SINCE THE BUBBLE BURST IN 2000, A FIGHT FOR survival has emerged in the enterprise software industry. Corporate IT budgets are a shadow of their former sizes, purchasing cycles have stretched, and industry consolidation and business viability questions afford huge advantage to the industry behemoths like Microsoft, Oracle, IBM and HP. As we enter 2004, there is renewed optimism from small breaks in the clouds, which could portend a new up-cycle for innovation and entrepreneurism in the software sector. As the macro economy rebounds, will new opportunities arise for start-up players to thrive as before, or has the industry reached a more profound state of maturity as a result of accelerating consolidation over the past three years?

The recent economic downturn is clearly in abatement and there appears to be early signs of recovery. With the recovery, new technology concepts seem to be emerging that are a significant departure from today’s state-of-the-art. Those best equipped to exploit the emerging opportunities are once again the fleet-footed entrepreneurs and start-ups without traditional overhead of supporting legacy businesses and customer bases.

While the acronyms differ, the pattern is the same. Internet technology and Websites fueled the previous generation of new-entrants to the software industry; and ERP, SQL and Client Server technology, the one before that. The current ascent appears to emanate from increasingly cogent unmet enterprise needs in domains such as IT security, corporate compliance and risk management, establishment of the real-time enterprise, and IT infrastructure consolidation. Like every previous software cycle, the allure of dramatic business productivity gains and enhanced competitive advantage through successful adoption of new software automation is once again creating urgency. The new frontiers are sufficiently complex and differentiated from current software technology and processes that large incumbents have been unable to respond quickly. Conversely, large corporations are once again accelerating their rate of new technology adoption to restore competitiveness, which has atrophied due to the skeletal IT budgets and rapid technology obsolescence of the past three years.

Enterprise IT security is an area that exemplifies the profound changes to current business practices driving a next generation software opportunities. For companies to remain competitive, it has become virtually impossible to operate in an isolated, closed system environment. Today, a company’s IT infrastructure supports myriad collaborative business processes which span all physical, geographic and logical boundaries inside and outside the corporation. The network has become an essential fabric that engages customers, employees, trading partners and other constituent groups. Systems which reside on the network and the network itself must be opened wide to ensure the rapid flow of corporate information and to maximize business velocity. However, this is orthogonal to the traditional “secure perimeter” model for managing network anIT system security. To support the new, “open” business strategy requires corporations to invest heavily in completely new systems software systems, which manage administration and security of network and server assets at an extremely granular level.

Another important IT frontier is in the area of operational risk management and compliance. With Sarbanes Oxley, the Patriot Act, and other new regulatory legislations, companies must operate their businesses with a level of control and transparency that is unprecedented. At the same time, vast and growing amounts of corporate data now reside in a mushrooming variety of back-end systems—from ERP Suites to multi-terabyte corporate email archives. The new, stricter compliance mandates are virtually impossible to support without resorting to new technology. An entire new layer of software automation is emerging which can sweep through various corporate information repositories, systematically looking for “needle in the haystack” violations that could pose severe business risk. After detection, automated electronic reports must be generated rapidly, for management to react before it is too late. CEOs and CFOs are feeling increasing pressure to invest in this fundamental new area and are again looking to nimble, innovative suppliers who can provide a leveraged solution to the problem.

A third example of companies looking to capture significant value from innovative new software is through the creation of management platforms to retake control of an enterprise’s highly complex and distributed IT asset infrastructure. The past decade has seen multiple waves of technology thrust upon corporations. From databases, packaged apps and C++ to web servers, app servers, EAI and J2EE, and from MVS, AIX and Solaris to WindowsNT, PalmOS, and Linux, there has been a proliferation of software and hardware technologies within the enterprise. In addition, today’s highly distributed n-Tier architectures have caused exponential growth in the amount of physical server infrastructure to be managed. The combination has proven toxic and resulted in IT management costs, which have spiraled out of control. The ability to reassert control of over far-flung, mushrooming islands of IT infrastructure and limit Total Cost of Ownership (TCO) has emerged as a paramount corporate objective for a CIO. New network-based data-center management and server consolidation software platforms as well as IT configuration and change management applications are emerging as a strategic new software category which includes a number of promising young companies. As companies once again look to accelerate growth with the economic recovery, the need to adopt this form of new automated foundation for managing complex, distributed IT assets is reaching a break-out level which seems likely to spawn multiple new important software companies.

As the above examples show, the opportunity for innovation in the software industry appears to be resurfacing in a number of areas and the lethargic pace of change, which has plagued the industry since 2000, appears to be easing. As with most technology sectors, macro-economic cycles play an important part in the short-term rate of software adoption by large enterprises.

The good news is that we appear to be heading toward another upturn characterized by corporate desire to implement cutting edge technology where start-ups will once again have the opportunity to flourish by exploiting untapped areas and deliver entirely new levels of productivity gains to the enterprise.

Ravi Mhatre is a founding partner of Lightspeed Venture Partners and focuses on enterprise software and IT services investments. He has over eight years of venture capital experience and six years of operating experience and has invested in successful software and service companies such as Verio[VRIO], Lifeminders[XMM], Waveset[SUNW], NetGenesis Software [NTGX], Webspective Software [INKT] and InCert Software (acquired by Geodesic). Mhatre is a graduate of Stanford University where he earned a BS in Electrical Engineering, a BA in Economics and an MBA from the Graduate School of Business. He looks forward to hearing your comments and any suggestions about promising new software companies he should be aware. He can be reached at ravi@wpgvp.com.