When it comes to selling products to big companies, young software companies face a Catch-22: Most corporations aren't willing to bet on a business application that doesn't have at least a few large customer references, yet those references will never materialize without some brave soul believing enough in a start-up to take a risk on its unproven software.
IBM is out to change that.
The IT giant has come up with a model for investing in young companies that it says is beneficial to both, while, for customers, it takes some risk out of writing a check to an otherwise unknown vendor.
In 1999, when then-chairman Lou Gerstner decided IBM would pull out of the application business and focus more on infrastructure, the company's venture capital division decided to eschew the traditional investing model. Instead of offering cash in exchange for a stake in the company, investors opt to strike "partnerships" with new companies that the division deems strategic and offer them advice, guidance and access to large accounts.
"We're focusing on the model of being a partner in corporate strategy," says Claudia Fan Munce, managing director of IBM's Venture Capital Group.
What the program offers are elements many entrepreneurs say money can't buy - testing their products in IBM's labs and certifying them, offering technical advice and glimpses at IBM's product road maps, and, perhaps most important, putting them in touch with potential customer contacts or even agreeing to resell the new company's product.
"These [enterprise] guys are risk-adverse; they only buy brands," says Steve Savignano, CEO of software maker Ketera, which has had a partnership with IBM for three years. "Our brand alone is not going to close the deal. IBM has provided us credibility from a brand perspective."
Such credibility can't be bought, agrees one venture capitalist. "IBM can help through co-marketing - that's a soft way of providing credibility - or through a reseller arrangement," says Asheem Chandna, a venture partner with Greylock Partners. "Public companies such as IBM that have partner programs are of a high value to the smaller companies, while there are multiple sources that money is available from." One of Greylock's portfolio companies, security software developer SourceFire, is a partner with IBM.
To get such help from IBM, a start-up must commit to including IBM's product road map in its own. This means using some of the company's current technologies that may or may not make sense for a start-up and also hoping that IBM's strategy aligns with a new company's plans.
Partnering with an industry giant isn't always the best strategy for a start-up, another venture capitalist says. "We're very hesitant with little companies to get them started on a relationship with a giant partner. Historically, it's difficult. When the elephant switches direction, the mouse gets crushed," says Paul Holland, a partner at Foundation Capital, which invested in Ketera and has an informal relationship with IBM. "We're pretty careful about what type of management team can handle that."
In the case of IBM, Holland is more comfortable offering up software application companies as potential partners, compared with a middleware company, for example. "When we roll out application companies and put them in front of IBM, we feel confident we're not going to run into conflicts with them," he says. "If you're a middleware provider, you've got to be a little careful when dealing with IBM or others, because it's a little bit like you're the male black widow, they're the female."
Putting IBM's stamp of approval on products from independent software vendors (ISV) not only gives start-ups a significant leg up in the market; it also identifies new technologies for corporate customers to consider, Fan Munce says. "Enterprise customers feel it's risky to rely their business application on a start-up that might be here today, gone tomorrow," she says. "We bring [the start-up] into the IBM infrastructure before we take them to customers and put the IBM brand behind them. . . . it's something we don't risk very easily."
Because new companies need fresh ideas and must be nimble to make it in the market, they can often offer corporations a new approach to business problems, Fan Munce says. "Small companies are fast moving; the competitive landscape forces them to innovate," she says.
What's in it for IBM, besides getting some equity in the start-up - Fan Munce says it never takes more than a 10 percent share - is having plenty of software products that work with its infrastructure offerings from which customers may choose.
This concept of endorsing smaller companies with complementary products isn't new. IT giants Cisco, Microsoft and HP have long fostered start-ups with offerings that round out their own. But IBM says the breadth of its partnership program is unsurpassed, in part because its strategy to get out of the application business opened so many opportunities in the market.
Becoming an IBM partner at the most basic level means a start-up gets free training, education and technical support in IBM's key technology areas, with the idea that the young company's own product will be based on some of IBM's infrastructure brands, such as its WebSphere e-commerce server or e-business hosting system. There are roughly 90,000 companies involved with IBM's PartnerWorld program, says Mark Hanny, vice president of ISV alliances and go-to-market strategy.
The next level of partnership involves entering the formal alliance program, in which IBM puts its brand behind the start-up. Once IBM has tested a new company's product and certified it, Big Blue will introduce the company to large corporate customers, go on sales calls or even resell its product, offering marketing support and visibility. Hanny pegs the number of companies that have taken their relationship with IBM to this stage in the low thousands.
Sometimes IBM licenses the new company's technology, and once in a while Big Blue will outright acquire a company.