VCs Get Piggy With It at Spam Smorgasbord –

With an eye toward potential future revenue, venture capitalists are scrambling to place their wagers on companies that provide anti-spam products and services.

In fact, they’re getting downright piggy about spam. During the six weeks from August to mid-September, investors shelled out about $38 million for five anti-spam companies that are in nearly every stage of development:

Corvigo Inc. of Mountain View, Calif. raised $5.5 million in a Series A round, funded entirely by Sequoia Capital. The company, founded in 2002, released its spam-filtering software a year ago and boasts more than 50 customers.

Postini Inc. of Redwood City, Calif., pulled in a $10 million Series D round led by Bessemer Venture Partners on Sept. 15. The valuation on the deal wasn’t disclosed, but the company’s $6 million Series A round in 2001 was given a post-money valuation of $21 million. To date, Postini has raised $26 million.

FrontBridge Technologies Inc. of Marina Del Rey, Calif., raised $8 million in a Series C led by BA Venture Partners. Previous investor Sierra Ventures also participated in the round, which brings the company’s total VC to $17 million since its 1999 inception.

MessageGate Inc. of Bellevue, Wash., picked up $5.1 million in a Series A led by Polaris Venture Partners. Northwest Venture Associates (NWVA) and Boeing Ventures also invested in the company, a messaging security software developer that spun out of Boeing.

MailFrontier Inc. of Palo Alto, Calif., pulled in $10 million in an over-subscribed B round. The 18-month-old company raised twice as much as it was looking for, says its CEO and co-founder, Pavni Diwanji. New investor Menlo Ventures led the deal with $5 million, while previous investors Draper Fisher Jurvetson and New Enterprise Associates each put in $2.5 million. Menlo Managing Director Sonja Hoel was so psyched about the deal she wanted all of it. “All of us would have liked to put in more money,” she says. “Menlo would have put in $10 million if the company would have let us.”

It’s easy to see why there’s such a huge interest in the sector. Conservative estimates suggest that the average corporate worker receives between seven to 10 spam messages per day, even though about 80% of all enterprise email servers are equipped with some level of spam-blocking functionality.

That explains why companies selling anti-spam products and services are seeing their sales fattening up to the tune of $650 million this year and as much as $2.4 billion by 2007, according to The Radicati Group, a messaging market research group based in Palo Alto, Calif.

While VCs are falling over themselves to fund anti-spam companies, they don’t appear to be throwing mad amounts of money at the space. No private, anti-spamming company is known to have raised more than $32 million in total VC except for graybeard Brightmail Inc., which has raised $56 million since its founding in 1998.

The startups getting venture backing are coming at the problem from a different angle. Spam has traditionally been trapped using the blacklisting method, whereby an IT insider blocks incoming messages from specified addresses or domains. Such outcasts are usually identified either by prior experience or free, third party blacklist providers. A slightly more sophisticated model is a keyword blocker, but any spammer worth his canned meat knows how to intentionally misspell Viagra or Hot Asian Teens.

New Territory

The final frontier is software that can instinctively identify spam even while spam’s appearance is in flux. This is a potential gold mine since employers have become increasingly convinced that spam is more than a harmless inconvenience.

“We estimate that workers spend six days per year dealing with spam, from reading it to deleting it to complaining to their IT departments about it,” says Michael Osterman, president and founder of Osterman Research in Black Diamond, Wash. “Also, a growing percentage of spam is pornographic in nature, which could lead to hostile workplace’ issues because the corporate employer is responsible for what comes into the corporate email system.”

It’s serious enough that more than 40 corporate executives came together at an anti-spam summit in Silicon Valley in September. The event was sponsored in part by the Institute for Spam and Internet Public Policy (ISIPP). You know something’s a problem when it has its own industry group.

“Our view is that spam is a huge problem for entities of all sizes,” says Tom Simpson, managing partner of NWVA and a director of MessageGate. “Yeah, there are a lot of companies that have been funded – maybe even too many – but there is a real opportunity here.”

Get Incorporated

Simpson adds that market winners ultimately will be determined not only by how well they block spam, but also by how effectively they incorporate other message management solutions. MessageGate, for example, provides regulatory compliance and corporate policy enforcement in addition to spam-blocking. It hopes someday to expand beyond email by providing instant messaging (IM) and short messaging system (SMS) services.

Another valuable add-on is a message spooling system that protects emails sent during a power outage or natural disaster. Take this past August, when many companies lost all messages that arrived while the lights were out. Had those companies employed software designed by companies like FrontBridge and Postini Inc. of Redwood City, Calif., everything would have been backed up on outsourced servers.

Perhaps more important than any bells or whistles, however, is the question of whether or not today’s myriad startups can meet tough scalability standards. Not only does this involve enterprise size, but also the ability to keep up with innovative spammers.

“This is a very tough problem to solve, and everyone seems to fall short when it comes to issues of scale,” says Shahan Soghikian, co-head of the telecom and technology practice at JPMorgan Partners (JPMP). “This model must look like the anti-virus model, where you continue to get updated protection.”

JPMP has just one portfolio company engaged in anti-spam services, and that essentially is a holdover from the Flatiron Partners portfolio. The firm discussed a more dedicated effort in the space as recently as Sept. 8 during a partnership meeting, but no solid targets have been identified.

Saturated Fat

JPMP most likely is looking at later-stage plays, but there still are plenty of entrepreneurs unconvinced that the early-stage anti-spam market is saturated. For example, Proofpoint Inc. launched just this past July in Cupertino, Calif., with $7 million in Series A funding from Benchmark Capital, Mohr Davidow Ventures and Stanford University. On the same day, San Francisco-based Cloudmark Inc. came out of stealth mode with a $4.5 million investment from Ignition Partners.

Moreover, there are a growing handful of startups that have avoided taking venture capital, like Lyris Technologies Inc. of Berkeley, Calif., and Gordano Ltd. of Alpharetta, Ga.

“I don’t think that there is saturation yet because the research shows that the vendors still are barely touching the market potential,” says Marc Friend, a Palo Alto, Calif.-based general partner with the Summit Accelerator Fund. “There is definitely pain being felt by Fortune 500 companies on down.”

The biggest challenge for the startups in this space is to avoid getting squashed by large software vendors. At least one of those vendors recently jumped into the fray: Anti-virus specialist Symantec Corp. in September launched its first anti-spam product – Norton AntiSpam 2004.

And let’s not forget about Microsoft, which already builds anti-spam features into its email programs. So if any startup happens to fall under that 800-pound gorilla’s foot, it will end up looking like real Spam.