On Monday, VMware announced it had agreed to acquire Nicira, a pioneer in software-defined networking (SDN) and a leader in network virtualization for open source initiatives. Additionally VMware reported that revenue for the quarter ended June rose to $1.12 billion, while earnings on a per-share basis were 68 cents. Analysts had been expecting that sales figure, but thought earnings would be at 66 cents.

MArtin Casado, Co-Founder and Chief Technology Officer, NiciraPaul Maritz, outgoing chief executive of VMware, said: "VMware has led the server virtualization revolution, and we have the opportunity to do the same in datacenter and cloud networking."

Just last week VMware announced that CEO Paul Maritz is being replaced by Pat Gelsinger, president and COO of EMC’s Information Infrastructure Products division.

Nicira basically decouples software, or intelligence, from networking hardware – the routers and switchers. That software can then be run entirely on computers, allowing enterprises to reduce cost and achieve a greater degree of flexibility in managing their networking needs. VMware, with Nicira tools, now has a comprehensive solution lineup for virtualizing the network ? from virtual switching to virtualized layer 3-7 services. This will allow customers to create a pool of network capacity on top of any network infrastructure which can easily support tens of thousands of isolated virtual networks just like creating and managing virtual machines.

Nicira CEO Stephen Mullaney, explained virtualized networking to All Things D this way: "…what was once a dumb networking pipe carrying bits into two different virtual machines running on the same one, can now be programmed to act in vastly different manners, according to rules in the virtual realm. In much the same way a single computer gets turned into a dozen, a single network can be subdivided and act like a dozen individual networks. Or the reverse: Several networks can be cobbled together to act like one. And a virtual network can be created on the fly in minutes, just like a virtual machine."

Over a billion dollars is a lot of money to pay for a company that only came out of stealth mode early this year. Part of what is behind VMware’s purchase decision is Nicira?s customers: AT&T, eBay, Fidelity Investments, Rackspace, Japanese telecom giant NTT, and Schuberg Philis, the Dutch IT outsourcing company. They are all using Nicira. Another factor in the decision was the strong management team and board of directors. VMware?s cofounder and ex-CEO, Diane Greene, invested seed capital into Nicira. She was joined by Andreessen Horowitz, Lightspeed Venture Partners, and NEA.

Nicira only began recording sales this year. The entire market is not expected to generate more than $100 million in revenue this year, according to Brent Bracelin, an analyst with Pacific Crest Securities, but it could reach $2 billion in five years, and grow from there. The next move to watch will be how Cisco Systems handles Nicira and SDN now that it has a deep pocket to back them up.