Why Honeywell is out to nix Nest

February 10, 2012: 12:18 PM ET

Honeywell has tentacles in a wide range of businesses but may be best known for its thermostats. Now, it's filing suit against buzzy startup Nest Lab.

By Richard Nieva, contirbutor

FORTUNE -- Earlier this week, the technology giant Honeywell filed a lawsuit against Silicon Valley startup Nest Labs for allegedly infringing on Honeywell patents in designing its acclaimed Nest Learning Thermostat. While it was a surprising move for the Fortune 500 company, it wasn't totally out of the blue.

The Nest, which sold out its original inventory in November, is the creation of Tony Fadell, former Apple (AAPL) engineer and father of the iPod. The slick thermostat promises glitzy changes in the mostly stale market for such household devices. But Honeywell (HON) is contending that some of the Nest's core technologies -- like the device's capability to take power from another energy source, and its ability to ask questions and understand responses about a user's energy habits -- are its intellectual property. While the iconic round thermostat is Honeywell's most recognizable product, it is a small part of the company's business. It has tentacles in everything from air transportation to barcode scanners.

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Honeywell has been peeved with the upstart newcomer since it started getting major media buzz after it hit stores last fall. When Honeywell's CEO Dave Cote visited Fortune's New York City office in January, he countered quickly when I brought up how well the Nest was selling. "The Nest hasn't sold really well, the New York Times has written about it really well," he shot back. Cote is likely talking about a glowing review by Times technology columnist David Pogue. Another Times piece mentions a handful of new wave thermostats including the Honeywell Prestige HD, but is most enthusiastic about the Nest. Honeywell did not respond to a request for comment.

Whether or not Cote has a point about the Nest's actual numbers -- the company doesn't release that information -- his frustration over Nest's attention is telling. It seems clear that Honeywell, which has been around since 1906, is threatened enough by Nest Lab's momentum that it is willing to put up with the hassle (and fees) of a lawsuit. "You don't go after someone who isn't potentially going to be a leader in the category," says Mark Delaney, vice president of research solutions at the company MarketTools, who also has a background as an analyst in the home appliance sector.

While the suit may seem like David versus Goliath -- Honeywell had sales of $36.5 billion last year and has a workforce of 130,000 -- Nest is no ordinary David. The startup has the deep pockets and backing of legendary Silicon Valley investor Kleiner Perkins, and the natural PR machine of being ex-Apple at a time when Apple is riding its highest wave yet. "Any time you see the depth of the people backing that company and the bankrolls that come along with it, even if you're Honeywell, you know this is not some little startup by some guy in a garage," says Delaney. Indeed, in an email statement, Nest Labs firmly says that it has the "resources, support and conviction" to defend itself against the suit.

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What's potentially at stake here is more than just a few points of market share for Honeywell. The Nest's ability to capture the interest of a major retailer like Best Buy (BBY), where the product is sold -- and which is also named in Honeywell's filing -- suggests the diversification of a market that has long been stagnant, if only by taking into account the younger demographic of Best Buy's shoppers. "This is an underserved and unloved market," Fadell told me when we spoke in November. "The thermostat business is big." (It is not clear what portion of Honeywell's revenues come from such devices.)

The belt-tightening caused by the dragging economy has also made a smart thermostat much more compelling. Instead of doing large-scale remodels, homeowners are opting to make simpler modifications to upgrade their homes, like trying out a new device, Delaney says.

So in the end, it comes down to the bottom line, and Cote knows this better than anyone. "Everybody's in favor of energy efficiency on a survey," he said in that January meeting. "But when it's their own money, they think of it in a different way." He has also stated in the past that if everyone aggressively used existing Honeywell products, the United States' annual energy bill would be cut by up to a quarter. For Honeywell, certainly the Nest is one obstacle getting in the way.

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