VCs Weigh SDN’s Risks and Rewards

I’ve been thinking about a month-old post that Matthew Palmer wrote on the SDNCentral website.

In his post, Palmer considers that Arista, Insieme, and Vyatta were not financed by traditional venture capitalists. He further questions to what extent venture capitalists will plow money into the SDN space. He comes to the conclusion that it is “hard to believe there will be a large number of SDN startups being funded” by VCs.

My objective here is not to challenge Palmer’s conclusion, which seem about right. Instead, I want to examine his assumptions to see whether I can add anything to the discussion.

Slow-Growth Dead Zone

For a long time, VCs have eschewed the networking market. In recent years, Arista Networks emerged as the only new Ethernet-switching vendor to crash the established vendors’ party. Arista, as Palmer points out, was funded by its founders, not by VCs, who generally perceived networking, especially the enterprise variant, as a slow-growth dead zone controlled and dominated by Cisco Systems.

Meanwhile, the VCs had unfortunate experiences in the network-access control (NAC) market, where they sought to make bets in an area that was seen as peripheral to the big vendors’ wheelhouses.

As for SDN today, Palmer thinks most of the major VCs have done their bidding, and he believes Sequoia and Kleiner Perkins will fill out the field shortly. Beyond that, he doesn’t see much action.

Freeze Frame

He comes to that conclusion partly because of Cisco’s longstanding domination of the networking market. Writing that “Cisco learned a long time ago how to freeze markets and make markets look unattractive to competitors and investors,” Palmer believes the networking giant has put “everyone on notice” with its Insieme spin-in venture.  He believes Insieme, and whatever else Cisco does in SDN, will shut the door on SDN startups that aren’t already on the market with credible products and technologies that solve customer problems.

Perhaps VCs, as they have done in the recent past, will refrain from betting against the industry giant. That said, there already has been more VC activity in SDN than we’ve seen in network infrastructure for quite some time. In that respect, SDN demonstrably is different from the networking developments that have preceded it.

It’s different in others ways, too. I know I’ve hammered the same nail repeatedly in the past, but, at the risk of obsessive redundancy, I will do so again: The Open Networking Foundation (ONF) represents a powerful customer-driven dynamic that effectively challenges the vendor-led hegemony that has typified most networking markets and associated standards bodies. The ONF is run by and for service providers. Vendors are excluded from its board of directors, and their contributions are carefully circumscribed to conform with the dictates of the board.

Formidable Power

The catch is that the ONF is all about the needs and requirements of cloud service providers. The enterprise isn’t a primary consideration, though the development of enterprise-market demand for SDN products and technologies could further the strategic interests (economies of scale, innovation, vendor support, etc.) of the service-provider community.

Cisco is a formidable power, but it can’t impose its will on the ONF. In that respect, at least in the service-provider space, SDN is different from preceding network markets, such as Ethernet switching, which were basically incremental advancements in an established market model.

Call me crazy, but I believe that market and financial analysts should begin modeling scenarios in which the growth of SDN cuts into the service-provider revenues and margins of Cisco and Juniper. This will be particularly true in the cloud-service provider (IaaS) space initially, but it is likely to grow into other areas over time.

Enterprise Bulwark

The enterprise? That’s a tougher nut for SDN, for the reason I’ve cited earlier (ONF’s lack of an enterprise mandate), and for others as well. For starters, most enterprises don’t have the resources or the motivation (business case) to move away from networking models and relationships that have served them well.  As SDN evolves over time, that situation could change. For now, though, SDN is more a curiosity for enterprises than something they are considering for wholesale adoption.

Cisco and the other established networking vendors know the enterprise is safer ground for whatever SDN strategy or counterstrategy they present. In this respect, what Palmer terms “Insieme FUD” and other similar tactics are likely to be effective in the near term (the next two years.)

I really can’t quibble with Palmer’s conclusion — as I wrote above, it feels about right — but I think the VC investments we’ve seen heretofore in SDN already suggest that it is perceived differently from the linear networking markets that have preceded it.   I also believe there’s reason to think that SDN will lead to significant disruptions to the provision of networking solutions in the service-provider space.

How far can it go in the enterprise? For now, prospects are murky, but the game is in the early stages, and much will depend on how the SDN ecosystem evolves as well as on how effective Cisco and others are at leveraging the advantages of incumbency.

5 responses to “VCs Weigh SDN’s Risks and Rewards

  1. Also, the dollars needed and the risk profiles of network hardware VC and software VC are very different. The last couple of network VC opportunities have had mixed results and were mostly hardware & WLAN – Aruba, Airespace, Trapeze, Meru, Force10, etc. How much did it take to get each of these companies off the ground?

    • I think a point that is not well understood is if you are building an SDN company and that implies building the network differently, than the company will not need the capital investment levels required by companies in the 1999-2009 era.

  2. Good point, Abner. Those were capital-intensive undertakings, and, as you say, the results were mixed.

  3. Risking to make a “blanket statement”, I’d say that few service providers truly “get” Enterprise; therefore it would be interesting to see how many of the requirements that ONF is pushing will be applicable to what Enterprise users need.

  4. Pingback: Suitability of Network Virtualization for Venture Capital Investment

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