Deal of the week: Security companies make another push

Digital security was hot stuff with VCs in 2004 and 2005 as investors poured more than $1.2 billion into security startups targeting all manner of verticals from Wi-Fi security to intrusion prevention systems.

But the market’s appetite for security startups declined significantly two years ago when Symantec bought software storage company Veritas for $13.5 billion, which was the largest software acquisition at the time. With the single largest potential acquirer struggling to choke down such a massive deal, there were few other options for liquidity.

Last year, VCs backed 91 security companies with $422 million in financing, according to Thomson Financial (publisher of PE Week). Those numbers, however, take a very broad account of what constitutes a security company. Many of the VCs who made a mark financing security startups have since moved on and are looking to give their late stage digital security companies the last push they need to see liquidity.

There’s some hope to be had. A number of positive outcomes emerged, despite the flight of financing to other, greener-looking fields. Anti-spam device maker IronPort sold to Cisco Systems in January 2007 for $830 million, netting such investors as Peter Thiel and New Enterprise Associates a healthy return on the $95 million they invested. Anti-spam company Postini sold to Google for $625 million in July after raising $26 million from Mobius Venture Capital, August Capital Management, Sun Microsystems, Summit Accelerator Fund, Pacifica Fund, AltoTech Ventures and Bessemer Ventures.

The more frequent story, however, was of exits, such as NFR Security. The company raised more than $40 million in funding between 2000 and 2004. It sold to Check Point Software in January 2007 for $20 million. It’s one of a large cohort of startups backed during the bubble likely to be wound up over the next year or two as firms with bubble-vintage funds look to recoup as much of their investment as possible.

Security IPOs in 2007 were a mixed bag. Network security company SourceFire (Nasdaq: FIRE), began trading in March at $15 per share after raising about $55 million from VCs. It has not fared well recently, however, trading at $6.32 as of press time last week. UPEK, a developer of silicon-based fingerprint security systems, registered for a $86.25 million IPO in May 2007 after raising $38 million from VCs. The company has yet to launch the offering. AuthenTec, another maker of fingerprint authentication sensors, did manage to get public in July 2007, raising $82.5 million. It offered shares at $11 each and has managed to remain above water, hitting $13.26 in trading last week.

Security information management company ArcSight is the most recent security company to pursue the IPO path. It registered to go public in January to sell about 6.86 million common shares at between $9 and $11 per share. The company raised $15 million in venture financing from Kleiner Perkins Caufield & Byers, Institutional Venture Partners, Integral Capital Partners and New Enterprise Associates.

Last week, $40 million in financing went to Teneros. The company sells application continuity appliances—devices that plug in to a corporate network and keep mission critical applications from going down when hackers attack. Advanced Equities led the round, taking Teneros’ financing to date to $84.5 million. NEA, Seven Rosen Funds, STAR Ventures and Goldman Sachs have also provided financing to the Mountain View, Calif.-based company.

Then there’s Liquid Machines, which sells enterprise rights management software, a subset of digital security focused on ensuring that only the right people have access to company assets. The Waltham, Mass-based company raised $10 million for its Series D last week, increasing its total capital raised to $37 million. RRE Ventures led the deal with support from existing investors Atlas Venture, Masthead Ventures and Draper Fisher Jurvetson.

Expect more late stage security financings to come in the next several months as VC firms look to do a little portfolio spring cleaning.