VC: ISV Industry Analysis

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VC ISV Industry Analysis RecommendationsBrian
Halligan
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Agenda

• Premise of Paper
• S/W Industry Structure Then Now
• Revenue, IPO, MA, and other trends
• Recommendations for VCs
• Halligans investment interests

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Premise

• ISV industry has stabilized into a gentle
  oligopoly
• ISV S-Curve
• What does it mean for vcs entrepreneurs?

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Software Industry Structure Porters
5-forcesForce 1 Intensity of Rivalry and
Competition

• Then (1990) - Low
• Very high growth in industry
• Low relative fixed cost
• Wide variety of differentiating capabilities
• Smaller number of players from mostly developed
  world

• Now (2004) - High
• Growth stabilized (see later slides)
• Fixed cost are higher now
• More difficult to differentiate
• Numerous players around the world with entry of
  low-cost developing world

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Software Industry Structure Porters
5-forcesForce 2 Barriers to Entry

• Then (1990) - Low
• Product differentiation was easier
• Brands evolving
• Switching costs lower
• Network effects not completely established

• Now (2004) - Higher
• Product differentiation is harder
• Brands established
• Much higher switching costs
• Network effects create significant barriers

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Software Industry Structure Porters
5-forcesForce 3 Bargaining power of Suppliers

• Then (1990) - High
• Strong developers in short supply
• Few experienced project/program managers
• Education/training concentrated evolving

• Now (2004) - Low
• Large supply at low cost from around the world
• More experienced managers available
• Matured education/ training freely available

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Software Industry Structure Porters
5-forcesForce 4 Bargaining Power of Buyers

• Then (1990) - Lower
• Could not clearly articulate needs
• Technology was Strategic thrust
• Demand far exceeded supply

• Now (2004) - Higher
• Can clearly articulate needs
• Technology has been commoditized
• Supply has significantly increased

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Software Industry Structure Porters
5-forcesForce 5 Threat of Substitutes

• Then (1990) - High
• Bespoke software lower in the stack
• Technology was strategic advantage more custom
  development
• Lower switching costs

• Now (2004) - Lower
• Bespoke software higher up the stack
• Must have efficiency focus - less custom
  development
• Higher switching costs

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Software Industry Structure Porters
5-forcesSummary

• Then (1990) ?
• Rivalry Lower
• Entry Barrier Lower
• Supplier power higher
• Buyer power lower
• Substitutes higher

• Now (2004) ?
• Rivalry Higher
• Entry Barrier Moderate
• Supplier power lower
• Buyer power higher
• Substitutes lower

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Packaged Software Annual RevenueSlowing growth
thinning margins
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Projected Revenue Slow growth is predicted by
IDC going forward
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Shifting marketsConsumer software has higher
margins faster growth than enterprise
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Shifting Form FactorsEmerging form factors are
growing
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Software IPOs Few Transactions in 04IPOs
down from pre-bubble era
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Software MA 750 Transactions in 04MA up
from pre-bubble era

• 19 public ISVs acqd in 04. Down to 237
  public ISVs.

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Software Industry Consolidation

• Industry has matured
• Top 10 firms control 58 of Revenue

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Software Industry ConsolidationWall Streets bet

• Industry has matured
• Top 10 firms control 72 of Market Cap

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Software Industry as OligopolyWall Streets bet
Microsoft
Oracle
IBM
SAP
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Historic VC InvestmentSoftware as a percentage
is still increasing
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Recommendations for VCs

• Reduce investment in Enterprise ISVs in favor of
  SME and other industries (i.e. biotech).
• Invest in new form factors
• Build companies to attract future acquisition
  (most logical exit)
• Differentiation by business model, not just
  technology!!

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Halligans investment interests

• Next generation MCAD (its time)
• Collaboration Virtual Reality merge
• P2P version of Webex
• Unified user ontology
• Search (Googles better, but)
• Self-service SME applications
• Personal portals (Vermeer realized)
• Wikis replace MS-Word Content Mgmt
• Neuroscience (www.neuroplaz.com)

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QA

• Thank You!