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11/09/2005

$500M Folly: Wireless E-Mail Software Investing Peaks Just as Microsoft Brings Out The Big Guns

Over a year ago I wrote a post about the staggering amount of money that had been invested in the wireless e-mail middleware space.  At the time, about $250M had been invested in just the top three companies (Good Technology, Visto Software, and Seven Networks).  Well today the Wall Street Journal has an article in which they reveal that Visto Software has raised yet another $70M (subscription required), taking their total paid-in-capital to an astounding $230M (and this doesn’t even count the $35M+ in PIC invested in companies that Visto has acquired).  Visto’s round comes just 8 months after Good Technology closed yet another round of $65M taking its own paid-in-capital to $211M.  Not be left out, Seven Networks is rumored to be close to closing yet another round of capital which could take its paid-in capital to north of $75M.

For those of you keeping score at home, that’s now a grand total of over $516M invested in just three software companies all of whom are focused on the same niche of providing middleware software that enables mobile devices to use e-mail.  What’s more, the amount of capital invested in the space has increased by over 100% in little over a year.  Good lord.

Now $500M wouldn’t be a big deal if these companies were pursuing a long term market worth billions of dollars but there’s a decent chance that this market won’t even exist in 5 years.  That’s because wireless e-mail middleware has now gotten the full attention of a little company up in Redmond Washington called Microsoft.  Microsoft just happens to be the largest provider of enterprise e-mail software in the world.  As it turns out, much of the value-added provided by these wireless e-mail middleware companies has been simply to make Microsoft’s Exchange servers accessible from a mobile device.

At first Microsoft seemed content to let startups such as Research-In-Motion, Good, Visto, and Seven pursue this opportunity but as mobile devices and applications became more important to it’s long term strategy Microsoft started to pay more attention to the space.  Typically, Microsoft’s first efforts at their own wireless middleware software were pretty pathetic, but they kept at it and in October they released a major upgrade to their software which not only brings much of their functionality up to par with industry standards (at least for Windows Mobile phones), but it basically eliminates the need for any kind of middleware (other than a local client) to access Exchange Servers.  What’s more, in another tried and true tactic, Microsoft is offering all of this new functionality for the very competitive price of … free.  Finally, in the coup de grace, Microsoft included all of this new functionality as part of last month’s major Service Pack release for Exchange 2003, virtually assuring that almost every major Exchange installation in the world will have the new mobile functionality within 9 months because the Service Pack also includes lots of bug fixes that they normally have to install.  It’s such a heavy handed and devious strategy for dominating this space that one just has to laugh.

Consider the situation the average IT guy faces right now:  You can go with Microsoft’s embedded “Direct Push” technology that you have already paid for as part of your Exchange license and that you have already installed because you have to install the Service Pack anyway, or you can pay a lot of extra license fees to an independent wireless middleware company whose separate software you must install and manage on your own.  This decision is not even close. Carriers face much the same decision: lay out a bunch of extra money to support a middleware platform or just work with Micrsoft to license their client software.  Not a hard one either.

What does this mean for wireless e-mail middleware companies?  It means they are in for a world of hurt.  Yes, these companies will still have a window of opportunity to create software for non-Windows Mobile phones and non-Exchange environments, but that window is closing rapidly as Microsoft moves quickly to license it’s client side software to the other major mobile OS players such as Symbian and Palm, both of which Microsoft already had deals with for their prior-generation clients.

In the grand scheme of things, the elimination of the wireless e-mail middleware market should not be surprising as it was always clear that the need for the space would greatly decrease once wireless carriers provided fast generic HTTP connections and the mobile OS market consolidated around a few platforms.  However, what is surprising is that VCs would drop another $250M into a space that clearly is in the process of being, at the very least, severely marginalized by the largest, most profitable, and most aggressive software company in the world.

Such profligate spending in the face of impending doom perhaps confirms the theme of Wall Street Journal article which basically says that VCs are throwing tons of money at late stage companies because they have lots of money and it’s burning a hole in their pocket.  Of course, the VCs may also be betting that Microsoft’s aggressive moves will put pressure on others to make acquisitions, but if that’s the case than they are counting on some pretty rich deals given that, at least in two cases, the deals need to be over $200M+ just to get everyone’s money back.

Personally, I think that the wireless e-mail middleware companies face a huge uphill battle just to get their paid-in-capital back and that they will likely add to the trail of tears that has been blazed by other software companies that have raised more than $100M.  For me, by definition, any software company that needs $200M+ to build a sustainable business is a bad venture investment.  That people would continue to throw money at these deals despite what is clearly a dramatically changed (for the worse) competitive environment makes me worry a lot about the venture market in general.

I suspect that most of this is being justified by the fact that Research-In-Motion still has a $12BN valuation and that the VC investors are simply multiplying their own users bases by RIMM’s market cap/subscriber and thinking “hey we’re worth $XBN if you comp us against RIMM”, but this of course neglects to consider the fact that RIMM is in the same boat as the private companies when it comes to Microsoft, but that only RIMM has a handset business it can fall back on.

My prediction:  RIMM will see its value cut by 30-50% in the next 12 months as investors realize that the Exchange 2003 SP2 is basically the Death Knell for RIMM’s own middleware business.  This in turn will lead to a dramatic souring on the prospects for the private wireless middleware companies (no doubt right in the midst of their IPO process) which will end up closing the markets to them and forcing them to sell, for less than paid in capital, to some large public company scavengers such as IBM, Oracle, and Motorola.

Of course I could be wrong, so feel free leave a comment if you have a different take!

November 9, 2005 in Venture Capital, Wireless | Permalink

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