Going vertical

Fidelity Ventures, the venture capital arm of Fidelity Investments, has followed the lead of software giants Oracle and Microsoft in turning to vertical markets in an attempt to find undiscovered opportunities in the technology sector.
 
In August 2005, Oracle acquired a 41 percent stake in India-based I-flex solutions, which provides specialised software to the banking industry, from Citigroup Venture Capital for $593 million (€461 million). At the time, Oracle said that it was pursuing “verticalization strategies as financial institutions lose their appetite for generic, horizontal applications” and would look to solutions that “build on best practices and deep domain knowledge”.
 

We find a problem or need in Fidelity or one of our investments, or a gap in a market that we know reasonably well and then look for a company that can solve that problem. Simon Clark, partner, Fidelity Ventures

Earlier in the year, Oracle fought off rival SAP to buy Retek, which makes enterprise resource management software for retail businesses, for around $600 million. In July of this year, Microsoft acquired healthcare intelligence software business Ayzxxi for an undisclosed amount.
 
While Fidelity Ventures maintains its focus on information technology segments such as security, systems management, wireless infrastructure and data centres, the firm is also investing in companies providing specialised software designed to meet the specific needs of markets and industries.
 
“The guys at Oracle and SAP figured this out first, but in the last year or so we’ve been focused on buying expertise in vertical markets as we know we can’t get there on our own,” says Simon Clark, a partner in Fidelity Ventures’ London office.
 
“The conventional wisdom is that enterprise software is a dead market and Web 2.0 and consumer products are where the focus should be. However, we still believe that there is life in enterprise software. The difference is that, instead of looking at the classic three-letter-acronym horizontal software company of the 90s, such as customer relationship management or supply management companies, we’re looking at vertically-focused companies that have good software and design skills but also deep expertise in certain domains and can solve difficult problems for big vertical markets.”
 
Europe, says Clark, is full of these sorts of businesses, and Fidelity Ventures already invests in a number of them, including EnvironmentIQ, a Cambridge, UK-based provider of risk management software and services for the environment, health and safety management sector; and Cúram Software, an Irish developer of enterprise software for government social services agencies.
 

Clark: looking for big niches in vertical software

“These are big niches, chunky markets,” says Clark. “Cúram Software operates in a billion dollar plus market.” EnvironmentIQ, on the other hand, attracted CEO Mike Hedger, who took UK software company KVS from a £30 million revenue business when he became CEO in 2001 to a $225 million sale to Veritas in 2004.
 
Fidelity Ventures also has an innovative sourcing process for some of its investments, says Clark. Approximately 40 percent of investments come from the firm’s relationships with early-stage investors, business angels, bankers and IT contacts. A similar amount, however, comes from investigating Fidelity Ventures’ own back-office systems, those of portfolio companies and theme research carried out internally.
 
“We find a problem or need in Fidelity or one of our investments, or a gap in a market that we know reasonably well and then look for a company that can solve that problem,” says Clark. “With Cúram, we spent time with our own compliance people and found that they were struggling with a lack of software to manage their business. Compliance is an area you have to get right and we couldn’t find a solution amongst the big companies in the market, but them we stumbled over this company in Cork that did the same thing for the pharmaceutical market, so we invested in them to help them break into the financial services market. They now have a leading retail bank and an investment bank as customers.”
 
If Fidelity Ventures proves successful with investments like Cúram and EnvironmentIQ, other venture capital firms might want to look to their own and portfolio companies’ back office solutions and internal processes in the hunt for future technology assets.