That Sinking Feeling

Like many people, I fly way too much.

Occasionally, the plane will be power climbing, out of the airport, and the pilot for some reason will pull back sharply on the throttle.  I'll go immediately from dozing to a very alert state, wondering "what's next?"

Network Appliance has just had such an experience. 

And I bet more than a few people are wondering "what's next?"

I've Been There ...

EMC went through a similar episode at the end of the dotcom buildout.  We went from power climb to a sinking feeling.

Joe Tucci and his team stablized the plane, and then found many new engines for growth, and today, I'd offer that it feels like we're back to a full-throttle power climb.  Other tech companies didn't fare so well. 

So there's no real guarantee of what's next for NetApp, and that's what makes it interesting, at least from my perspective.

So, What Happened?

If you're not a close industry watcher, NetApp just pulled back on the throttle considerably. 

The first sign was last quarter when they indicated a bit of softness in their markets.  The market punished them pretty harshly at the time.

Last night, they had to preannounce a ugly "miss" to the financial community.  As I write this, the market is in the process of punishing them even more severely, shaving $5 and almost 20% off their market cap.  The spanking isn't over yet.

Ouch!

Now, NetApp is in no danger of going out of business anytime soon.  They have many customers, decent products, and are making money.  But I bet there are a lot of people out there who may have been dozing who are now in a very alert, focused state.

So, What's The Impact?

People who aren't close to this industry might be wondering, what's the big deal?  Changing your trajectory so suddenly can have many, many subtle impacts, and they're worth noting here.

Your Self-Image Changes

Having been at high-growth companies before, it becomes part of your marketing message to customers, prospects and the industry: hey, look at us, we're growing like crazy, and we're taking market share from everyone, we must be cool, so buy from us!

If you look back at NetApp's earnings statements over the last few years, you'll see a lot of the messaging is based on that positioning.  It's woven up in their identity with customers, partners and the investment community.

But, when it's over, it's like being a pop star that isn't cool any more -- which means you'd better get a new (and more humble) schtick, and pretty quick.

It's hard enough for any company to reposition itself like this, but the human behavior of denial tends to elongate the process.  "No, this is temporary, we'll be back to our old selves in just a couple of quarters".

As an example, NetApp's mgmt pointed to the "spending slowdown" as the reason they missed. 

Yes, customers are spending less -- with you.  That much is obvious and public.

You didn't see or hear any of that in EMC's recent earnings announcement, did you? 

One thing to watch for is when the story from NetApp is less about blaming market conditions, and they start owning up to the work they need to do going forward. 

The successful tech companies that have gone through this (including EMC) realized quickly that the game had changed, and got busy on figuring out what 2.0 might look like.

You Get A Little More Focused

During high growth, there's money (and enthusiasm) for all sorts of new ventures.  Sometimes, the exuberance causes some less-than-wise investments.  Or, there's too many of them and the management team can't give them the attention and nurturing required for success.

I'd offer that NetApp ran into this a bit.

The Spinnaker acquisition by all accounts has caused far more trouble than it was worth.  It's sapped their resources to create a whole new product line, it's created enormous tension and conflict within the company, and -- just to put the icing on the cake, it ain't selling too well out there.  Now it looks like they've got a boat anchor rather than a growth engine.

Ouch!

The Decru acquisition looked reasonable on the surface -- hey, we'll buy this encryption appliance, so we can play in the storage security market. 

What I think they missed is that storage encryption will shortly be commoditized.  You're already seening Cisco and Brocade putting encryption in the switch.  Before too long, you'll probably see it in HBAs, disk arrays, tape librarys, etc. etc.

So the Decru team had better be working on an entirely new value proposition, I would think.

I could go on about Topio, or some of the other things that they've acquired.

Look, doing acquisitions and making them work is not easy.  EMC went through a long period of being pretty mediocre at this, and then we made the investments to look at it more as a repeatable process, rather than an event.

Focus Comes In Other Aspects

Having been through this experience, your management team quickly focuses on what is core, and what is not.  Many of those interesting projects and ventures will look like they're on pretty shaky legs, so you start unwinding more than a few of them.

But you've told the marketplace and your customers you were doing this stuff, and -- in some small sense -- you're damaging your credibilty, and that will take a while to rebuild.  Better to get on with it, and be clear to your audiences what is going forward, and what is not, rather than having indecision hang in the air.

Strategic Positioning Becomes Important

The industry is a multi-player chess game, with different companies making investments and making moves that try to protect and exploit their position.  We all do it every day.

One way of looking at NetApp's positioning is that they had a core strength (tier-2 storage) that they tried to parlay in different directions.  So one interesting question is if they decide to spend more time focusing on their core, or continue trying to enter new markets.

Their core market is kind of stuck in a sandwich, and is not a protected market.  Up above, you've got guys like EMC who are investing like crazy in making better products and improving distribution to go after the same core markets that NetApp is targeting.

And, from below, there are several very competent and aggressive smaller companies who are more perhaps more nimble than NetApp: 3PAR, EqualLogic, Isilon, LeftHand, Compellent and perhaps a few more. 

Their stuff works pretty much as advertised, and the same reasons that caused customers to buy NetApp products in the first place will lead those same customers to the newer entrants.

Simply put, does NetApp defend their core turf, or do they attempt to continue to spread themselves thin?

I've seen them try and be a real-deal SAN player.  Despite the marketing bravado, it hasn't played out so well.  Contrast their recent results with the explosive CLARiiON growth EMC mentioned in our recent earnings call.

I've seen them try and play in the VTL market.  Not a lot of success there either.  Ditto with storage virtualization and the vFiler.  CDP and network-based replication.  And so on. 

How many of these will they double down and make strong, exit entirely, or just allow to linger on in a trance state?

Turmoil Inevitably Ensues

What ever the game plan was, it's clear it won't work so good going forward.  And this inevitably causes chaos precisely at a time when you don't want it.

Lots and lots of discussion at the management ranks.  Maybe some senior people leave, and new ones are found.  Projects are cancelled, layoffs implemented, belt-tightening across-the-board.  Projects and promises once made are now unclear going forward.  The message gets cloudy to the marketplace.  Customer, employees and partners wonder what's going to happen next, and where it's going to all end up.

And, of course, aggressive competitors (like EMC) will take every opportunity to exploit the chaos.  If you're playing a grudge match, and you see your opponent falter a bit, you're strongly encouraged to keep pouring it on.  And that's exactly what's happening with NetApp's competitors.

Perhaps one of the biggest challenges that NetApp's management will face is articulating what the new NetApp looks like, and getting everyone to settle down and move forward.

"Fast Growth" To "One Of The Pack"

One way of interpreting the announcement is that NetApp is now growing at roughly the same rate as the rest of the market.  They've got their customers, and they're continuing to buy -- for now.

It's inescapable that the game plan is going to have to change.  But to what, and how quickly?

But I don't think it's arguable -- even to the most ardent NetApp fan -- that the ascent has stalled a bit, and things have changed.

It'll be interesting to see what happens next.

Comments

[anonymous]

Chuck,

Certainly an interesting perspective.

Now didn't NTAP have their bottom fall out in 2001? And they were able to recover. So they have been through this movie before. Right?

What else can be provided to bolster the claim that this is only an NTAP issue not that of the industry?

Otherwise, given your affiliation, your opinion looks biased and imflammatory.

[Chuck Hollis]

Hello, "anonymous" (???)

I saw more than a few things written along these lines, including industry mags (www.byteandswitch.com, www.searchstorage.com, etc.)

You may not have access to the financial analyst publications, but there were more than a few analyst notes written that included a point or two made here.

BTW, please identify yourself in the future, or I won't be posting your comment.

[SHISB]

Chuck,

Good insight to some of the issues that surround NetApp. You made the point that there are "several very competent and aggressive smaller companies who are perhaps more nimble than NetApp." Nimble is one word to describe these companies, but there is something much bigger in play here. Some of these startup companies have revolutionary storage architectures and customers are starting to take notice. For example, LeftHand Networks can out-scale every one of NetApp's SAN offerings by clustering top tier OEM storage server platforms together, with no controller or “forklift upgrades” along the way. These emerging storage companies may not be able to compete with the depth of NetApp’s product and service offerings, but when you can purchase a highly scalable SAN that provides features like thin provisioning, asynchronous remote copy, and synchronous multi-site SANs for a fraction of the acquisition cost of the equivalent NetApp offering, not to mention that it’s user installable, it’s a eye opening value proposition.

An example of how slow the bigger storage companies move is the transition from fibre channel drive technology to SAS drive technology. Some of these emerging companies are already shipping SAS drive technology, but why isn’t NetApp and EMC? SAS drives are more reliable because of dedicated point-to-point cabling, use less power, and cost less than fibre channel drives, yet NetApp and EMC only offer fibre channel connected drives today. Why is this? I’m sure they’re working on it, but part of the reason is being handcuffed to their legacy architectures, making the transition from shared controllers and busses to serial point-to-point technology difficult.

Many topics here to debate, but the main point is that next generation storage architectures with a much better TCO story are emerging in the market, and you either have to keep up with the technology or find yourself behind the industry. Think about what happened to giants like DEC that were unable to embrace and extend the x86 and open architecture wave, and you have to wonder if some of the bigger storage companies are not in the same boat today. What occurred in the computing world is occurring in storage.

John

[Chuck Hollis]

Hi John:

I think the industry is well-served by newer players that have fresh thinking -- and no legacy to consider.

But I think there's another source of innovation that's only available to the larger players, and that's integration and hybridization.

Looking at storage as a stand-alone technology leads you down one path; considering storage in the context of billions of dollars of technology acquisitions can lead you down a very different (and interesting!) path.

Thanks for commenting!