Milestone Group

Milestone Group
Milestone Group: July 2004 Newsletter.
 
A picture of several people in a business meeting. » Investment Viewpoint: Brad Silverberg, Managing Partner, Ignition Partners
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» OpEd: Ben Gomes-Casseres on Alliances Sweet Talk
» Milestone PoV: Scott Boutwell on Driving Revenues Via Relationship Management
 
Investment Viewpoint: Brad Silverberg, Managing Partner, Ignition Partners

Milestone:  As a member of the executive team at Microsoft for most of the 1990’s, you successfully built the Windows franchise. Going forward, how does Microsoft create growth in the Windows desktop market?

Silverberg:  That is a huge challenge, when you’ve got 95% plus of the market, the only way you can grow is by growing the overall market and the market is pretty well saturated. Their challenge is to induce more upgrades. I think Microsoft’s biggest competition for Windows is older versions of Windows. There aren’t that many new people buying computers that didn’t have computers. It’s a pretty saturated market worldwide at this point. The places where there is really the most growth are developing countries where they don’t pay for software. Not much of an opportunity for Microsoft there. I think the biggest thing they have to do is to figure out how to get people to upgrade, and that’s a challenge because people tend to upgrade now only when they buy a new machine. The process of going through and upgrading an existing machine with something as fundamental as Windows or Office is painful and expensive. The cost of the software is not the factor, you could get Windows for free, and a corporation may decide still not to do the upgrade. That problem I think is their biggest challenge.

Milestone:  How does Microsoft deal successfully with the open source threat?

Silverberg:  I don’t think they have figured that out yet, I think that is clear. They are struggling with not so much open source, per se, but rather they are no longer the low price solution. In the past Microsoft was the low cost solution and Microsoft was then competing and attacking expensive proprietary systems from below. Now for the first time the tables are turned and it's Microsoft that's being attacked from below by a lower price solution. Microsoft needs to figure out how it can demonstrate better TCO to justify its higher prices. Another aspect to that, which is an area I think Microsoft is also struggling with, which is when you are as successful and dominant as they are, how do you continue to foster that ecosystem? What really propelled Microsoft Windows success was an ecosystem that they created that allowed other people to benefit from your success. Actually your success was really a side effect or byproduct of their own success. If they saw a way that they could develop your platform, make money for themselves and build big businesses. Now that Microsoft has expanded into so many different areas there is reluctance from some developers to continue to invest in a Microsoft platform because they wonder how do they build a business? How does it become their business and not Microsoft’s business? So people are looking for alternative platforms that create new ecosystems that allow them to build. The challenge to Microsoft is to continue to keep that ecosystem going and to get developers and applications folks to see that there is benefit to themselves in adopting and continuing to develop for the Microsoft platform.

Milestone:  For more than a decade, a good part of the tech industry has been extremely reluctant to partner with Microsoft for fear of having their good ideas stolen. Now that you’re VC and on the other side of the table, and you’re living in the shadow of Redmond, do you have those fears?

Silverberg: We are guided by one thing and that is looking for opportunity to create companies and provide returns to our investors. To the extent that Microsoft creates great opportunities for us to invest in great companies that support the Microsoft platform, we are glad to do that. We’ve done that with a company we funded called Consera, headed by an ex-Microsoft exec. Consera developed management software, they did a very good job, and they were recently purchased by Hewlett Packard. We were very happy with that result and as we continue to see opportunity in Windows platform and it’s primarily on the server side or management side we continue to invest. Microsoft is trying to evolve their platform with .Net, and to the degree they create opportunity, we will continue to explore opportunities. We are agnostic; our allegiances are strictly to our companies and our investors.

Milestone: Last Microsoft question. What do you make of the recent Microsoft/Oracle and Microsoft/SAP alliances? Do you characterize these as significant?

Silverberg: Certainly. It is part of the ongoing process that we see. The large companies are struggling to find growth and you are seeing consolidations amongst most of the top players. We see this as just an ongoing manifestation of that process. When you get to be companies the size of Microsoft or Oracle or SAP, achieving historical levels of growth gets really, really hard. Microsoft has to grow another Oracle every year to be able to maintain the kind of growth they have delivered and that’s a challenge. It means that at times these big companies ignore what they believe are small opportunities because they need to be building billion dollar businesses, not $50 million ones. But, thankfully for us in the VC community, sometimes $10 million and $50 million dollar businesses end up growing into billion dollar businesses. That is one of the challenges that these large companies face and I think you will continue to see consolidation..

Milestone: Everyone is frothing over Google; the on-again off-again Salesforce rushed to IPO with little profit to speak of and the hot IPO wind is starting to blow. Are you flabbergasted? Worried? Chuckling inside? What gives?

Silverberg: Perhaps all of these! The industry does sometimes go through wild mood swings. First the irrational exuberance of the boom - that obviously was too much. It wasn’t well founded in solid economical fundamentals and ultimately reality hit. Then the crash was perhaps an overcorrection. Even good solid companies that deserved to do well were punished. So what I think we are seeing now is a bit of correction to normalcy but sometimes it starts to bubble and froth again. We see some signs of this in the IPO market, particularly down in the Valley; we see some valuations starting to accelerate beyond a level where sometimes we can figure out what the economic basis for those valuations are. There is a lot of emotion and a lot of psychology in the market and I think we are starting to see some of that again. We are encouraged that the market is growing warmer, but it is not time to throw caution to the wind. As a firm, we try to take the long term perspective and stick to our knitting. We try to stay close to the fundamentals of our companies more than we worry about the eccentricities of the hyped IPO’s, etc. Though we got started during the bubble, I think we did a pretty good job of staying focused on business fundamentals. Because we had some operational background, we understood about revenues and profits and returns to investors. The fundamental laws of business and economics are pretty immutable. They go through cycles but in the end, if you want to stay in business, you have to be able to produce a good product that people want at a fair price and return a profit. We have tried to apply that type of old fashioned thinking rather than being momentum investors.

Milestone: Wireless Local Area Networks (WLANs) have been a pretty hot investment category over the past 18 months. Now with Cometa and all its prominent backers bailing out, where do you see this market going and how does anyone make money in it?

Silverberg: It certainly is hot and there is very widespread usage. You can go anywhere with your laptop with Wi-Fi on it and find a connection. At the higher levels, companies like Cometa and others, who are trying to charge for Wi-Fi service, have struggled. The good news is that the actual amount of money that went into Cometa was supposedly not too high. For all the hype and all the publicity that they got, their investors really didn’t put that much money into the company. As you get lower down into the stack, equipment suppliers, that’s where the money has been made to date. Selling the access points, that’s where money is getting made. You walk into CompUSA or any computer retailer store and what are the hottest selling products? Wi-Fi access points -- in many variations. In the future, Wi-Fi is going to be integrated into most everything we do in computing, including into Intel chips. That said, being able to charge for the actual service is going to continue to be a challenge.

Milestone: 3G seems to have lost its sheen and now Evolution-Data-Only (Ev-Do) seems to be picking up momentum. Verizon announced it will spend $1B over 2 years building out Ev-Do. What do you see as the other Carriers strategy and who wins in this market?

Silverberg: Well certainly I think 3G is making a bit of a comeback particularly in the Asian markets. It has come on very strong in China, Korea, and Japan. I have read announcements from some of the other carriers recently that they are actually quite pleased with their 3G. Today, the transition to 2.5G, such as with GPRS, has been quite successful. One thing we’re seeing now is Wi-Fi being coupled with 2.5G, and that’s very interesting and will present some competition to 3G. I do think that you do see reasonable speed data services really catching on worldwide whether it is mobile games, ring tones, email, and so on, whether with 2.5G or 3G.

Milestone: Where's the Ignition Partners portfolio headed? Where are the opportunities as you see them?

Silverberg: We invest primarily in three areas. First is telecom, second is enterprise applications, and third is network infrastructure. You might say 3.5, as we have an interest in consumer applications. In the post-bubble past consumer applications has been a difficult area to invest in, but we’re starting to see some good business models emerging. One of our investments, Pure Networks, is more oriented towards the consumer side. We always look for business fundamentals. We look for sometimes-mundane markets like insurance and bill collection, places you might not think to look. These are areas where historically there has not been much technology deployed. When technology is well-deployed here, it can provide strong ROI results for a rather modest investment. We try to categories our investment between market and execution risk and try to keep a balance between those two. Market risks tend to be higher risks, higher rewards. Execution risks are ones where there is a known need for some product or service and the challenge is to execute well.

Milestone: If you could spend your time differently as a VC – aside from working less – what one thing would you change in the demands for your time, and why can't you already do this?

Silverberg: I wish we had more time to just get out and meet more entrepreneurs and that’s a hard thing to be able to do. We have 25 companies in our portfolio now; they take a lot of time. We like to be actively involved and helpful to them. We tend to be the lead investor; we tend to be the most active investor so we have a limited number of companies we can invest in. In terms of areas, we also limit our scope. We like to stay focused on areas we know. Yet there are always deals where we say, “Oh, I wish we could spend time and energy to learn about this new area but we are not going to do it justice so we are not going to do that.” For example, we don’t invest in biotechnology, we don’t invest in optical or some of the other areas that in the past have been hot. But in these areas, we don’t even know what we don’t know. Sure, business fundamentals apply across all these areas, but to be able to really help our companies, we want to be able to understand the business, we want to be able to make introductions, we want to be able to recruit for them, and we want to give them good advice grounded in our experiences. So that does limit our scope a little bit. It’s a fun job. It’s the energy of working with entrepreneurs that really provides the fun and reward to this business.

Milestone: If you were an LP and had $10M to invest in a competitors fund, who would it be and why?

Silverberg: There are lots of good funds out there and we like working in partnership with other funds; Sequoia, Greylock, Matrix, to name just a few. There’s a lot of opportunity out there, this is not a dog-eat-dog business really. I think you can be both competitive and cooperative; sometimes it is good to have more shoulders to the wheel. It is good to have other perspectives; it is good to bring in other people flow and business relationships and other points of view. So we do like to syndicate with other investors. Personally I have a lot of money in Ignition. .

Milestone: What was the dumbest or funniest deal you actually have been pitched in the last three months? Our readers would enjoy a laugh.

Silverberg: We got pitched on a potato farm in Eastern Washington.


Brad is managing partner and one of the founders of Ignition Partners (www.ignitionpartners.com), a Seattle based venture capital firm. Prior to founding Ignition, Brad is best known as an industry pioneer who built the Microsoft Windows franchise and led Microsoft's Internet turnaround. During his nine-year tenure at Microsoft, he was a senior vice president and member of Microsoft's nine-member Executive Committee. At Microsoft, Brad led numerous acquisitions and licensing deals, including directing the acquisitions of eShop and Dimension X and negotiating acquisitions of Hotmail and WebTV. He also directed the licensing deals with AOL (Internet Explorer), Sun Microsystems, Symantec, Central Point and Spyglass. Prior to Microsoft, Brad's career involved running product development at Borland International; running product development at Silicon Valley startup called Analytica, which was later acquired by Borland; product development at Apple Computer; and computer science research at SRI International.

Copyright 2004. Milestone Group LLC

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