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Open Source's Money Troubles

Open source projects have a fanatical band of devotees and growing momentum in the enterprise. But there remains a pain point: monetizing the business. How can companies contribute to open source and see a financial return on the resources they invest?

Next week's Open Source Business Conference 2004, held in San Francisco, hopes to provide some answers. Open source companies and venture capitalists are expected to discuss current and potential business models, the growth areas for open source, and what end-users need to make it commercially viable for them to deploy open source products.

The timing is right. Venture capitalists are turning on the charm for open source companies, said conference co-founder Matt Asay, who is also director of Novell's Linux Business Office.

"Some of it has a giddy, dot-com feel," he said. "Some of these companies don't deserve to be funded, but there are a lot of great companies that do -- and great interest in them."

Asay pointed out that early Linux companies like Red Hat and VA Linux had amazing IPOs, with some $200 million enriching a handful of companies at the height of the bubble. He said today's interest is much more mature.

These days, investors and enterprises alike are more aware of open source solutions, said Stacy Quandt, principal analyst of Quandt Analytics. Ironically, SCO Group's litigation crusade has done a lot toheighten the visibility of open source. But enterprise interest has grown because the software has improved, she said.

"Technical innovation is taking place with a number of open source solutions," Quandt told internetnews.com. "The feature and functionality gap between proprietary and open source software is being narrowed."

For example, according to Quandt, the scalability and reliability of Linux operating systems is now comparable to that of UNIX.

Companies making a financial go of open source that will present at the conference include JBoss, maker of Web server software, which landed $10 million from Accel Partners and Matrix; Scalix, built around original HP technology for mail and messaging software that runs on Linux, which raised $13 million from Mayfield and NEA; and MySQL, an open source database company running on $19.5 million from a venture round led by Benchmark Capital.

Asay said to succeed, open source companies must follow the basic laws of economics.

"If a VC or anybody looking to invest in a startup notices that the startup views its core business as selling free software, they should run away," he said.

A better model, according to Asay, is to view the free open source software as a complement to what the company does. For example, to Rackable Systems, a San Jose, Calif.-based server vendor, "Linux is core yet almost incidental to the business," he said. "They use it to sell hardware." Similarly, Oracle charges big-time for its database, and provides it on an infrastructure of cheap hardware running the Linux OS.

While early Linux companies focused on service and support, because those were enterprise customers' biggest concerns, Quandt said that good support from a variety of sources in today's market has led open source companies to look for other ways to differentiate themselves.

"Technical innovation is taking its place with a number of open source solutions companies," she said.

Asay said that open source startups are moving up the software stack, with databases being the hot sector, led by MySQL. The Swedish open source database provider makes its money from online support and subscription services; sales of commercial MySQL licenses to users and developers; and franchsing its products and services to resellers.

"Databases are a huge opportunity followed by middleware," Asay said, While open source applications at the top of the stack are a good five years off, he said, there's a crying need for companies to make tools that make open source development accessible to more people.