Back in June 2007, Elevation Partners placed a huge wager on smartphone maker Palm (PALM). In its biggest investment ever, the Silicon Valley private equity firm pumped $325 million into the company. The bet now looks like a bomb. On Dec. 1, Palm preannounced a nightmarish quarter, with revenues likely to come in nearly 50% below Wall Street's expectations. On Dec. 10, Palm's stock closed at 1.69, nearly 80% below the price Elevation paid for its shares last year.
Palm isn't the only problem for Elevation, a high-profile Menlo Park (Calif.) firm whose founding partners include financier Roger McNamee, former Apple finance chief Fred Anderson, and U2 frontman Bono. Elevation has done just six deals since it was created four years ago. It owns a stake in the parent company of Realtor.com, which is struggling through the housing meltdown, and it also owns around 40% of Forbes, which like many magazines faces a difficult media advertising environment. 'They're in a tough spot,' says an investment banker familiar with the firm. 'It's hard to see where they go from here.'
Few telecom experts think the Palm investment is leading anywhere good. The Sunnyvale (Calif.) company pioneered the smartphone market in the U.S. with its Treo line of products but has fallen far behind rivals such as Research In Motion (RIMM), Nokia (NOK), and Apple (AAPL). Palm's share of the U.S. market has dropped from 23% to 8% in the past two years, according to research firm IDC. 'There's no room for treading water and product delays in this market,' says IDC analyst Ryan Reith.
Elevation is in better shape than some others in private equity. It never made aggressive use of debt. It was able to sell one investment, a video game company, to giant Electronic Arts (ERTS) for a solid return. And it still has roughly half of the $1.9 billion that it raised for future deals. But unless Palm recovers, Elevation will struggle to deliver decent returns to its limited partners. That in turn could hurt its ability to raise money for investment funds in the future.
Elevation's partners insist Palm is poised for a comeback, and they point to an engineering effort being overseen by former Apple hardware czar Jon Rubinstein. He joined Palm last year as executive chairman, as part of Elevation's investment in the company. With the help of Dan Walker, Apple's former chief recruiter, Palm has brought in dozens of veteran techies interested in working on breakthrough gizmos. 'I'm very confident about our plan,' says Rubinstein.
New product gamble
The moment of truth will come at the Consumer Electronics Show in January. Sources say Palm will finally unveil an oft-delayed new operating system, as well as the first in a new family of smartphones. The company won't discuss details, but McNamee says the products will be different from anything on the market. While RIM's BlackBerrys excel at e-mail and iPhones are tops for entertainment, he says Palm will create devices that help consumers easily meld work and play.
Palm doesn't have to vanquish RIM or Apple to succeed. With smartphones expected to balloon from 10% to 50% of the overall 1 billion-unit cell-phone market, Palm could triple its revenues by winning just a single point of the aggregate market. Indeed, McNamee and Rubinstein say they're modeling their plan on the resurrection of Apple, in which marquee products led to financial success. 'We hold Apple up as the example of how to do this,' says McNamee.
This may be Palm's last chance to get it right. The company says it will burn through about $33 million in cash this quarter. At that rate, its remaining $215 million will last a bit more than six quarters.
Burrows is a senior writer for BusinessWeek, based in Silicon Valley .
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