Investing in a transformed market: Telecommunications (aka Henry Kressel case)

1. Investing in a transformed market: Telecommunications(aka Henry Kressel case) Technobeast Jason Bradbury, Shifu Cui, Alireza Ghaffari

2. Warburg Pincus six factors for funding the entrepreneurs • The qualifications of the entrepreneurial team • The scale of investment needed to get a product to market • The need to avoid trespassing on intellectual property. • The probability of acceptance by customers. • The size and nature of the potential market • The ability to sustain the company’s competitive positions against new entrants into the market.

3. 1st Business idea • Companies making optical fiber and related products (cabling) • Corning Glass and AT&T • Strong patent portfolios and technology • Copper cable makers • Already developing techniques for optical fiber cables • Not attractive choice

4. 2nd Business idea • Companies making electronics or optical components • Semiconductor laser • Light sensors ( detectors) • Entering to business of semiconductor • Expensive manufacturing facility • Large, well known, investing heavily • Warburg Pincus concluded • New comers likely succeed • Less glamorous devices • Light sensors

5. 3rd Business idea • Companies manufacturing • Special data processing systems- in effect • Specialized computers • Moving voice • Data traffic • Challenge for Warburg Pincus • Find a product that • Beat the opponents to market

6. Lincom: Betting on a new standard • Provided fiber optic systems to transport and sort data streams • Positive • Lincom founders • Experience Engineering • Pioneers in telecommunications systems • Predict good customer base ($100m annual revenues) • Negative • Product • SYNTRAN(Synchronous Transmission) was behind of its time vs. • SONET (Synchronous Optical Networks) • No return to the investors

7. 1st Question • What lessons can be learned from these investment experiences by Warburg Pincus? Consider positive and negative, specific and general.

8. Lessons Learned (Lincom) • Keep an eye on standards. Wrong standard won’t sell. • Be careful in predicting “guaranteed customer base”

9. Lessons Learned (Lincom) • Invest in companies that have a strong potential industry lead/customer base. • Try to gauge direction that industry standard is taking (i.e. don’t tie success to an industry standard in flux).

10. Epitaxx: Keeping it simpleFormed 1984 • Made light detectors • Positive (Warburg Pincus believed) • Light detector • Simple product • Easy manufacturing • Development focused on electrical reliability • Promising future for new product • Producing high volumes of detectors • Variety of applications • Adapting the detectors to specific optical system applications • Not expensive to modify it • Marketing (Revenue = $10m in 1990)

11. Epitaxx: Keeping it simpleFormed 1984 • Positive • Worldwide supplier of optical detector • Attractive acquisition from large company • Internal rate of return of 24% on sale of 5M in 1991.

12. Lessons Learned (Epitaxx)

13. Epitaxx • Lower barrier to entry • Core expertise, ability to expand • Most glamorous=more competition • Build a simple dumb sensor • Build volume to reduce cost • Good managers to know product and market effectively

14. Lessons Learned (Epitaxx) • Keep market focus on low-cost, simple product. • Continually innovate to bring costs down.

15. IGS: Implementation ServicesFounded 1996 • Provided information management software and professional expertise for large network providers. • Positive • IGS had experience in high speed data service • Helped RBOC ( Regional Bell Operating Companies) • Proprietary software • Professional expertise • Lucent Technologies marketed IGS • More compelling for investment

16. IGS: Implementation ServicesFounded 1996 • Negative • Marketing • Not clear about customer base • Not enough revenue to move forward • Total loss for its investors 2002

17. Lessons Learned (IGS) • Don’t rely on 3rd parties to sell your product. • Trying to sell “improvement” may be opposed by labor • Need to be on approved vendor list • Customers were developing solutions themselves

18. Lessons Learned (IGS) • Do more thorough market research about customers’ needs up front. • Ensure you have an established market for your product.

19. Covad:Faster on-ramp to the information superhighwayFounded 1996 • Provided DSL service • Positive • Market research • Promising market • Faster data communication using internet • Consumers willing to pay under $100/ month • There was no dial-up • It was always on • Great experience for consumers

20. Covad:Faster on-ramp to the information superhighwayFounded 1996 • Positive • Warburg Pincus came up with solid investment thesis • Covad start up $8m 1996 • NASDAQ valued $5.5 b • During exit Warburg received $1b • 930% Internal rate of return! • Negative • Collapse of communication industry in 2001

21. Lesson’s Learned (Covad) • Use existing infrastructure • First mover advantage is important • Grow incrementally • Good market forcasting, implementation • Customer support, infrastructure

22. Lesson’s Learned (Covad) • Timing is everything. • Launch of new technology (DSL) at peak of market demand • Sale of company in 1999 prior to bubble burst • Good marketing research • Good Implementation strategy • San Francisco

23. Neustar: Change your carrier, keep your numberFounded 1999 • Provided phone number portability between carriers. • Positive • Lockheed Martin provided expertise • Number portability • Warburg Pincus investment thesis • Great future market study on wireless • Phone number portability, switching from one carriers to another. • Taking the significant risks

24. Neustar: Change your carrier, keep your numberFounded 1999 • Positive • The revenue exceeded their expectation • Initial investment $77m (1999) • Warburg received $1.24b (2006) • Negative • It took more money to start Neustar than anticipated • Would you advise to take such risk?

25. Lessons Learned (Neustar) • Government mandated service • Unknown was how large the market would be. • Good strategic position in market

26. Lessons Learned (Neustar) • Have a good forecast of regulatory changes from FCC. • FCC mandate for phone number portability • Ensure your company has solid management and technical talent • Lockheed Martin

27. 2nd Question • Alternative Energy investments now are very popular. In fact this activity has been likened to the telecom bubble. Are the telecommunications lessons discussed above applicable to this new field? Which should Warburg particularly heed?

28. Lessons Learned (alternative energy)

29. Lessons Learned (alternative energy) • Company should have potential for industry lead; strong potential customer base. • Don’t tie success to industry standard in flux. • Keep market focus on low-cost, simple product. • Continually innovate to bring cost down. • Do extensive market research about potential customers’ needs. • Timing is everything. • Good forecasting of regulatory changes. • Ensure you invest in companies with strong management and technical talent.

30. Lessons Learned (alternative energy) • Photovoltaic market in Germany and other countries driven by regulatory requirements • Public policy dictates market price for energy. Company must be profitable at this price. • Varied technologies make forecasting complex • Competition from different types of systems