Startup Funding Nears $2 Billion

While venture money may be drying up in some areas of technology, it still seems to be pouring in to storage networking startups. Funding of the current crop of companies in this field is near $2 billion, according to Byte and Switch's analysis -- raising a question mark over whether all this money is being well spent.

In the exercise, Byte and Switch identified all of the storage startups on its radar screen and collected information on how much funding each one had received. After totaling everything, the results indicate that $1.854 billion has been committed so far on 60 or so startups. So, allowing a fudge factor for the stealth-mode companies that are keeping mum on funding (and, okay, the ones we may have missed), a $2 billion total is probably about right.

Of course, this is just for starters. Most of the $2 billion went into first- and second-round funding, so a lot more money could be in the pipeline.

Now check this out. When the startups are divided into different market segments, big differences emerge:

Figure 1:

Its evident the storage service provider (SSP) space is chock-a-block. We counted no fewer than 14 separate startups in this area with a total of $542 million in funding among them.

Still, SSPs don’t have it easy. It’s a different business model from the one "enjoyed" by equipment providers, as they need sufficient funds upfront to build networks that will provide enough coverage to compete with the players already out there. And this is expensive. The flip side is that the ensuing revenue stream will be constant, as opposed to an equipment provider's having to sweat out where the next contract is coming from.

Anyone considering putting a few dollars into another new startup in this sector should consider the circumstances of StorageNetworks Inc. (Nasdaq: STOR), one of the existing players. Yesterday it announced a $32 million net loss in its second quarter and laid off 220 employees, one third of its staff. (see StorageNetworks: Big Layoff)

Next on the chart for receiving the most funding are startups building high-performance storage systems companies. Funding totals $303 million at present. Mind you, that figure got a big boost earlier this month when 3PARdata Inc. announced a massive $100 million round (see 3PARdata Snags $100M).

Interestingly, there are only four major players in this sector – 3PARdata, Cereva Networks Inc., Yotta Yotta, and TrueSAN Networks Inc. These companies are building high-end systems that include the ability to store massive amounts of storage as well as switch it over Fibre Channel and gigabit Ethernet networks. A tall order it seems, as these systems are obviously not cheap to build (see Top Ten Private Storage Networking Companies).SAN and NAS virtualization appliances from the likes of Zambeel Inc., StorAge Networking Technologies Ltd., and Panasas represent the hottest technology sector right now in terms of new companies launching in this space. But they are third on the list for the amount received in funding, with $270 million so far. This raises the question of whether all of these companies will receive enough investment down the line to survive.

Component startups just about make it on to the chart with a total of $54 million. The concern for these companies is whether the market will be big enough to support them when incumbents like Agilent Technologies Inc. (NYSE: A) and Lucent Technologies Inc. (NYSE: LU) have divisions devoted to this sector.

All this raises the question of whether too much money has been allocated to this market. The table below shows how many companies are involved in each category. (Let us know if we’ve missed any!)

Table 1: Investment in Storage Startups, by Market Sector

The herd mentality is well under way among investors, according to most analysts. We counted no fewer than 60 different venture capital companies that have invested in storage startups to date."There are so many new investors interested in storage without thinking why they're interested,” says Duncan McCallum, a partner with OneLiberty Ventures, a VC firm that's already well established in this sector (see VCs: Who's Hot?). “You're getting a lot of me-too companies funded now.”

So what lies ahead for sectors that are bursting at the seams with startups?

”There will be a high level of failure for startups as well as customer confusion,” says McCallum, “although it won’t have a large impact on companies that deliver true innovation and value, as customers are still in tremendous pain and have plenty of dollars for storage."

”It’s healthy but chaotic out there today," says one Silicon Valley VC who’s invested in three storage companies (and requested anonymity). “But if many more get funded the shakeout will be painful.”

Rodney Schrock, former CEO of AltaVista, now president and CEO of storage startup Panasas, says, “There are so many VCs out there now offering funding who simply want a storage investment in their portfolio, and this is a dangerous offer to go for.”McCallum adds that these sorts of investors are less price sensitive and are usually just after the hot deal. “To be on the safe side," he says, "startups should look for VCs investing ahead of the herd, not alongside it."

– Jo Maitland, Senior Editor, Byte and Switch http://www.byteandswitch.com

Want to know more? The big cheeses of the storage networking industry will be discussing this topic in a session at StorageNet, Byte and Switch’s annual conference, being held in New York City, October 2-5, 2001. Check it out at StorageNet2001