Dane Hamilton
NEW YORK: A few years ago, venture capitalists used metaphors like moonshots
and bulletproof to describe business plans of their favored investments. Now,
the talk has shifted to starving rats and lame horses.
"We're trying to shoot our lame horses quickly," said Paul Schmitt,
managing director PA Early Stage, a venture capital firm in Wayne. "In the
third and fourth quarters, a lot of companies will go out of business" as
venture capitalists cut funding for new enterprises, Schmitt told reporters at a
venture capital breakfast meeting sponsored by Red Herring, the
technology magazine.
"VCs are starving the rats and feeding the winners," agreed
Deutsche Bank co-head of global investment banking, Alex Bill Burgess.
"Clearly the bad news is not over yet."
The bleak assessments come amid an ongoing slump in Nasdaq, a constipated
market for initial public offerings and a seemingly endless spate of profit
warnings by former Wall Street tech darlings like Lucent Technologies, Palm,
Cisco Systems, Dell Computer Corp. and others. In last year's second quarter,
225 companies pre-released mostly negative profit warnings, a number that grew
to 507 companies in the fourth quarter of 2000, according to Deutsche Bank.
As the value of public companies drops, private company valuations dry up as
market prospects deteriorate, thwarting plans for venture investors to profit
from initial public offerings. The IPO market has all but dried up, with 18
companies raising $7.2 billion so far this year, with the bulk of that - $5.6
billion - raised by Lucent spin-off Agere and global consulting firm KPMG. That
compares with 135 deals in last year's first quarter, when $24 billion was
raised, according to Deutsche Bank.
Now, early investors are demanding a quicker path to profitability as they
look to shoot holes through business plans for companies more desperate than
ever for cash. And they're demanding it for less investment. "It's more
like vulture investing than venture investing these days," said Tom Kuhn,
director of Allen & Co., a New York venture capital firm.
This year's slowdown comes at a time when venture capitalists are awash in
cash, both from gains in their investments and from institutional investors
looking for the hefty returns of 35 per cent and up that venture firms generated
during the late 1990s bull market.
Venture capitalists raised some $92 billion in 2000, up from $60 billion in
1999 and from $8 billion in 1994, according to Venture Economics and the
National Venture Capital Association.
Now that public investment in Internet and technology stocks has slumped, a
few of the 700-plus venture funds may be returning money to investors, finding a
dearth of companies with solid technology that may appeal to the market. Burgess
said about 190 of the venture firms were founded in the last three years with
money recycled from the bull market during those years.
The market has left venture capitalists searching for the Next Big Thing in
software, wireless communications and optical networking and broadband
components, or even farther afield into agriculture and health technologies. But
few claim to have found the next Microsoft, Intel or Cisco Systems, those
technology giants that drove the 1990s bull market.
PA Early Stage, for instance, is looking at companies like PlantGenix, which
engineers plants to make useful products like nylon substitutes or chemicals.
But such investments must be with seasoned management teams that have solid
business plans, says PA's Schmitt.
"We like entrepreneurs that have been through train wrecks," said
Schmitt. "They're easier to deal with. There's a lot less arrogance out
there now." Still, demand for technology spawned by Silicon Valley
continues unabated, ensuring a bright future for existing technology companies,
albeit with reduced expectations, reckons Red Herring Chairman Tony Perkins.
Perkins said the 200 million people that now use the Internet will likely
grow to 2 billion by 2005, and that business-to-business e-commerce could grow
from the $131 billion in revenue in 2000 to $3 trillion in 2004. Not everyone is
as optimistic, but it's not dampening his spirits.
"A lot of venture capitalists are still hiding under their desks,"
Perkins told reporters. But, he said, "We're back in a more optimistic
mood."
(C) Reuters Limited 2001.