Venture Uptick Coming?Venture Uptick Coming?

The economy is still drab, and the job market is as unpredictable as ever. But venture capitalists might be starting to show signs of life.

It hasn't shown up in the data, yet, but there could be a lag effect. The first quarter of 2003 represented one of the worst three-month periods on record for communications and networking companies. VCs put about $485 million to work in telecommunications startups during the quarter, an 11 percent drop from the memorably dismal fourth quarter of 2002 (see VC Funding Dips Again), according to the PricewaterhouseCoopers MoneyTree survey.

Data for the second quarter of this year will be available in a few weeks, and some say it will likely show a marked improvement after the doom and gloom of winter.

Indeed, in the past 30 days, there has been a marked increase of deals in the telecom equipment sector, including this string of funding announcements:

So what's going on?

The pace of startup investments seems to be picking up, but the time taken to get from first meetings to check writing is remaining constant, venture capitalists say. "Getting deals done these days still seems to take between four to six months," says John Adler, a partner at InterWest Partners.

One theory on the anecdotal increase in deals is that the venture funds raised during the height of the Internet bubble are reaching the point where money either has to be put to work or handed back to the limited partners (LPs), the funds' investors.

Most venture funds are 10-year funds, explains Amity Wall, manager of research operations at VentureOne. The first five years are spent making new investments and the latter five supporting companies with follow-on rounds, explains Wall: "Of course, funds that have a good relationship with their limited partners can get those investment times extended."

Table 1: Top VC Funds Raised in 1999

One venture capitalist who didn't want to be quoted says that the latter five years of a fund can also see slowed activity. Since a fund's limited partners don't invest their entire committed amount at once, VCs always have to go back to them and justify the need to continue to keep a particular fund going, they say. One good way to do this around the five-year mark is to show that there's lots of potential for good returns in the fund's most recent investments.

Of course, as with all things economic, there are probably dozens of factors adding to one single trend. Indeed, it may just be that there's an awful lot of innovation going on right now and VCs are finding cool stuff to fund in the areas of network security hardware and last mile technologies, especially wireless LAN, according to Scott Rafer, a partner at Cycle Partners, a consultancy.

"LPs have been yelling and taking back their money for so long it's no longer a story," Rafer says. "There's a tremendous amount of Ethernet innovation going on and the price of Ethernet-connected devices is dropping like a rock."

— Phil Harvey, Senior Editor, Light Reading