Venture capital investing decreases

Funding down in region, nation for third quarter

With the economy turning down, venture capital firms scaled back financing of start-ups in the third quarter, continuing to shift toward later-stage investments and funding life sciences and clean energy companies.

Biotechnology start-ups raised the most money in the period, followed by software, energy, medical gear, and media firms, according to the quarterly MoneyTree industry report, being released today. Investments in Internet companies showed the biggest drop for the quarter.

Overall US outlays fell 6.9 percent, to $7.13 billion in the three months ended Sept. 30, from $7.66 billion in the prior quarter.

New England, the second-largest venture hub after Silicon Valley, fared better than the national figure. Funding slipped 2.3 percent to $834.1 million in the July-to-September quarter, from $853.8 million in the second quarter.

But with the initial public offering market largely frozen, and the financial crisis making big technology and pharmaceutical companies nervous about buying start-ups, the business of fueling entrepreneurial ventures has gotten more difficult, industry figures conceded.

"There are clouds on the horizon," said Mark Heesen, president of the National Venture Capital Association. The trade group produces the MoneyTree report along with the PricewaterhouseCoopers accounting firm, based on data from research firm Thomson Reuters.

Despite the deteriorating environment for "exits," where venture capital firms recoup their investments by selling companies or taking them public, new venture outlays nationwide totaled more than $7 billion for the seventh consecutive quarter. "The venture industry is very much open for business," said John S. Taylor, vice president of research at the venture capital association.

But as in recent quarters, a higher share of investment is going to later-stage companies that are having trouble going public or being acquired. There have been only six IPOs of venture-backed companies this year, and none since March.

"The resources of venture capital firms are more focused on the companies in their portfolios, making sure they have the capacity to move forward," said Kevin Shaw, partner in charge of the Cambridge entrepreneurial services center for PricewaterhouseCoopers. "But I think that's distracting them from early-stage investments."

Early-stage investments slipped to $1.7 billion in the third quarter from $1.8 billion in the second, while first-time financing rounds fell to $1.5 billion from $1.7 billion, the MoneyTree report showed.

Indeed, nine of the 10 largest US deals, and eight of the top 10 in New England, were expansion or later-stage investments. The top five US deals and the top five in New England, were in biotechnology or alternative energy.

In addition to the economy pinching entrepreneurial firms, venture capitalists warned that fund-raising could be threatened by the collapse of the stock market. Many of their limited partners, such as pension funds and university endowments, have restrictions on the percentage of their portfolios that can be invested in venture funds.

Because of the lower stock values, "most are overallocated and overexposed to venture capital," said Jim Healy, general partner at Sofinnova Ventures in San Francisco, adding that could force them to back away from new funds or to sell some of their current investments in venture funds on the secondary market.

With diminished exit prospects in the near future, venture firms are pressing their portfolio companies to cut costs and conserve cash. "Capital efficiency is key," Healy said. "We work very hard with our management teams to have low burn rates," the pace at which venture-funded start-ups use capital reserves.

Robert Weisman can be reached at weisman@globe.com.