By Elizabeth Gardner
Small Times Correspondent
May 9, 2002 — The PricewaterhouseCoopers MoneyTree Survey, one of the best-known instruments for tracking venture investment, is starting to register enough deals in small tech that it may soon rate its own category.
“It reminds me of when the Internet boom was just starting,” said PwC managing partner Murray Alter. “We didn’t have an Internet category, but we started seeing Internet-related companies popping up across a number of categories, like computing and networking. We finally broke it out into its own category, and it was maybe a dozen companies at
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Small tech investments tracked by the survey are currently spread over a host of categories, including biotechnology, medical devices, semiconductors, computers and peripherals, electronics and instrumentation, and networking. In the first quarter of 2002, enough small tech companies were funded to “get them on the radar screen,” Alter said.
In general, venture capitalists are back to a cautious and patient attitude that typified the pre-dot-com funding environment, but they’ve got a lot more cash on hand because of the venture-investing craze kicked off by the Internet—and that’s good news for small tech companies seeking VC funding.
“Venture capitalists are sitting on a lot of money and they don’t know what to invest it in,” Alter said. “They’re not going for the Internet, or optical, or biotech. The next Holy Grail is going to be nanotech.”
The first quarter of 2002 saw a grand total of 787 deals reported among the 600-plus venture firms surveyed — the lowest number since the first quarter of 1997, when there were 773. But the total funding of $6.3 billion — an average of $7.9 million per deal — was more than double the $2.9 billion — or $3.9 million per deal — of the first quarter of 1997.
While this year’s first-quarter numbers are down substantially from the VC heights of late 1999 and early 2000, when funding levels topped 2,000 deals and $28 billion per quarter, they’re still fairly healthy compared with the pre-dot-com era. The first quarter of 1995 showed 591 deals with a paltry $1.7 billion in funding.
And while most major industry sectors showed a substantial drop in funding between the two most recent quarters, some of those that harbor small tech ventures showed robust increases. They include computers and peripherals (up 48 percent) and electronics and instrumentation (up 70 percent).
More venture investments in general are made by consortia of investing firms seeking to spread their risk, and small tech investments are following that trend. Of the 10 companies funded in the first quarter, only two received all their money from a single investor: NanoPharma, which got $700,000 from the Harris & Harris Group, and Microvena Corp., which got $6.4 million from Warburg Pincus. NeoPhotonics received $25 million from a total of eight firms.
Warren Packard, managing director at Draper Fisher Jurvetson, one of the leading lights in high-tech venture investing, said companies with nanotech-based business plans should have no trouble getting someone at Draper to look at their plan, but they shouldn’t expect a check in the mail as a result.
“Our goal is to see every company that’s started in this area, and to be very cautious,” he said. He estimates that small tech—defined as nanotechnology and MEMS— is about 25 percent of the firm’s portfolio, which includes such companies as Nantero Inc., SiWave Inc., ZettaCore Inc., Arryx Inc., Coatue Corp., MEMGen Corp., Molecular Imprints and NanoOpto Corp. The last two received funds from Draper in the first quarter of 2002.
After seeing dot-com companies go from seed capital to IPO in a year and a half, returning their investors millions in stock appreciation with no actual earnings, VCs are getting reacclimatized to the real world. For them, that’s a five- to seven-year investing horizon, ending with an acquisition or an IPO that reaps them about 20 times the company’s earnings, said Jim Breyer of Accel Partners, which was extremely active in backing Internet companies and still specializes in software and networking companies.
Accel is also interested in going small. “We are spending a lot of time on campuses, where there are significant efforts in nanotechnology,” Breyer said. “Getting our attention is very easy.”
If and when nanotechnology becomes the new VC Holy Grail, small tech startups probably won’t be able to get away with the business-plan-on-a-napkin strategy that many dot-commers used. For one thing, Alter says, venture firms have learned their lesson. For another, they have scientists lining up to serve as consultants on the technical side.
Or they’re geeks themselves. Draper’s Packard spent years designing MEMS-based medical devices, and his partners have engineering backgrounds. They’re not likely to be fooled by a less-than-solid technological story, and they understand markets in a way that the tech wizards may not.
“They may present us with one market that’s not that interesting, and we may say, ‘Have you looked at this market over here?'” Packard said.
He said VCs are applying their traditional criteria to nanotechnology investments:
- A real customer need
- A very large potential market
- No firmly entrenched competitors
- Good people on the management team
Most venture capital firms, including Draper and Accel, will give startups substantial help on the last item as long as the first three are in place, Packard says. “Part of our charter is to have the best practices for starting up a business, and we can grow it from three or four people to a major company.”
PwC’s Alter cautions that seed funding from venture capital firms is likely to be a rarity for small tech startups because VCs want to invest only in companies that have survived the seed stage. “The ones we see getting VC funding have already gotten at least one round from corporate support, angel investors or their families and friends,” he said.
The MoneyTree Survey is co-sponsored by the National Venture Capital Association and the consulting firm Venture Economics.
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