NEW YORK – It was once said that the private capital markets served as a precursor to public market activity. Now, it seems the forecasting pendulum has reversed course.
According to figures released in April by Venture Economics, venture capital firms, scared off by an absentee initial public offering market and free-falling portfolio valuations, disbursed nearly 42.5% less into domestic companies during the first quarter of 2001 than they did in the fourth quarter of 2000. Using a longer time horizon for a comparison reveals an even more staggering drop-off in venture activity: Disbursements for Q1 fell 56% from last year’s comparable period. In fact, the $11.73 billion worth of venture capital raised over the first three months of this year was the lowest tally for a fiscal quarter since just $6.15 billion was raised over the final quarter of 1998.
“There are no reputable firms going full-steam-ahead,” said Seth Nieman, managing partner with Crosspoint Venture Partners. “The world is undergoing some adjustments and smart people are dealing with those adjustments.”
Part of the change in approach made by VCs during the first quarter was a greater emphasis on shoring up companies in their own portfolio. “There has been an immediate focus on portfolio companies,” said Philip Sanderson, a general partner at WaldenVC. “VCs are looking inside, making sure their companies can get financed.”
In terms of disbursements, this new focus had two results, according to VCs. First, it depressed the total disbursement level because every hour spent by a VC trying to keep an existing portfolio company healthy is time that cannot be used to scout new deals, noted Bill Elmore, a general partner at Foundation Capital. Second, it meant that an overwhelming amount of venture funding, 48.7%, invested in Q1 went to expansion-stage companies, as opposed to only 27.7% for early-stage deals and just 22.6% to late-stage companies. Buyouts accounted for 0.9% of invested capital during Q1.
In all, just 1,072 companies secured venture financing during the first quarter, for an average of $10.94 million per company. Those figures compare meekly to the 1,751 companies that nabbed Q1 2000 dollars, for an average take of $15.24 million. While falling valuations can account for some part of the decrease in average investment size, there may be two more important trends to explain this fact, said William Sprague, a managing director at Crest Communications Holdings LLC. “VCs are willing to commit less to a company early on, until it proves out its business model,” he said, adding “plus, if you are an entrepreneur, is there a worse time to be raising capital? Entrepreneurs right now are probably going to take less capital in order to minimize the dilution of their ownership stakes.” These two developments drive smaller deal sizes, he noted.
John Taylor, vice president of research with the National Venture Capital Association, said in a prepared statement that the relatively low first quarter numbers should be placed in a broader context than just 1999 and 2000, since both of those years played host to unprecedented market growth. “This economic period is not unlike others we’ve experienced over the past few decades,” he said.
Those adjustments being made by VCs do not seem to include ramping up activity anytime soon, either. “I suspect that disbursement levels will not go up for the rest of the year maybe it will even drop,” said Elmore. Indeed, George Bischof, a general partner at Charter Growth Capital thinks the second quarter of this year will more than likely see an even lower level of venture activity. “A lot of deals closed early in Q1 before the February and March downturn in the public markets and many of them were probably negotiated in Q4 2000, too. So Q2 will be the first full quarter that feels the pain of the Nasdaq decline earlier this year,” he commented.
When will activity pick up again? Bereft of a crystal ball, most VCs are not willing to hazard a guess at a specific time. “The for sure thing is that when existing portfolio companies are stabilized, that is when it will pick up,” Sanderson said.
Breaking Down The Numbers
In keeping with tradition, Internet-specific companies continued to lead the way, with 394 such companies raking in $4.09 billion. Next up was the computer software sector with $2.17 billion going to 217 companies. Rounding out the top five were: communications and media plays with 122 companies receiving $1.77 billion; semiconductors with $1.37 billion being raised by 76 companies; and the medical and health sector coming in with $845.2 million raised by 84 companies.
As for the quarter’s biggest individual VC success stories, it was mostly infrastructure companies that came out on top. First up was Calient Networks Inc., a San Jose, Calif.-based optical communications company, which secured $195 million worth of venture capital back in January. Bluestream Ventures led the series C deal, which also included a $30 million lease component from an undisclosed investor.
Finally, despite the dotcom meltdown, a majority of capital was still disbursed to the Silicon Valley area, as 258 Northern California-based companies came away with $3.69 billion; 143 New England companies raised $1.59 billion, while 139 Greater New York companies raised $1.39 billion and 91 Southern California-based companies nabbed $1.1 billion.