Report: Venture Funding Extends Slump in Q1

Optimism that venture funding had ended its three-year freefall late last year was replaced with a cold dose of reality in the first quarter as venture capitalists kept purse strings drawn tight, pushing funding levels to a five-year low.

Nationwide, venture investors sunk US$3.8 billion into up-and-coming firms, down from $4.3 billion in the fourth quarter of 2002, according to the MoneyTree Survey conducted by PricewaterhouseCoopers, the National Venture Capital Association (NVCA) and Thomson Venture Economics.

The number of companies receiving cash infusions contracted to 623 from 726 in the previous quarter, marking the lowest number of funded firms since the third quarter of 1996, more than six years ago.

Certainly Uncertain

The firms tracking venture capital cited a host of reasons for continued contraction of the industry, including uncertainty surrounding war in Iraq and an economic outlook that is muddled at best.

John Taylor, vice president of research at the NVCA, said the fact that funding levels have slid for 12 straight quarters indicates a search for the right balance in uncertain times.

"The industry is trying to find the size that feels right for it," Taylor told the E-Commerce Times. Although fourth-quarter numbers showed some stabilization, he added, "It's clear from this quarter that the search continues."

Soft Money

Software remained the king of venture investment, attracting the bulk of funding, but the sector still saw outlays tumble 13 percent to $790 million, with 166 firms landing capital. Biotechnology investments came in second with $490 million, and telecommunications was the third largest sector with $485 million invested in 67 companies, down 11 percent from the previous quarter.

Networking was fourth, with $430 million divided among 38 firms, while semiconductor investment was fifth and was one of the few categories to see a small gain, rising to $275 million for 34 companies

"The semiconductor sector was a little bit of a dark horse," Tracy Lefteroff, global managing partner at PwC, said in a conference call. "Overall, technology investing is still where most of the money is going."

Staring Contest

The consensus among experts appears to be that venture capital, which helped drive the technology boom, will not take a lead role in restoring the robust economy.

"Until the public markets and liquidity opportunities show signs of sustainable improvement, venture capital will not rebound," Lefteroff said.

Taylor recommended that firms redouble their efforts to find companies that are worth investing in and that will provide a cash return to VC firms in a reasonable time frame. This, in turn, will help keep funding robust in the future. "Firms need to work harder," he said.

More Time Needed

That may mean more time is required for the industry to correct itself, said Jesse Reyes, vice president at Thomson Venture Economic.

"Companies have extended their return expectations back to normal levels of five or six years," Reyes said in a conference call. "It simply requires more time to evaluate an opportunity when looking toward an IPO or exit as far away as 2007 to 2009."

Still, some see a turnaround coming, though they acknowledge it may not be as dramatic as some would wish.

"We're starting to see things look up," said Rich Harris, a partner with Reston, Virginia-based venture firm SpaceVest. "We expect to dramatically increase deals this year. There are quite a few attractive opportunities out there."