Open-Source App Firms Draw VC Funding

An $18 million round of funding for SugarCRM is an early sign that venture capital firms are starting to look at open-source application software companies as a new frontier for investment.

Open-source application software companies have grown to the point where they are starting to catch the attention of venture capital firms looking for new places to put their money.

Previously, open-source operating systems, development tools and database developers had received the lion share of investment from major VC firms.

But this week SugarCRM Inc. announced that New Enterprise Associates, a major Silicon Valley capital firm based in Menlo Park, Calif., has granted it $18.77 million, in what is by far the largest of the three rounds of venture funding the open-source software company has received.

NEA took an interest in SugarCRM because it is demonstrating that it has a successful business model for successfully developing and selling commercial open-source application software, said Scott Sandell, NEA general partner.

"Open source has been a successful way to develop software for some time. But there havent been that many successful business models," particularly in the application software space, Sandell said.

That has been why most of the venture capital investments have gone to companies such as open-source operating system company Red Hat Inc., the MySQL AB database company or to a development tools companies like JBoss Inc., Sandell said.

But SugarCRM has shown that customers will be willing to pay a premium to access the features of its enterprise CRM (customer relationship management) software after they have tried the open-source software on its Web site for free, he said.

"They have developed an outstanding product and they have a world-class management team that has resulting in very rapid adoption of their product," which is apparent from the number of developers who are using the product and posting extensions to it in the sourceforge.net community, he said.

/zimages/1/28571.gifClick here to read about why the venture capital community has been slow to support Microsofts .Net development platform.

Open-source application software is particular attractive to China and other developing nations that cant afford to pay the license fees charged on most proprietary applications software developed in the United States, Sandell said.

The company has invested in at least two other open-source companies including Pentaho Corp. of Orlando, Fla., which develops business intelligence applications, and XenSource Inc. of Palo Alto, Calif., which develops virtualization technology,

There is a huge potential market in the developing world for open-source software, he said, because most businesses in that sector have few or no computerized business systems. This could change if they had access to more affordable open-source applications, he said.

Furthermore, the "open-source business model allows local systems integrators and other VARs to modify the product to the local language or to add features that are attractive to the local market" at a much lower cost than is possible with proprietary software, he said.

NEA sponsored an open-source software conference in China this month that attracted "many of the leaders of Chinese open source community," Sandell said. "Chinese software developers are very interested in the open-source approach because it is an affordable way for companies [in China] to gain access to software they need to prosper."

"They see that China can play a role in developing these products, which is typically not the case for proprietary products developed in the United States," he said.

Next Page: The developing world values open source.

John Pallatto

John Pallatto

John Pallatto has been editor in chief of QuinStreet Inc.'s eWEEK.com since October 2012. He has more than 40 years of experience as a professional journalist working at a daily newspaper and...