Venture capital support for network infrastructure has been on the decline for many years, as highlighted in our August 2012 report, Networking Start-ups Overdue for VC Rebound. Since then we have watched closely for signs of a turnaround.
Start-ups – whatever their sector – need both an initial source of funding and a good chance of exit for their backers.
Fortunately exit opportunities are improving: Cisco has announced four acquisitions (Intucell, Cognitive Security, SolveDirect, and Ubiquisys) since January 1, and IT vendor Oracle signaled its plans to expand in telecom by acquiring Acme Packet and announcing its agreement to acquire Tekelec (deal pending). Software-defined networking (SDN) startup Cyan Inc. filed for an IPO in early April.
Initial funding opportunities are also looking up: VC networking investments surged to $399 million in 1Q13, easily the strongest result since 3Q07. This early 2013 data suggest that investors are paying attention to networks once again, not just the stuff that runs on top of them.
Ready or not, here comes Oracle
When a vendor with $33.4 billion of cash and liquid investments starts buying companies in your sector, you better pay attention.
Historically Oracle’s telecom role has been primarily focused on back-office functions such as billing and customer relationship management solutions. Over the past few years, though, software has become more important to how operators run networks.
More telecom-focused vendors now differentiate around software-enabled functions and features on hardware (e.g. software-defined radios), or pure software solutions (e.g. software-based virtualized network services such as deep-packet inspection and mobile gateways). The acquisition of Acme Packet and the pending Tekelec deal give Oracle the chance to expand its telecom offerings in the areas of service control, charging, and analytics.
Other IT-focused vendors may follow suit. For instance, both IBM and HP already do lots of business with telcos – they booked $5.9 billion and $3.5 billion, respectively, in services revenues sold to telcos in 2012. These two, and others such as EMC, Computer Associates, and InfoVista, also provide focused solutions to telcos beyond services, in areas such as network performance management. As traditional telecom vendors including Alcatel-Lucent and NSN refine their strategies, IT vendors seem likely to continue stepping onto their turf, and buying start-ups is one approach.
And don’t forget Cisco. It has even more cash and investments than Oracle on its balance sheet ($46.4 billion) and has announced four new acquisitions in the first four months of 2013.
Venture money returning to networking’s sweet spots
Service provider spending on their networks – i.e. capital expenditures (capex) – is uninspiring at the top line: our latest forecast calls for just 2% average annual growth for the 2012–18 period. Some promising opportunities lurk under this flat forecast curve, though, due to spending mix changes.
Operators are transforming their networks, making them faster, more automated, and more agile while retaining carrier-class reliability. To do all this without breaking the bank, they need new technology solutions and rivalry among their suppliers to keep prices down. Having access to start-ups making big bets on out-of-the-box approaches is essential.
Here there is good news for telcos: according to the latest (April 2013) PWC/NVCA MoneyTree Report, the networking and equipment sector accounted for $399 million in VC investments in 1Q13, or 6.8% of all VC spending that quarter – the highest ratio since 3Q05. Annualized VC spending in this sector doubled on the back of this strong quarter, from $322 million to $648 million.
Some of the start-ups benefiting from this modest surge blur the line between IT and telecom, addressing Big Data and cloud opportunities more generally. One such supplier is SevOne, a network analytics start-up that received a $150 million investment from Bain Capital in 1Q13. Another is Pluribus Networks, a fast-rising vendor in the SDN space which raised $44 million in Series C financing in March 2013.
Telcos are an important vertical market for these and similar vendors, especially as telcos directly invest more in cloud infrastructure, including data centers. The smartphone revolution is creating new start-ups with a range of specialties, leading to 1Q13 funding for mobile device security (AirWatch), application performance management (New Relic, Crittercism), “wireless array” enhancements to Wi-Fi (Xirrus), and more.
The bigger picture: IT blending into telecom, creating discontinuities
In the mid-1990s, the advent of wavelength division multiplexing (WDM) as a viable commercial technology was behind the funding of dozens of start-ups focused on optical communications. WDM promised a change to the basic economics of operating fiber networks.
There may not be a breakthrough technology like WDM on the horizon today – even if some people view SDN as today’s WDM – but there are many smaller opportunities for discontinuous innovation, and start-ups are exploiting them. Established vendors usually are, too, but often they are a step behind and more wedded to a legacy product line and installed base.
An overriding trend in today’s carrier networks is how important software is becoming to efficient operations. Most of the “legacy” telecom-focused vendors have a hardware heritage, some are struggling financially, and they now have competition from both start-ups focused on their space and established IT players entering into it.
Don’t count out the Alcatel-Lucents of the world, though. Let’s not forget that, for instance, Alcatel-Lucent’s most successful division is its IP group, created in 2003 from the acquisition of start-up TiMetra. Old dogs can learn new tricks. In fact, Alcatel-Lucent’s creation of Nuage Networks to focus on SDN-based opportunities is a very serious new trick.
Matt Walker is principal analyst for network infrastructure at Ovum. For more information, visit www.ovum.com/