McData's Psyched About Software

McData Corp. (Nasdaq: MCDTA) has software acquisitions firmly in its sights as it aims to pull in 25 percent to 30 percent of its revenue from software by 2006, company executives announced at its annual analyst day in Broomfield, Colo.

Addressing about 50 financial analysts, Gary Gysin, newly appointed VP and general manager of McData's software unit, said storage resource management (SRM), virtualization, and data protection software would be key pieces of the company's software strategy going forward (see McData Stirs Up Software and McData Appoints Software GM).

"Am I going to take 200 engineers and build this internally? Not likely," he said. "You've seen the war chest we have raised."

Last month, McData announced the completion of an offering of $172.5 million in convertible subordinated notes, the net proceeds of which it plans to use for general corporate purposes -- including potential acquisitions or investments in complementary technologies (see McData Raises $172.5M From Notes).

At the same time, plenty of the new technology will be developed internally, as well, according to Jean Becker, senior VP of engineering at McData. She says the company is working on a "virtualization blade" for its Intrepid director products. Becker was stingy on details but said, "Customers will be able to pay for functionality as they want it... and we will release a software developer kit so that anyone can port their software to the virtualization blade." McData will demonstrate the blade this year and make it available sometime in 2004.This is similar to the approach adopted by Cisco Systems Inc. (Nasdaq: CSCO), which plans to supply a virtualization module for its Andiamo switches. Brocade Communications Systems Inc. (Nasdaq: BRCD) is also hammering on this front with its standalone "fabric application platform" switches, which it acquired via Rhapsody Networks. In order to get the OEMs to resell these boxes, Cisco and Brocade had to make sure the designs were "open" enough for OEM and software partners to lace their own products into the fabric (see Cisco Takes Spinnaker for a Spin, Cisco Makes SAN Software Friends, Brocade Reupholsters Rhapsody, and HP Picks Rhapsody).

The message from McData is clear: It intends to build out its SANavigator storage device management software, via acquisitions and internal development, into a much more complete storage management offering. It took an important step down this road last month by splitting the SANavigator business into a standalone software unit with its own profit and loss (P&L) accountability.

However, the company will have its work cut out hitting Gysin's 25 percent to 30 percent revenue target. McData doesn't break out software revenues -- it reports those sales together with services. For the fourth quarter of 2002, it reported $9.3 million for sales and services combined, out of total revenue of $105.5 million. EMC Corp.'s (NYSE: EMC) software revenues, by comparison, were $347 million for the same period (see McData Posts Record Q4 Sales and EMC's Q4 Stars Clariion).

Steve Denegri, managing director of systems area networking research at RBC Capital Markets, believes McData is in a strong position and should be on the offensive right now, given the market share gains it achieved in the latter half of 2002 (see McData Blows Doors Off Q4).

"It's clear McData is formulating a very comprehensive software strategy, which is extremely important to note, particularly in light of Cisco's entry into the market," Denegri says.Gysin claims McData has 2,000 software customers operating in 8,000 data centers worldwide. "And 65 percent of all SAN data is touched by McData... Holy smoke, that's an unbelievable footprint," he said. This 65 percent figure serves as justification for a much more aggressive software strategy, notes Denegri. "Even virtualization is being mentioned by McData as a sizeable opportunity that they plan to tap."

Gysin expects McData to have two OEMs selling software offerings this year, coupled with a growing global reseller channel. He says McData has no plans to get into the backup and archiving software or hierarchical storage management (HSM) markets, which is probably sensible given the fact that these markets are already swamped (see McData's SANavigator Hits 175 VARs).

While the SAN management space is equally crowded, it is still a fledging market, packed with cash-strapped startups crying out for buyers. Picking out potential targets, however, is a bit like finding a needle in that proverbial haystack. Perhaps StorageNetworks Inc. (Nasdaq: STOR) could be a tasty treat, going cheap. The SSP-turned-storage-management-software firm announced yesterday that it has engaged the services of investment banking firms to help it find a buyer (see StorageNetworks Seeks Buyer).

Not everyone thinks McData's march into software will be a walk in the park. Jeff Brandes, VP of operations for storage distribution firm Network Engines Inc., says McData struggles somewhat in its traditional channel with its SANavigator software. "When they are on a call with EMC or any of the other major vendors, they cannot talk about SANavigator, because the OEMs have their own products that do similar functions," he says. Maybe McData's more open approach, coming down the line with the virtualization blade, will mitigate this problem.

McData shares were up 3.5 percent, to $8.60 per share, in midafternoon trading Thursday, as the company announced that its first-quarter sales and profits will be at the top of its forecast range. Profit excluding certain costs will be as much as $0.04 a share, and sales will be as much as $97 million, the company said in a statement. Wall Street analysts expect McData to earn $0.03 a share on sales of $95.6 million, according to First Call (see McData Upbeat on Q1).Also on Thursday, McData announced a reseller deal with Sun Microsystems Inc. (Nasdaq: SUNW), the latest in its efforts to broaden its distribution and OEM partners (see Sun to Resell McData Gear and McData Fans Out