How Cisco bought a $900 million startup for just $610 million

Cisco Chuck Robbins5Cisco Live/Business InsiderCisco CEO Chuck Robbins

Cisco did some bargain shopping this week when it acquired a startup called Viptela for $US610 million.

Just one year ago, Viptela was valued at $US900 million by its investors, according to the database that tracks such things, Pitchbook.

The startup had raised over $US108 million in venture funding from VCs like Sequoia, and it achieved that valuation when it raised $US75 million in May, 2016, led by European and Russian VC Redline Capital Management.

The sudden sale of such a hot startup, and the discount price, has not gone unnoticed among Silicon Valley VCs and tech industry insiders trying to gauge the health of the enterprise startup scene.

We’ve talked to two sources close to the company who described a promising business with decent sales but a variety of problems that opened the door for Cisco to walk in and snatch it at a bargain price.

“There was internal dysfunction, and investor dysfunction,” one person told us.

Founders and investors made millions

Viptela offers a way for companies to connect remote offices to their corporate networks using Viptela’s router and software hosted in the cloud. It was considered a market leader in a new area called software-defined wide area networking or SDWAN. That’s a new way to build networks that relies on software to do fancy control functions.

According to one source inside the company, the board sold the company on the cheap mostly because making sales in its niche of wide area networking was hard, competition was rising and the co-founders were running out of steam to build it into a long-term independent company. The founders wanted to see the technology be successful, and it might have a better shot at thriving inside of Cisco.

Meanwhile, Cisco’s offer was enough for the cofounders to walk with multi-millions, and all the investors to make money, even the late-stage investors. They had a clause in their agreement that protected them if the company sold for less than their valuation. All the investors made money, both sources told us.

“The only people to get screwed were the employees who joined in last year, everyone that came on near their unicorn-level valuation, they got caught,” one person told us.

This is, however, a typical risk for employees who join a more established startup. They typically get less equity and more of a chance that their stock won’t be worth much if the company’s value drops.

Viptela teamSequoiaThe Viptela founding team signs their series A term sheet at Sequoia in 2012 (left to right) Back: Venu Hemige, Khalid Raza. Front: Atif Khan, Amir Khan, Ramesh Prabagaran

Not a Trojan horse for Cisco

Viptela was a startup founded by a team of accomplished engineers from Cisco, Juniper Networks and Alcatel Lucent which had been turning heads in its niche. Rumours had been swirling for at least a couple of days that this deal was in the works.

Interestingly, four months ago, Viptela hired a new CEO, a man named Praveen Akkiraju. He was famous in his circle as a long-time Cisco engineer who became the CEO of a contentious joint venture between Cisco and EMC known as VCE. When the relationship between Cisco, EMC and VMware devolved, EMC bought out Cisco’s interest in VCE. But Cisco retained a 10% stake and it got to put its own guy — Akkiraju — in as CEO. After Dell swallowed EMC, including VCE, Akkiraju was basically out of a job. He landed at Viptela in January.

One rumour says he was brought in just to orchestrate a sale to Cisco, but both people we talked to told us this wasn’t the case. At the time he was hired, he was expected to be a long-time CEO.

Praveen AkkirajuYouTube/CiscoSP360Praveen Akkiraju

One person told us that the real reason for the change was fractures inside the company that would have been a lot for him, an outsider, to fix.

The two co-founders were having disagreements, sources told us. On one side was Khalid Raza the cofounding CTO and on the other was Amir Khan, the co-founding CEO (who became president after Akkiraju joined) and his brother Atif Khan, who was running the sales engineering department.

Meanwhile, the company’s key investor and board member was Michael Goguen. Goguen was a partner at Sequoia that had funded the first two rounds of the company, about $US33 million. But in March, 2016, Sequoia fired him, it said, after a lawsuit alleging sexual abuse was filed against him. He gave up all his board seats, CNBC reported.

New threats

Viptela wasn’t failing. It had landed 25 Fortune 500 enterprises as customers and deals with carriers like Verizon and Singtel who used its product to sell cloud networking products to other big companies, it said.

One person told us that Viptela had grown itself into about $US25 million of revenue. Based on that, Cisco’s price was more than fair. “These guys did $US25 million in revenue for last year and sold for over $US600 million. A $US610 million exit? That’s a great story,” this person told us.

Michael GoguenLinkedInMichael Goguen

But competition was growing in the field and Viptela needed strong, solid leadership and a board that believed in them to fend off the threats. There were startups like Aryaka, Versa Networks and CloudGenix, for instance. And Cisco had invested in a competitor, too, VeloCloud.

Plus, Cisco had a couple of its own competing products, such as a product called “Intelligent WAN” or iWAN. And Cisco had bought a startup called Meraki for $US1.2 billion a couple of years ago. Meraki is mostly known for its wireless LANs, but was being used by small businesses to connect remote offices to cloud apps, too.

All told, when Viptela went looking for a sale, it wasn’t in a position of negotiating strength.

Even so, most analysts believe the Viptela’s technology will be a good fit for Cisco’s iWAN products, helping it sell more networking software to enterprises and service providers. Cisco is trying to remake itself into more of a software company, so this purchase could be great for Cisco.

While the whole Viptela team is joining Cisco, it’s unclear if both founders will be going to Cisco as well.

Viptela declined to comment, Cisco did not return a request for comment.

Get the latest Cisco stock price here.

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