Private Money Returns to Telecom

Industry sees $2.6 billion in investments for first time in five years

After years in a slump, watching investment money pass them by, telecom companies once again are attracting venture capitalists’ interest. In 2006, telecom saw more private investment funds than it had since 2002. That’s according to the MoneyTree Report from accounting and research firm PricewaterhouseCoopers (PwC), which found that venture capital firms put $2.6 billion into telecom last year, as compared to $2.4 billion nearly five years ago. The numbers dipped by millions of dollars in the intervening years, and then began to climb again in 2005.

So far, the standout period is the third quarter of 2006. In those three months, investors poured $914 million into telecom — the largest amount since the fourth quarter of 2001.

PwC attributes 44 percent of the telecom sector’s growth in all of 2006 to wireless; 128 deals garnered $1.2 billion. The hottest niche is wireless content, but the products and services built on the 802.16 and IP standards are drawing attention, too.

Thomson Financial at press time said venture capital fundraising slowed somewhat during the first quarter of 2007, but did not release breakdowns or other detailed information by industry.

The time is ripe for venture capitalists because the convergence of voice, data and content finally has become reality, and it is molding the next generation of telecom, says Gerry DeHaven, managing director of investment bank Blue Beacon Capital LLC. That’s compared to the capital-driven model investors supported in the late 1990s, when they pumped money into expensive, clunky infrastructure. A decade later, networks are scalable, less dependent on hardware, and support innovations like video telephony and presence. Even though wireless is the most sought-after segment, IP applications and services also are fueling growth in telecom. As Robert Rosenberg, president of telecom analyst firm Insight Research puts it, telecom’s overall promise no longer is in the plumbing, but in the applications that use the plumbing.

Without question, wireless content is king. Witness the top telecom deals in last year’s fourth quarter. Of the $469 million of private money dispersed in that time frame, three mobile content aggregators and distributors received a total of $112 million. Startup Cellfish Media LLC snagged $50 million, according to PwC’s MoneyTree Report. The more-established Motricity Inc. and MobiTV Inc. each reeled in around $30 million. Content creates a win-win situation for service providers and media outlets, both of which must move beyond traditional boundaries to thrive, analysts say.

In turn, those partnerships appeal to investors. Operators are making good money by offering multimedia features that “excite and entertain consumers,” says Jake Saunders, Asia-Pacific research director for ABI Research. Saunders says mobile Internet downloads and data contribute 3 percent to 17 percent of overall profit to carriers’ bottom lines. Investors aren’t about to ignore that revenue potential, which is where content providers like Cellfish, Motricity and MobiTV come in.

“Our goal is to create a leader … in the U.S. at a time when this market starts to blossom,” says Andre Tremblay, a partner at Trio Capital LLC, a Cellfish Media financier. Cellfish Media creates its own ringtones, wallpapers, animations and videos, and licenses content from third parties. Barely a year old, it will use the $50 million to ratchet up growth.

“The mobile industry has evolved to the point where content is the primary driving force for growth, beyond networks, handsets and technology,” says Steve Clark, former CEO of a wireless ISP, who is helping to fund Motricity. The company pulled in $72 million in private money last year alone, boosting its numbers to more than $150 million. The company brings together ringtones, games, graphics and more for service providers. It has landed some enviable contracts, from being the sole distributor of Bravo’s “Top Design” reality series and MTV’s “Bananas” subscription service to pushing Universal Music Group’s music from artists such as Gwen Stefani and The Killers.

Then there is MobiTV, another competitor in the content space that scored big with investors last year. It brought its private funding to $100 million in the fourth quarter of 2006 when it secured an additional $30 million from new partners Adobe Systems Inc. and Hearst Corp. Adobe supported MobiTV because it is “making significant progress in a promising market,” says Paul Weiskopf, vice president of corporate development at Adobe. MobiTV just made a presumably lucrative agreement with Warner Music Group, too, that should bode well for investors and the company. MobiTV will distribute original videos by Linkin Park and other artists. The terms of that deal were not disclosed.

Content is only part of the overall wireless picture, however. Researchers at investment bank Rutberg & Co. say WiMAX is another noteworthy sector.

The biggest WiMAX-related investment in 2006 went to Clearwire Corp., the wireless broadband services provider founded by Craig McCaw. Clearwire got $900 million from Intel Capital to develop and deploy portable and mobile WiMAX networks. Intel funded Clearwire in part because the chip maker plans to integrate mobile WiMAX into upcoming notebooks. “It is incredibly important to collaborate with the broadband wireless providers who will offer WiMAX services,” Sean Maloney, Intel executive vice president and general manager for the mobility group, said last year. The investment, he added, “will lay the foundation for high-speed mobile broadband services across North America.”

Clearwire then took that money and went public earlier this year. Its stock has fluctuated, and analysts predict the company will continue losing money for several years, but they consider Clearwire a good long-term investment.

So far this year, two WiMAX-related companies have secured nearly $60 million. Beceem Communications, which makes mobile WiMAX chipsets, recently raised $40 million more to invest in R&D and new products. Aperto Networks, a manufacturer of WiMAX base stations and subscriber units, in the first quarter of 2007 secured another $19 million, boosting its capital to $139 million. Aperto Networks, too, will use the newly raised money for product development.

Venture capitalists also are excited by IP products, networks and applications — chief among them VoIP.

Investors took their time in funding VoIP because the technology first had to prove itself, which happened in 2005, says Blue Beacon’s DeHaven. “There’s no question it’s here, it’s staying,” he says. Now investors are funding equipment at the network edge, such as session border controllers, and applications such as network security, says Tom Wheeler, a partner at private equity fund Core Capital Partners. Core Capital, for example, supports NexTone Communications, an IP gateway maker, and Sourcefire.

Indeed, VoIP’s stability is why firms like Blue Beacon are snatching up private money for STS Telecom, New Global Telecom Inc. (NGT) and others. Ever since STS Telecom, a former UNE-P CLEC in Florida, started transitioning subscribers onto its own VoIP networks, “more venture capitalists are interested in these guys than we know what to do with,” says DeHaven. Blue Beacon further helped NGT get $10.75 million last year. And, at press time, DeHaven said Blue Beacon was in the midst of raising $20 million apiece for two unnamed telecom clients.

Meanwhile, Acorn Angels, Parawin Venture Capital and Purple Communications Ltd. last year gave peer-to-peer SIP provider TelTel nearly $9 million to pursue customers and propel R&D. Another peer-to-peer calling provider, SIPphone Inc., accepted $6 million in private funding, as well.

And Cbeyond Communications, a now-public CLEC that has based its SMB business services on an all-IP model from the start, has done so well that it’s fueled demand for companies with comparable business models, says DeHaven. “Venture capitalists,” he says, “can be a lot like herring — they follow the leader.”

Taken as a whole, the telecom and tech sectors have matured to the point where investors no longer shy away, says James Hillier, a UBS analyst. Companies are generating steady, free cash flow and venture capitalists want in on the action, he says. To be sure, they are more cautious and paced than they were in the late 1990s, but that is a good thing, says Tom Nolle, founder and president of technology consulting firm CIMI Corp. Nolle predicts venture capital deals in the States will pick up even more throughout 2007, leading to a robust telecom industry in 2008 and 2009. “I think we’re seeing a resurgence in telecom worldwide,” he says.

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