteea (www.acteea.com) and is now focusing on a SaaS ecommerce analytic application that is already being used by several B2C and B2B ecommerce companies. We expect to see continued M&A activity by both public SaaS vendors that are looking to increase their solution footprint as well as on-premise software vendors that realize that they must provide SaaS solutions and acquire SaaS expertise in-house, e.g., Dell's acquisition of Boomi.

4Q started strong for our companies with several closing deals in October.  We anticipate this to be a strong quarter, repeating the trend of the 4Q IT budget flush.  For the time being the outlook for 2011 remains more muted.

Related articles

• NetSuite reports blow out quarter. Hints at more accounting partners (accmanpro.com)
• Cloud ERP Adoption Barriers - Functionality or FUD? (diversity.net.nz)
• Dell heads for the cloud with Boomi buy (v3.co.uk)

Appreciating Silicon Valley’s Ecosystem

A few days ago I was hosting a foreign government delegation visiting our area in an effort to understand Silicon Valley’s ecosystem and economic development model, and use it as a template for creating or improving their own innovation-driven economies.  Many countries but also US regions send such delegations here.  Over the course of three days we met with entrepreneurs, investors, bankers, startup advisors, university professors, corporate executives, and lawyers.  While I’ve lived in Silicon Valley for the past 20 years, 10 as a startup founder and corporate executive, and 10 as VC, and consider myself an active member of this ecosystem, visits like last week’s bring to focus the Valley’s uniqueness, efficiency, and adaptability.

In a previous post I wrote that people, universities and research labs, risk capital, and modern infrastructure (legal, financial, physical, technical) make up Silicon Valley’s basic ingredients.  But during this three-day visit I was able to really appreciate:

1. Stanford’s central role in this ecosystem.  Fifty years after Professor Terman started what is we now know as Silicon Valley, Stanford continues to be not a mere member of the Valley’s ecosystem but its core.  It appears that each one of its students is a potential entrepreneur ready to start or participate in an innovative company.  Professors advise students on company concepts, often fund these concepts, and actively participate in the resulting companies.  Science and business classrooms, cafeterias, and the hallways of the campus buildings are the places where ideas are exchanged and where teams are formed.  Recognizing the quality of faculty and students and the IP they create, investors “walk the hallways” in search of the next fundable idea.  The University actively encourages the smooth flow of IP from its labs to the startups knowing that it will benefit from their success in multiple ways, as the founders of HP, Google, Yahoo, and of countless other companies have demonstrated over the years.
2. The ease with which university professors, laboratory researchers and students move between academia and industry, research and development.  These people know that without repercussions they can leave their academic or research positions to start companies and create a product or service out of the IP they created in their labs.  But they also know that they can as easily return to their old positions to continue their academic or research endeavors.
3. The willingness and drive to rapidly prototype an idea, test it with prospective customers, evaluate the results, repeat the success and discard the failure, learn from either outcome, change/pivot as appropriate, and try again.
4. The ecosystem’s completeness, connectedness, efficiency and high execution speed.  Many have spoken about the ecosystem’s characteristics but only as you drive from a meeting in Palo Alto (Trident Capital) to one in Mountain View (Fenwick and West) and back to one in Menlo Park (Silicon Valley Bank) you come to realize the efficiency advantages offered by close proximity (VCs, lawyers and bankers within a 10-mile radius).  You also realize the advantages of being part of a people-network that has been created and strengthened over many startup-related transactions, focuses on the entrepreneur, and is based on openness, trust, sharing knowledge (successes and failures) and optimism.
5. The entrepreneurs’ ability to select investors and advisors not based on the money they can invest, but based on the value they bring (connections to customers, connections to executives, help anytime and anywhere on anything from closing the next customer, interviewing and helping to hire the next executive, to refining the business model).

Several countries from around the world, but also many US regions, are trying to replicate Silicon Valley’s ecosystem and economic model in the process of creating innovation- and entrepreneurship-driven economies.  Successful will be the ones that analyze this ecosystem and model and properly adapt them, rather than trying to directly copy them.  In their analysis and adaptation they must take into account their regional characteristics, peoples’ competencies and temperaments, university environments and IP portfolios, as well as their overall economic environments.  While they will make mistakes, they need to remain optimistic, flexible and be willing to experiment, analyze, pivot if necessary and try again until they get it right, just like everybody in Silicon Valley does.