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Money keeps rolling into Hotmail

Free email provider Hotmail says its business model works. Venture capitalists agree. They've given $3 million in the company's fourth round of venture financing.

Free email provider HotMail, which is looking to fund the launch of new personal communications services, has raised $3 million in its fourth round of venture financing.

The HotMail investment marks the second for Menlo Park-based Menlo Ventures and the fourth for Draper Fisher Associates.

Menlo made its initial investment of over $1 million back in September and has come back again in this recent round with more than $2 million. Doug Carlisle, a managing director and general partner at Menlo, said the email service was doing so well that his firm decided to invest again.

HotMail plans to use the funding to launch new personal communications services, add new features to its online service, implement targeting, and add serving technologies, as well as support the growth rate of Hotmail's subscriber base.

The company boasts more than 2.6 million profiled subscribers and said it attracts upwards of 25,000 new registrations each day.

HotMail, which generates revenues through advertising, also hopes to raise another round of venture investment later this spring, said HotMail's vice president of sales and marketing, Steve Douty. He added the company also has talked about the possibility of going public, but has not established a time frame.

"We want to step up our marketing efforts. It is our ambition is to attract corporate and small businesses, so that employees can have email for their personal use or if they want to use an Internet-based email system that is much easier to access than an account with PoP mail (like Netscape or Eudora)," Douty said.

He added the company also plans to add a number of features geared toward advertisers that will help them target HotMail subscribers.

HotMail is also beefing up secure access and will add additional storage, encryption, and security, he said.

"HotMail is a free service, but we have to live up to same standards that pay subscription services do," said Douty.

The company also has a vision of "my files," which will allow users to store documents that they are working on directly in their HotMail account, said Douty. Under this system, a user can click on a link with .doc at the end and it will launch Word, he explained.

Investors said they find HotMail offers a major distinction between their service and their competitors.

"The major differentiation is that the competitors had two fatal flaws," Carlisle said. "One required the user to install software on their computer which can be cumbersome, and the second more fatal flaw was that they were copying CompuServe and AOL business models as they tried to build their own proprietary communication network, and that is expensive."

Carlisle said HotMail piggy backs on the user's network and is based on a public infrastructure.

"HotMail doesn't have to spend a penny on their own infrastructure. The others were building out a private Internet with a modem bank in order to handle all of their own traffic," said Carlisle.

Douty noted the company can offer what other free email services do not: subscriber profiles and links to advertisers Web sites.

Juno Online Services, for example, gives away software that subscribers use to log on the company's computer network to read and send mail, along with view ads that match their age, income, and other demographics.

But because Juno is not a Web-based service, users can not click on a banner to be taken to an advertisers Web site.

"Because [Juno] is not on the Web, you can't really link to a live, living, breathing Web site, and being on the Web is clearly where the advertisers want," added Douty.