Isilon, Forged in Fire of Last Recession, Looks to Expand Its Data Storage Business in This One

Some tech companies seem to be at their best when things are at their worst. Those are the ones you really need to keep an eye on, especially in a recession. Isilon Systems is one of those companies.

The Seattle-based data storage firm (NASDAQ: ISLN) is announcing its third-quarter earnings this afternoon, and it will be interesting to see how well its products are selling across a wide range of industries—everything from movie studios and media companies to financial institutions and biomedical research organizations. I recently sat down with Isilon’s founder and CEO, Sujal Patel, for a wide-ranging interview about the nine-year-old company’s technology and business strategy. It makes for a pretty compelling case study of a tech startup’s growing pains, and how it has bounced back from adversity to become a leading player in a crowded and competitive field.

In case you don’t know all the twists and turns in Isilon’s history, here’s a quick recap. Patel, a former engineer at Seattle-based RealNetworks (NASDAQ: RNWK), co-founded Isilon in January 2001. The basic idea was to provide cheaper and more efficient data storage for companies needing to host or deliver video, music, and other multimedia content that requires a lot of storage space. In his previous role as chief architect of RealNetworks’ media delivery software, Patel had seen many customers struggle to upgrade their storage capabilities. So there was a real problem to solve. But the tech bubble had collapsed, so customers weren’t necessarily in the mood to buy. Patel says he “pretty much timed the worst spot of the decade to start a company.”

What’s more, there were already about 250 venture-funded storage companies out there, Patel says, and about 50 of them sounded just like Isilon. Patel says he built his business plan around solving the specific problem Real’s customers had, and “how that problem would be pervasive across all mid-range to large enterprises over the next decade.” To start with, he set an incredibly narrow customer focus on photo-sharing and streaming media websites, and media companies.

Isilon’s technology approach was to cluster together a large number of storage “bricks”—each one includes disks, memory, processing, and networking—into a single storage unit. It was a novel approach in the field of network-attached storage, which today is a $4 billion industry with big players like NetApp, EMC, and Hewlett-Packard. Isilon’s technology requires solving some very tough software problems, but the payoff is better storage performance that is also cheaper and easier to manage, for companies dealing with huge amounts of unstructured data. “We can build one gigantic network drive, and we can scale it as the customer’s needs change over time,” Patel says.

Venture capitalists were sold. In August 2001, Isilon closed an $8.4 million funding round from Atlas Venture and Madrona Venture Group—the only Series A funding in the Seattle tech scene that year, Patel says. The company followed that up with a $15 million Series B round the next year, led by Sequoia Capital. By that time, Isilon had grown to almost 50 staff.

Isilon started selling its storage products, and pulled in a couple million dollars in revenue in 2003. Those numbers tripled in each of the next two years, with the company raking in about $7 million in 2004, and about $21 million in 2005—primarily through its initial customer base of media companies and websites. At the end of 2006, Isilon went public, raising $108 million in a high-profile IPO that had expectations sky-high.

Too high, as it turned out. In 2007, Isilon came crashing back to earth, with its revenues still growing, but not fast enough to meet its own projections. “Not only did we not meet the expectations of the Street, we didn’t even meet our own internal expectations,” Patel says. As a result, Isilon’s stock price plummeted from the high $20s per share to single digits. Management shuffling ensued, and Patel, who had been chief technology officer, was named CEO in October 2007. (He had previously been CEO during the company’s first three years.)

Isilon also went through an internal investigation of its earnings statements and ended up having to restate its earnings for the fourth quarter of 2006 and first half of 2007. “It was a very traumatic thing for a company to go through,” Patel says. “But we got through that, and as CEO I realized we had a lot of work to do.”

Patel says he faced three key challenges in 2008. First, meeting the demands of big enterprise customers. “A lot of our growth was transitioning very rapidly out of early adopter markets into a more mature market that had more demanding customers and larger enterprise customers that we as a company weren’t ready for,” he says. So the company reinvested in research and development; it now spends $20 million on software R&D every year, and has invested some $120 million over its lifetime. The second challenge was setting a more cost-effective strategy for product distribution. Patel says Isilon was spending too much on sales and marketing. And third, Patel made sweeping changes to the management team, replacing most of the executive staff with more experienced talent (including senior vice president George Bennett, a veteran of NetApp, Isilon’s chief competitor).

So far, the moves seem to be paying off. Last year, Isilon generated $114 million in revenues. And in the second quarter of this year, Isilon’s revenue was up 40 percent over the same period in 2007, while recording lower expenses and a much broader customer base of about 1,000 organizations. “Now what we’re really focused on, as the recession begins to ease, is returning the company to more significant growth, getting ourselves in position where we can continue to capture market share and grow the business,” Patel says.

Isilon is looking to keep pressing its technology advantage in storage against the likes of EMC, NetApp, and HP. “The key for us is growing and getting to critical mass as a much larger company before those guys really get their act together and start to get closer from a product and technology standpoint,” Patel says.

In the end, the thing that struck me most in talking with Patel was just how pervasive Isilon’s products already are. If you’ve watched NBC’s broadcasts of the Olympic Games, that data is stored using Isilon’s software. If you watch a new animated feature film this holiday season, chances are good that the studio behind it used Isilon’s system. The company’s customer list also includes giants like Sony, XM Radio, LexisNexis, Facebook, MySpace, Kodak, and Adobe. And one more intriguing thing: biomedical research organizations, particularly those doing genomic and protein analysis, now account for about 10 percent of Isilon’s revenue, through partnerships with the likes of Merck.

We’ll hear more of the latest details of the company’s financials today. But Isilon looks to be back on its feet and rising again, fast.

Gregory T. Huang is Xconomy's Deputy Editor, National IT Editor, and Editor of Xconomy Boston. E-mail him at gthuang [at] Follow @gthuang

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