Asay the Alfrescan

I actually thought Digium would never take venture funding. The company doesn’t need it ($10M+ in sales and profitable), but apparently David Skok of Matrix Partners gave Mark Spencer (founder and CEO of Digium) an offer he couldn’t refuse:

Make that $13.8 million of them.

Matrix is one of my very favorite venture firms: great people to work with (David Skok and Bob Lisbonne both count as two of the first three to five people I’d talk to if I were to start a company) and very intelligent about what they invest in. They’re choosy.

Why Digium? Well, David puts it best:

“This company has an incredible power to disrupt the dynamics of what has been a very staid and closed industry,” he said. Even with its free software base, he said, Digium is “one of the most profitable businesses I’ve come across anywhere in the venture world.”

That’s saying something. And it cuts against the arguments Dan Farber was raising in his latest post on open source businesses. (He has a nice response to mine here.)

This is a great investment - one that should pay off even better than JBoss did for Matrix, if only because JBoss has set the stage for many profitable exits to come.

Btw, here’s a picture of David and Mark Spencer at OSCON. Anyone watching the two at the conference knew that an investment was afoot:

Good luck to Mark as he continues to build a killer business!

LinuxWorld Magazine (written by Paul Sterne and Nicholas Herring) has an interesting piece on open source venture capital investments. The report focuses on the question: is now the right time to invest in open source? The answer to some is “Of course!!!” But the data might suggest we’re in an inflationary period, with smart money waiting for valuations to come down.

From the article:

Starting in the mid ’90s, a few brave pioneers like Benchmark invested in an open alternative to proprietary software and made a fortune. By the end of the decade, everyone wanted a piece of the action. A second wave of VCs rushed in at ridiculous valuations and got their clocks cleaned. In 1999 and 2000, over-capitalized, over-valued open source companies burnt through hundreds of millions of dollars. Shame on the dumb money that gives efficient markets a bad name. Then, the bubble burst, and we entered nuclear winter followed by the trauma of 9/11. Valuations plummeted to the ground. Investors panicked and ran for the exits. Things hit bottom when the vulture capitalists waited until the CEO of SuSE Linux was in a cab on the way to file bankruptcy before agreeing to invest at a valuation set at 1% of SuSE’s peak value in 2000.

In retrospect, the SuSE recap was the turning point.

In 2002 and 2003, more smart money like Benchmark, Accel, and AdAstra fueled the open source industry with much needed capital. With the sale of SuSE Linux to Novell in November 2003, the industry reached a new inflection point. Valued at 50% of its peak, the SuSE exit excited a new rush to invest in open source in 2004 (no one wanted to miss the boat). After a small dip in relative value in 2005, when Novell dropped the open source ball, venture capital investment is on the rise and valuations are healthy.

In short, venture investing is a roller coaster. Whether you “lose your shirt” or make a mint largely depends on when you enter and exit the market (and not merely when you enter and exit a specific investment).

For example, take a look at the chart below. It shows the stock prices of Novell and Red Hat over the past 9 years. As an investor in either, you could be bankrupt or filthy rich depending on when you joined the party.

Funny enough, I helped to build that “smart money” period in Novell’s history, and made nothing from it. Matt = stupid.

So, is this a good time to invest? It’s certainly a great time to be in the business of open source. My decision to go to Alfresco has been the best career move I have ever made, and I suspect those at MySQL, Red Hat, JBoss, SugarCRM, etc. would concur. The problem for VCs, however, is that valuations are on the rise, and the amount of money in the market has moved well past the $1.3 billion I blogged earlier this year, making it harder and harder to make money, even on good exits.

Btw, if you want to know where to get the smart venture money, look to experience: