Nuance Plays Hardball in Voice Recognition

When rumors swirled on May 7 that Apple (AAPL) might acquire Nuance Communications (NUAN), shares of the software company rose 10 percent to $22, within pennies of an all-time high. The assumption was that Steve Jobs gets what Steve Jobs wants.

A safe bet—unless you know Nuance Chief Executive Officer Paul Ricci. In speech-recognition technology, which Nuance dominates, the soft-spoken Ricci is considered every bit as powerful as Jobs. Since leaving Xerox (XRX) to join the company in 2000, Ricci has bought 43 companies to build the largest independent maker of software that lets devices understand you as you dictate a memo to your laptop, say, or tell your smartphone to find the nearest sushi bar. "People had been knocking away at speech recognition since the 1960s," says Bill Janeway, a partner at Warburg Pincus, Nuance's largest shareholder. "Paul turned it into a billion-plus business that makes technology used by hundreds of millions of people."

Ricci's critics say he's lawsuit happy and uses strong-arm tactics to weaken innovative rivals so he can buy them on the cheap or put them out of business. Over the past decade, Nuance, based in Burlington, Mass., has sued eight companies over alleged patent infringements. It hasn't won any judgments and lost one. On at least four occasions, it purchased smaller companies it had sued. "Competing with Nuance is like having a venereal disease that's in remission," says Dave Grannan, CEO of Vlingo, a speech-recognition startup that's involved in five Ricci-related lawsuits. (Nuance has four suits against Vlingo; Vlingo has one against Nuance.) "We crush them whenever we go head-to-head with them. But just when you're thinking life is great—boom, there's a sore on your lip."

Vlingo's adventures with Ricci began in 2008, soon after Yahoo! (YHOO) chose Vlingo software over Nuance. Three months later, Grannan learned from a Boston Globe reporter that Nuance had filed a patent suit—without contacting the company to discuss royalties. "It was clearly an effort to hurt our business," says Grannan, who expects to spend $15 million on legal fees. Nuance spokesperson Rebecca Paquette said neither Ricci nor the company would comment on specific lawsuits against Vlingo or others. "In these highly technical fields, many companies attempt to gain advantage by simply using Nuance's inventions rather than developing their own," she wrote in an e-mail. "We have a duty to our stockholders to preserve the value of the company and its assets."

By summer 2009, with Vlingo running out of cash, according to Grannan, Ricci approached him about an acquisition. On Sept. 21, they met in San Francisco for a 14-hour negotiation. No agreement. Two days later, Ricci surprised Grannan and Vlingo co-founder Mike Phillips by calling to offer two more alternatives. First, Ricci promised to pay them and co-founder John Nguyen $5 million each if they could persuade their board to sell at his price. If that failed, and the three execs agreed to jump ship to Nuance, he'd pay them the amount they would have received in an acquisition—plus another $5 million if they stayed with the company for two years. As Ricci talked over speakerphone, Grannan says he looked at Phillips, mouthed "What the f---?", and asked Ricci to repeat. Ricci, who speaks in the measured tones of an academic, obliged. After notifying Vlingo's board of the offer, Grannan called Ricci back to express the board's displeasure. "I was flabbergasted," says Vlingo board member Bob Davoli. "I've been on 55 boards in my career and been a CEO twice—but I've never heard of anything like this."

Vlingo's board later accepted a $15 million investment in the company, after Ricci suggested that such a deal would align their interests and lead to a cessation of hostilities, says Davoli. "That was wishful thinking," he says. Rather than drop the lawsuits, Ricci stopped taking Grannan's phone calls. When Vlingo's board stopped admitting a Nuance-appointed director to its board meetings, Nuance sued for the right to attend.

In late 2006, Ricci took a run at a customer—Tellme Networks, which made an automated telephone-response system. Ricci had just purchased a company that made speech software used by Tellme. Mike McCue, Tellme's then-CEO, says he was contacted by Ricci, who declared he'd sue Tellme, introduce a competing product, and refuse to sell it more software unless Tellme's board agreed to sell to Nuance at Ricci's price. "It was an all-out attack on every front," says McCue, who now runs Flipboard, maker of a popular news app. McCue did sell the company in 2007—to Microsoft (MSFT), for a far higher price. (Press reports had it at around $800 million.) A court later dismissed Nuance's patent claims as invalid. "We were able to outlast Nuance," says McCue. "But a lot of companies can't handle the pressure and give in. It's happened time and again." Ricci declined to comment on dealings with Tellme or Vlingo.

Steve Tran, who co-founded BeVocal, a speech-recognition startup bought by Nuance in 2007, says he admires Ricci for his ability to understand the value of companies and his willingness to use all the tools at his disposal to obtain them at the right price. "Entrepreneurs can be a bit idealistic sometimes," says Tran. "We want to change the world. But he wants to build an empire."

An economist by training, Ricci began his career selling WordStar, one of the first word-processing applications. Then he joined Xerox's famed PARC research lab in Palo Alto, Calif., where he became known for tearing apart less quick-witted rivals in budget meetings. "He was the best strategist in the entire company—and he knew more about finances than the CFO," says former PARC director John Seely Brown.

When Ricci left Xerox to take over Nuance, then called ScanSoft, he correctly surmised that increasing computing power would make speech interfaces mainstream. In 2001, soon after speech-recognition pioneer Lernout & Hauspie went bankrupt after a massive accounting fraud, Ricci swooped in to buy the Belgium-based company for $39 million. Since then, Nuance has developed lucrative vertical businesses, including a health-care division that makes automation software that lets doctors write prescriptions by voice. This division brought in 37 percent of the company's $332 million in sales last quarter.

Yet for all its market share and acquisitions, Nuance is coming under increasing pressure. The main reason is Google (GOOG), which sees the things people say to their devices as a way to better target ads. Seven years after hiring former Nuance executive Mike Cohen, Google is giving away its speech-recognition technology to the same phone makers and cellular carriers that buy from Nuance.

As for Apple, analysts say it's unlikely to buy Nuance. "Nuance has too many different businesses," says Gleacher & Co. analyst Brad Whitt. Jobs wouldn't want to continue licensing Nuance's technology to rival device-makers, Whitt says, much less muck around in the health-care industry. And yet people in this corner of tech can't help imagining what might happen should Jobs and Ricci meet across a conference table. Says Seely Brown: "I'd pay plenty to be in the room to hear that."

The bottom line: Nuance's Paul Ricci built the dominant speech-recognition company with engineering, acquisitions—and a lot of lawsuits.

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