[SATLUG] Open Wallets for Open Source Software

[Borries Demeler]

FYI: NYTimes article:


April 27, 2005
Open Wallets for Open-Source Software
By GARY RIVLIN

SAN FRANCISCO, April 26 - The first time Marc Fleury tried to raise money
for his technology start-up company, in mid-2000, a venture capitalist
told him that he didn't have merely a bad business plan but a terrible
one. Not only was Mr. Fleury planning to compete against the likes
of I.B.M., but his product was open-source software, which he would
give away.

Four years later, he tried again. His business was still based on the
free distribution of code, yet now there was a dogfight among venture
capitalists competing to finance his company, called JBoss.

In February 2004, JBoss received a combined $10 million from two prominent
venture capital firms: Accel Partners in Palo Alto, Calif., and Matrix
Partners in Waltham, Mass.

Venture capitalists are again embracing open-source technology
companies. JBoss, which offers a layer of software for controlling Web
applications, was one of 20 such businesses that raised $149 million
in venture money in 2004, according to estimates by the research firm
VentureOne. At least three open-source start-ups raised $20 million last
month alone.

But given some spectacular open-source failures in the late 1990's, a
natural question may be whether some of these venture capitalists have
perhaps lost their minds.

In 1999 and 2000, according to VentureOne, venture capitalists invested
$714 million in 71 open-source companies. Most of those projects
collapsed.

Turbolinux, which raised $95 million based on the idea of selling a
premium version of Linux, the open-source operating system, was one
prominent failure (remnants of the company are still doing business in
Asia). Linuxcare, a consulting company backed by Kleiner Perkins Caufield
& Byers, among other venture firms, was another. It burned through at
least $80 million.

"We all learned a lot of hard lessons," said Peter Fenton, a partner at
Accel, which invested in two open-source start-ups in the late 90's.

A big difference between then and now is the increased adoption of
open-source software by corporate users. Another is the relative success
of Red Hat, an open-source start-up that went public in 1999 and makes
money by selling enhancements and maintenance services to corporations
using Linux.

Red Hat has become something of an inspiration to open-source businesses
and their investors because it shows that it is possible to base a
lucrative services business on giveaway software. Red Hat also gives its
customers a guarantee that a long list of popular applications will work
on its edition of Linux.

The company had $125 million in revenue in 2004 and now has a market
capitalization around $2 billion. "There's peace of mind to having
the support of a billion-dollar public company behind a product, plus
our certification guarantee," said William S. Kaiser, a Red Hat board
member and an early investor. "That's valuable to a customer, even though
technically they can download all that software for nothing."

Red Hat's success in selling support services has created the
business model for virtually every open-source entrepreneur, including
Mr. Fleury. Venture capital firms have become so enthusiastic about this
approach that they seem eager to support practically any open-source
company just to have a stake in this hot area.

Mr. Fenton, for one, saw a sound opportunity with JBoss, whose open-source
software competes with similar proprietary products sold by I.B.M. and
BEA Systems.

"People thought we were crazy to do the deal," Mr. Fenton said. "They were
like, 'How can you do a company when it has no licensing revenue? Didn't
you learn from the late '90's?' "

But to Mr. Fenton, JBoss's business model, built on selling support
services, made sense. In 2004, Mr. Fleury said, the company was doing so
well that it had a positive cash flow. By the time Mr. Fenton thought of
investing, JBoss's software had been downloaded more than two million
times. Today more than six million copies of its product have been
downloaded, according to the company, which has 110 employees.

"Part of me wondered if I was crazy, but I couldn't argue with more than
two million downloads," Mr. Fenton said. The consensus among venture
capitalists is that JBoss and MySQL, a popular open-source database firm,
have the kind of mass distribution that can generate the revenue needed
to justify a venture investment.

But broad distribution, which is critical to the service model, is still
quite rare.

"Unfortunately, our industry tends to suffer from group thinking in our
approach to the world," Mr. Kaiser said. "So a lot of people are saying,
'Hey, Red Hat was a big hit, let's go emulate that.' But I'm not sure,
with some exceptions, it can be emulated."

Still, many open-source software products - tens of thousands are listed
on SourceForge.net, a corporate-sponsored community for open-source
projects - with very limited distribution are generating venture capital
interest and securing financing.

"I look at some of the investments made and I don't get it," said Michael
Olson, the chief executive of Sleepycat Software, an open-source database
vendor based in Lincoln, Mass., who advises several venture capital
firms active in the open-source business.

Mr. Olson said that Sleepycat, which has never taken any venture money,
has been turning a profit since 1996, charging other software makers an
annual licensing fee to use its product.

Danny Rimer of Index Ventures, an early investor in MySQL, is a leading
open-source venture investor. He also expresses the belief that some
projects that have received financing in recent months are less than
promising. He has met with dozens of open-source start-ups over the last
two years but has invested in only three.

And Mr. Fleury of JBoss said: "I cringe a little bit when I see some of
the companies that are getting funding. I worry it will give us all a
bad reputation in a 1999, 2000 way."

Not every open-source start-up is trying to imitate the Red Hat
model. For example, SpikeSource of Redwood City, Calif., is hoping that as
corporations embrace open-source software, they will need third parties
who can harmonize the multitude of proprietary and open-source software
packages that together run today's corporate data centers. The company
has raised $8 million from Kleiner Perkins.

"We see ourselves as the go-to company for interoperability issues,"
Kim Polese, SpikeSource's chief executive, said.

In the meantime, SugarCRM, an open-source company in Cupertino, Calif.,
is jumping into the lucrative market for software that manages customer
information. It is pursuing a kind of hybrid model by offering two
versions of its product: one that can be downloaded free, and a more
robust, more secure professional version that sells for $239 a year for
each user. The company raised an initial $2 million in venture money
last spring, said John Roberts, its chief executive, and $5.7 million
in February.

So far, it has signed up more than 100 businesses willing to pay for its
professional version, Mr. Roberts said. The company has created "quite a
buzz," said Matt Asay, organizer of the Open Source Business Conference,
held in San Francisco this month.

It is too early to tell whether the SugarCRM approach will work. But
if it does, Mr. Asay said, "you can guarantee that a year from now,
there'll be dozens of companies using the Sugar model."

Copyright 2005 The New York Times Company