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No 2000/1 - Monday, November 20, 2000








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  Venture capital spending is flat  

Two reports concerning the venture capital firms in the United-States have just been released.

The Venture Capital Association compiled the first report.

According to that report, the venture firms invested $25.9 billion in 1.774 companies in the third quarter 2000. That is a slight drop from the $27.8 billion and 1.830 companies they invested in in the quarter before and an indication that the level of venture capital financing has leveled off after exploding in the previous two years.

At first sight, it is nothing more than a slight decrease in investment. But in fact, when you take into account all the money needed by the start-ups (start-ups that have already reached their second round of financing), this well indicates that the level of venture capital financing has leveled off after exploding in the previous two years.

Even though the figures given by VentureOne Corporation are different from the ones released by the Venture Capital Association, they are not more optimistic in any way.

According to VentureOne, venture capital firms invested $16 billion in 879 deals in the third quarter, 6 percent fewer dollars and 16 percent fewer deals than in the previous quarter.

But these are only a few general figures about venture capital financing.

As far as the start-ups themselves are concerned, the situation is a bit more critical. According to the report released by VentureOne, venture capitalists invested 5.2 billion in 623 start-ups during the third quarter, compared with 7.1 billion in 695 start-ups in the second quarter.


By contrast, venture capitalists invested $18.32 in start-ups in the second quarter of 1999, figure that is still given by VentureOne.

Investment in Internet companies over all accounted for 70 percent of the venture capital allotment, a drop from 80 percent in the quarter before.

The last beneficiaries of venture capital are biotechnology companies (+140 percent in just one quarter) but also medical and health companies (+70 percent in just one quarter).

It goes without saying that the start-ups' bad results at the Stock Exchange are responsible for this general reaction. Nevertheless, such assertion needs to be qualified.

The B2C sector (and more particularly the eRetailing branch) is the one that suffers most from such change in the venture capitalists' attitude.

Today, some easily led venture capitalists who have already lost a great deal of money, have decided to limit their investments to the B2B sector, and yet I am convinced that such sector will suffer just as much as the B2C one, since, in my opinion, only 10 percent of B2B start-ups that are presently on the market will prove viable in the long term.

As a result, venture capital firms are now taking a hard line with the start-ups in which they already have stakes.

If it is presently proving nearly impossible to create a B2C start-up, it is even more difficult to survive in the business. That's why many dot-coms have been closing down their web sites in the last few weeks even though they still have enough cash to hold on for a few more months.

The reason for this is a very easy one: as long as start-ups are profitable, venture capital firms are no longer willing to hand out more of their own money…since they cannot afford it!

Indeed, venture capitalists have been acting foolishly at first because of the madness that surrounded the market. All you had to do at the time was create a start-up and go public. You then needed to find buyers that were naïve enough to give you enough funds to cover your losses for a few years.


As such easy option is now out, and since venture capitalists' financial abilities are much lower than what start-ups really need, they can only close down their business.

Freeinternet.com is a good example of this new reality. This company that offered free Internet access was launched in March 2000 and its venture capitalists backers had then put up $87 million but when it was valued, only a few months later, it filed to go public at $835 million.

Last month, Freeinternet.com withdrew its public offering and three days later filed instead for bankruptcy protection.

Some other start-ups had no other option than to shut down their web sites in the last few days because they could not raise more cash.

The example that best illustrates this situation is Pets.com. It recently announced that it was closing down its operations and has already fired 255 of its 320 employees. Even though the company had not yet run out of cash, it anticipated needing more capital early next year but could not find any investor willing to hand out any money.

None of its present investors were willing to hand out any more money and when Merryll Lynch tried to find new ones, it was a failure.

Pets.com went public in February 2000 at $11 a share (it even rose to a record of $14) but it closed last Tuesday at 22 cents. Please do not forget that Amazon.com owns about 30 percent of Pets.com.


Even though Pets.com managed to attract nearly 570.000 customers, it did not manage to compensate for the $147 million cumulated losses.

Eve.com met with the same fate but it happened to be a stroke of luck for its direct competitor Sephora.com (LVMH) since the latter just bought its domain name from Idealab! eve.com's incubator.

In this respect, just as venture capital is presently facing a few difficulties, many incubators might well meet with the same fate as their start-ups if they do not rapidly find any viable alternative solution.

I think that venture capital should resist way better than incubators.

It may well happen that not all venture capital firms have a fifteen-to twenty-times return at the end of this year, but they should not, in the majority of cases, end up with anything less than a four-to five-times return which is not too bad.

But one thing is for sure, start-ups that are supposed to reach their break-even point just a few years after they are launched will no longer be financed as they used to just a few months ago. This era is well over.

Profitability, you just said?

Source : New York Times

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