Q3 venture capital investing remains above $6 billion for third consecutive quarter

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In the third quarter of 2006, venture capitalists invested $6.2 billion in 797 deals, according to the MoneyTree Report by PricewaterhouseCoopers and the National Venture Capital Association based on data by Thomson Financial. The investment level decreased by 8% from the second quarter, when $6.8 billion was invested in 907 deals, but still represented the third consecutive quarter over the six billion dollar mark. The quarter was marked by increasing strength in the Seed/Early Stage dollars and industries such as Telecommunications, Media and Entertainment, and Industrial/Energy. First-time financings also continued at strong levels for the quarter, reflecting optimism within the industry.

Mark Heesen, president of the National Venture Capital Association, said, "We are at a point in the investment life cycle where many venture capitalists are deploying fresh funds that have been raised within the last 18 months or so. Thus, VCs are finding themselves at the beginning of a fairly long runway, betting more on those seed and early stage companies that they believe will have the most promise five to seven years from now. Given this environment, we are pleased to see deal and dollar levels remain relatively stable, as this is indicative of the discipline being applied to investment decisions."

Sector and industry analysis

The Life Sciences Sector (Biotechnology and Medical Devices industries, together) continued to see strong interest from venture capitalists in Q3 with $1.8 billion going into 177 deals. Biotech investing dollars for the quarter fell 5% to $1.14 billion from an extremely strong Q2, but took over the highest dollars received by a single industry category from Software for the first time this quarter. Medical device investing increased 12% to $639 million. In the third quarter, Life Sciences investing accounted for 29% of all venture capital dollars, consistent with historical percentages.

Software experienced a 19% decline in investment dollars and a 24% decline in deals from Q2, with $1.09 billion going into 186 deals. Although Software still accounts for 18% of total dollars and 23% of all deals, the third quarter marked the lowest number of Software deals since 1996.

The Industrial/Energy sector continued a steady incline, reaching a six-year high with $576 million going into 45 companies. Within the sector, Alternative Energy investing increased to $274 million. The majority of this increase can be attributed to a single company which received over $209 million in the quarter.

Internet-Specific companies captured $1.1 billion going into 154 deals in Q3, representing a four-year high and accounting for 17% of total investment. 'Internet-Specific' is a discrete classification assigned to a company whose business model is fundamentally dependent on the Internet, regardless of the company's primary industry category, such as Software or Telecommunications.

Other major industry categories that experienced increases in investment amounts in Q3 were Media and Entertainment, Retailing/Distribution, Financial Services and Computers/Peripherals. Decreases were seen in Semiconductors, Networking and IT Services.

"Even though the overall dollars remained relatively flat--which is consistent with historical patterns of lower third-quarter investing--we saw significant movement between industry sectors," said Tracy Lefteroff, global managing partner of the venture capital practice at PricewaterhouseCoopers. "In particular, Biotech leap-frogged over Software in terms of dollars invested. And, Telecommunications, for the first time in a long time, came on strong during the third quarter. However, the number of deals in each sector tells us that the venture community is still focusing on business as usual."

Stage of development and 12-month average valuations

Venture capital investment in Seed and Early Stage companies increased 10% in terms of dollars in the third quarter of this year with $1.2 billion going into 278 deals. The increase was driven by more Seed stage deals and higher Seed and Early Stage dollars, suggesting a greater confidence in the promise of young companies overall. Average post-money valuations of Early Stage companies rose to $15.4 million for the 12 months ending Q2 2006. (Note: Valuation data lags investment data by one quarter.)

Overall for Q3, Seed/Early Stage companies accounted for 35% of the deals; Expansion Stage for 38%; and Later Stage for 27%. These percentages showed Seed/Early companies snatching percentage points from the Later-stage companies.

First-time financings

The investment dollars received for the first-time in Q3 2006 remained strong with 266 companies receiving $1.5 billion. These levels are relatively flat compared to Q2. Seed/Early Stage deals attracted most of the first time money with 50% of the total dollars and 70% of the total deals.

Companies in the Telecommunications, Biotechnology, and Software industries attracted the highest level of first-time dollars in Q3. Other industry sectors where venture capitalists placed more bets for the first time were Industrial/Energy, Medical Devices and Equipment and Media and Entertainment.

International investing

For the first time, The MoneyTree Report will provide investment figures by US based venture capitalists in companies domiciled in selected foreign countries. These figures will be reported separately from the MoneyTree totals as an ongoing measurement going forward.

In the third quarter of 2006, US venture capitalists invested $221 million in 18 deals in Chinese companies; $203 million in 18 deals in Indian companies and $46 million in 11 deals in Israeli companies.

This article is based on results from the MoneyTree Report by PricewaterhouseCoopers and the National Venture Capital Association, based on data provided by Thomson Financial. The report is a quarterly measure of cash-for-equity investments by the professional venture capital community in private, emerging companies in the U.S. For more information or to download an executive summary of this quarter's results, please visit www.pwcmoneytree.com.
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