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Venture-Capital Spending Falls as Returns Lag

Investments: Survey says cautious firms have scaled back. Health-care start-ups gain favor at the expense of tech sector.

July 27, 2002|From Bloomberg News

Venture capitalists are still having a hard time finding places to invest their funds.

U.S. venture-capital firms, struggling with lagging returns, invested $5.06 billion in the second quarter, 43% less than a year earlier, according to the latest survey by Ernst & Young and VentureOne.

Industry spending was the lowest since the fourth quarter of 1998 when $4.86 billion was invested, the survey of 1,200 firms found.

Firms put new money into just 143 companies in the second quarter, down from a peak of 819 in the first quarter of 2000.

Initial investments in companies also fell by half to $800,000.

Venture-capital firms have scaled back as the tumbling stock market has hurt their returns. Some have stopped investing in new companies and a dozen firms have slashed the size of their funds. Others have said they won't raise another fund.

"Given the current state of the capital markets, it's understandable that venture capitalists are holding back on technology investments," said Chris Bruner, venture capital advisory group leader at Ernst & Young. "The large corporations that are potential customers of tech start-ups are in a state of upheaval, making paths to profitability unclear."

Companies in the computer and telecom industries drew 58% less investment, falling to $2.49 billion from $5.97 billion a year earlier, according to the survey.

Health-care companies, which gained favor as Internet companies stumbled, attracted 17% more investment, which rose to $1.75 billion from $1.49 billion, accounting for more than one-third of all venture-capital investments.

"We're concerned about the record-low number of reported seed and first-round deals," Bruner said. "If new companies aren't being fed into the pipeline, there may be a long-term impact on future economic development."

This also may affect returns, Bruner said.

Venture-capital firms typically finance multiple companies at a time, betting a few will generate outsized profits to make up for the failures.

Venture-capital spending peaked at $26.9 billion in the first quarter of 2000 along with the Nasdaq composite index.

The Nasdaq index is down 75% from its high.

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