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Wake Me Up When It's Over
A bi-weekly column with timely, relevant and possibly irreverent insight into the BC technology industry.

Something Ventured:
November 8th, 2002


By Brent Holliday
Greenstone Venture Partners

 

"Then the dream ends when the phone rings,
you doing alright he said it's out there most
days and nights, but only a fool would complain." - Tragically Hip, Nautical Disaster

I'm running out of ways to say "crap". And that is what the technology markets continue to be in late 2002. In this installment of my somewhat quarterly look at the business conditions that the BC technology start-ups are facing, I find that optimistic words escape me.

Last Friday, I found myself full of hope. It was a great weekend. I drove home listening to CNET's stock talk and CNBC's Kudlow and Cramer. As you will recall, Microsoft had just been handed the Get Out Of Jail Free card earlier that day. The great monopoly trial was over, at least in the US. Larry Kudlow made an interesting point. He said that the whole Microsoft anti-trust trial started in March 2000 and ended in November 2002. He felt that, for a lot of reasons (overall business spending in the US was up 9% Y/Y in Q3… the first increase in 5 quarters), this must be the turning point for the technology economy and that the Microsoft trial was a neat set of book ends for all of the "crap" we have lived for the past 2.5 years. In other words, he was calling the bottom. Enthusiasm was everywhere on Friday as the US looked forward to a Fed rate cut, a Republican sweep of the election and Cisco reporting on Wednesday (a hat trick of good news, potentially). It all happened just as they said it would. So why am I deflated again, one week later?

First of all, Cramer and Kudlow have called about 15 bottoms already, so they are not to be trusted. Damn. Secondly, although Cisco beat the street numbers, John Chambers painted a very murky picture of the next 12 months. He said that the enterprise is not buying in reliable and growing patterns. Thirdly, more Republicans in the Senate will not make CIOs buy more telecom gear. At best, defense related companies will do well as George Bush will spend bazillions on the military in the coming years. Finally, a Fed rate cut (not to be mimicked by the Bank of Canada, by the way) does very little to encourage technology spending. Lending rates are not tied to the Fed's overnight bank rate, but rather to demand. And demand for loans and refinancing of existing debt is at a peak right now, so prices (rates) remain the same.

I don't rely completely on the pundits for the whole picture (although I do thank them for that brief buoyant mood last weekend). So this week I have been engaged with the real people making the real enterprise decisions out here in the U.S. I've been with folks in the outsourcing camp and the enterprise decision makers. Other VCs are here too, sharing their stories of talks with large and medium sized businesses across all industries. Here's a summary of some of the discussions:

On the subject of IT budgets for 2002 and 2003 -
The chances of a Q4 jump in spending due to unspent budgets for the year being unloaded is minimal. Having learned their lessons last year, IT departments have actually spent their budgets evenly all year. It's just that the budgets were smaller. Also, there will be no penalty for handing back a little dough at the end of the year. Next year is looking very lean, especially for the industries that spend the most on IT (telecom, technology, finance/banking). The message is that CIOs want the existing gear and software to stretch one more year of usefulness before an upgrade. A cottage industry in consulting right now is in giving advice on how to make old technology investments last. Perhaps we are at the bottom of the cycle in technology cynicism.

The real time line for new technologies -
Despite all of the hype, all of the press releases and all of the debate, certain technologies are not making an impact at all and experimentation with some have been disappointing.

Take VoIP for instance: A large un-named firm is rolling out VoIP phones on the Cisco platform. The announcement was in February 2001. They are only on step 3 of 26 steps in the rollout plan. When an entire location had the phones installed, the requisition for cell phones went through the roof. Why? The IP phones were so unreliable and caused local system crashes (bringing down all data access with it) that people started using cell phones to do business with the outside world and with each other!

The "web services" implementation is going very slowly. The fight between .Net and J2EE is not the only reason. The lack of widespread use of XML standards on data is perpetuating the Tower of Babel. There is hope that big proponents, like IBM, handling large outsourcing accounts will force more widespread adoption over the next year. Web based applications are still being built with duct tape and bailing wire in the meantime.

Next generation optical technologies are an anathema -
A company that recently won the Ottawa Venture Fair is launching a wavelength provisioning system based on their Optical Add/Drop Mux technology. They claim five trials with big vendors. I don't know what the Ottawa VC community is smoking. Any company selling wavelength services is looking at a three year implementation period before meaningful revenue. These guys are out of money in 6-8 months and are burning >$1M a month. Unless they dramatically downsize and their existing investors pony up until 2006, this company is dead.

These are examples of technologies that are not on anyone's purchasing radar yet. But it's not all doom and gloom.

What are they buying right now? -
It sounds old, but security is selling. Security products have been hyped for over a year. The reality is that, until just recently, security was talked about by every enterprise, but not acted on. Security has moved into a new generation. Instead of perimeter defense, companies have realized that security has to go right to the end user. The demand for data to move around the Internet has increased to a point where security people in large enterprise have to encrypt all traffic, authenticate every user and embed security right in applications. Finally, new technologies from new companies are being adopted. Also, new business models are arising in security. The old model of selling, say, certificates at a per user price doesn't work. When Verisign asked for $30 per user for a large company's 40,000 employees, the IT security guy said that the entire perimeter defense budget (firewalls, VPN, virus) was less than that amount. Verification technology needs to be a part of the overall cost per year.

The resurgence of the knowledge management/process management software sector is notable. An attempt was made to harness this monster in the late 1990's, but the technologies were essentially glorified search engines that could find un-structured data. Now, the enterprise wants better "mind-share", which is the knowledge in the head of the employees, not just the data on their laptops. This means that software that encourages good process practices and makes meaningful information metadata for sharing will get a good look from today's enterprise. Also, document protection is in demand as companies want control of their knowledge and thoughts after they leave the employees control (limited printing, saving and copying). All of this is a subset of corporate e-learning which is gaining steam as companies look for ways to make more productive employees (from the ones that are left!!!)

So now to the punch line that was asked of every one I saw this week… when do we see a pick up in IT spending across the board? The consensus was late 2003. Which means that technology company revenue and profits should stabilize in 2003 and then start to grow again, slowly, late in the year. The pundits keep calling the bottom and once in a while I will take the bait and think happy thoughts. But the reality is that the bottom has probably not come yet.

As a VC looking to capitalize on that timing, I am excited about early stage opportunities today. Investments today will be ready for the market when the market is ready to accept new technologies from small companies. That should be 12 months away. It will be nice to get off the pot and make a couple of investments, especially if we see then end of the "crap" out there on the horizon.

Letters From Last Time –

Hi Brent,

I am a regular reader of your excellent column on T-net site and I enjoy your refreshing writing. Keep up the good work!!

Your most recent column was very interesting. I find that your views are representative of the Vancouver hi-tech decision makers. Unfortunately, I believe that they are not based in ground reality and I was disappointed to find that you too treated the issue without providing fresh insights and properly educating your audience.

I am an India-born and trained software engineer, currently based in Vancouver. I started my career in Bangalore and eventually I ended up working for a Vancouver-based KPCB-funded start-up. I have closely observed the hi-tech community in Bangalore, California and Vancouver. I would like to share some of my insights with you.

Let me share this Businessweek article with you that I just saw this morning. Actually, that's what prompted me to write this e-mail to you: www.businessweek.com

After you go through this article, I am sure you can guess the arguments I am going to make. Here's some major points:

1. I find your gratuitous reference to 3$ programmers in Bangalore to be uninformed and in bad taste. You do a great disservice to your audience by perpetuating "sweat shop" stereotypes that are not based in facts. As the article notes and I can personally vouch from my experience, average salaries in Bangalore range from about 12,000 USD to 30,000 USD per year, far more than C$1095 per year implied by your comment. I know of highly experienced engineers and designers making even more than.

2. You also seem to summarily dismiss product development activities in Bangalore, assuming that product managers will be based in North America. Well, as the article mentions and I can once again vouch from my personal experience, there is tremendous investment in product development by MNCs as well as local companies. I know for a fact that Oracle, Cisco, Intel, Microsoft, Lucent and Texas Instruments are developing a lot of their globally deployed products from Bangalore. And yes, they do have product managers based in Bangalore.

3. You seem to assume that we (North America) will always be ahead in the innovation race. While this may be true of California and Massachusetts, I personally think that Vancouver is losing the competition to Bangalore. This is primarily because of MNC R&D investment. Personally, I find this to be the most annoying and perplexing part : we live next door to Seattle, Portland and Silicon Valley. We have NAFTA, one half to one third the cost of operations and a first world society. Why is it that we're not able to intercept the Intels and Microsofts of the world on their way to India? I see no counterpart in Vancouver to the large MNC R&D centres in Bangalore, which really are kicking up the innovation level there. Show me where the equivalent of 200 patents produced by Texas Instruments or 60 patents produced by Intel is in Vancouver. Bangalore innovates across the spectrum, all the way from ASICs and analog chips to high-end ERP and CRM software.

4. The last comment I'd make is about the quality of networks. While we have a great university system in UBC, SFU and UVic, we are not among the most preferred destination for highly educated immigrants from other universities in the US, India or other countries. I went to an elite school in India. Today, half of my class is in the US while the other half is in Bangalore while there are only three of us in Canada. One of my ex-classmates is a co-founder of the number 1 VC funded company in Canada today. Strong Indo-US networks are tremendously benefiting both sides and creating strong business relationships. I have personally come across many US-educated Indians in Bangalore, including those from top schools like MIT, Stanford and Harvard. I have also seen many ex-pat managers with 10-20 years of US/worldwide experience going back to settle down in Bangalore and creating companies or managing MNCs there. Vancouver hi-tech does not seem to have such relationships and flow of people back-and-forth, resulting in a highly parochial business culture.

Sorry for the long e-mail, but your article touched a spot. I do believe that by characterizing our competition as generic "third world sweat shops" as you did by so tellingly lumping together Thailand and Bangalore, we are merely burying our heads in sand. There is absolutely nothing in common between Bangalore and Thailand. Bangalore is strongly competing with premier tech centers in the world such as Silicon Valley and Boston, by building up the innovation chain and attracting the lawyers, accountants and VCs while Vancouver is nowhere in the race. They are getting the investment dollars and we're not. I do wish the reality were otherwise I'd love to be proven wrong.

Cheers, Mittal

PS1: Just heard that Pivotal laid off 150 people. Apparently, Pivotal India is recruiting 150 people in Bangalore.

PS2. Vinod Khosla invested made his most recent optical networking start-up open an R&D centre in Bangalore (www.infinera.com) instead of Vancouver.

Mittal:

Wow, that's the most thoughtful and passionate letter I've seen in 4.5 years of doing this column.

Let me begin by apologizing for any dis-service to Bangalore or any other foreign center of technology development in the 2nd or 3rd world. My point was one of exaggeration when I spoke of $3 a day workers and it was definitely ill-informed. Certainly a worker in Bangalore being paid half of a CDN wage and living very well in India still commands a tremendous comparative advantage over paying a worker of similar skill to do the work here. Good folks like those at Momentum Technologies (Indian contract software development) here in town remind me of that on a regular basis.

We do land on the same page on the point that I was trying to make in that column: Without world-leading innovation, we cannot support an increasing quality of life of our society here in BC. We are dropping the ball by not capitalizing on the good research already being done and by not creating centers to spur further development (notwithstanding the Fuel Cell Centre of excellence, BC Cancer Agency and NEWMIC which are shining examples of commitment to new innovation).

The story of Singapore is instructive here. 40 years ago, the standard of living in Singapore was dreadful. Unemployment was very high. 20 years ago, after organized commitment and policy changes to become a world leader in low-cost manufacturing of certain high value industrial goods (electronics in particular), the standard of living dramatically improved. But with improved quality of life for its citizens, came a request to keep improving. Wages got higher, imports of luxury goods increased and Singapore faced a crisis of sorts: they could no longer be the low-cost manufacturing leader. Wages were simply too high and Taiwan was eating its lunch. They started on a new path of dramatic financial reforms and the courting of the world's financial institutions. New policies and attitudes drove a whole new white collar class and again, improved quality of life. Meanwhile, the country was forced to perform more R&D and less contract work in electronics as the more educated new generation of workers demanded still higher wages, lest they leave for North America or Europe. Now, all of Singapore's policies seem oriented towards creation of IP and core commercial value. They have moved to the top of the food chain and need to out-innovate the top nations to keep the standard of living on an upward path.

While Bangalore and India have far-different macro challenges than a tiny island nation, the message is that there is no rest for the successful. In Canada, we have been losing ground in our standard of living compared to the US for over a decade. The innovation chain that you speak of is critical if we want to improve. We should take a page from Bangalore and be hungry to be the best.

Thank you for a great letter.


What Do You Think? Talk Back To Brent Holliday

 



Something Ventured
is a bi-weekly column designed to supplement the T-Net British Columbia web site with some timely, relevant and possibly irreverent insight into the industry. I hope to share some of the perspective and trends that I see in my role as a VC. The column is always followed by feedback (if its positive or constructive. I'll keep the flames to myself, thanks).

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