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New Subscription IPOs Pose Test for Sector

Valuing subscription businesses is always challenging for investors, given the sector’s reliance on obscure and non-standard financial metrics that companies release selectively. Two young and fast-growing cloud software companies that filed to go public this week, both of which rely on such metrics, will test investor appetite.

New Relic and Hortonworks each filed to raise up to $100 million. New Relic helps other software companies analyze how well their applications perform. Hortonworks sells support services around Hadoop, open-source software for crunching massive amounts of data on cheap servers.

Of the two, Hortonworks faces the biggest challenges. The company is essentially selling subscription access to its Hadoop engineering talent while its software is completely open-source.

It’s a crowded market, with competition from companies like Cloudera and MapR. These businesses sell subscriptions to a layer of proprietary software tools on top of similar open-source code, as well as manpower for implementing the technology and support. And the fastest growing part of Hortonworks’ revenue is coming from the unprofitable service side of its business. Overall, Hortonworks lost $86.7 million on $33.3 million in revenue for the nine months ended Sept. 30.

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“Hortonworks is an important player in the Hadoop market,” said Steve Koenig, an analyst with Wedbush Securities. “However, there are 10 or more Hadoop distributors, and the question will be whether they can differentiate themselves through value-add offerings.”

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Hortonworks, founded in 2011, says it believes the figure is about 125 percent if calculated on a year-over-year basis. Even so, the company advises customers to take that with a grain of salt.