Software Companies Are Tops In 1Q VC Funding

The MoneyTree survey says software moved back into the top spot in the first quarter, edging past biotech.
Software companies regained the top spot in venture-capital financing during the first quarter of 2004 after being pushed to the No. 2 spot by biotech companies during the previous two quarters, according to the MoneyTree survey released Tuesday by PricewaterhouseCoopers, Thomson Venture Economics, and the National Venture Capital Association.

Software companies received $956 million in VC funding in the first quarter, edging out biotechnology firms, which received $943 million. Nearly a third of all first-round financing, or $279 million, went to software companies, with biotech a distant second at $89 million. Software remained well ahead in number of deals in the first quarter with 162, as opposed to 71 for biotech.

Overall VC investment fell to $4.6 billion in the first quarter from $5.2 billion in the fourth quarter of 2003; investment has hovered between $4.2 billion and $5.2 billion during the past seven quarters.

Despite the relatively lackluster environment, IT companies continue to attract investment. Software, IT services, computers and peripherals, and telecom all received more investment during the first quarter than the previous quarter, while most other industries, including biotech, received less.

According to another survey released this week by Ernst & Young and VentureOne, IT companies garnered 283 deals totaling $2.6 billion.

Both surveys show a drift toward later-stage companies and companies that show profitability. According to the MoneyTree survey, later-stage investments in the first quarter accounted for 30% of all investments, compared with 22% two years ago; expansion-stage investments accounted for 52%; and early-stage investments accounted for 17% in the first quarter. According to the Ernst & Young/VentureOne survey, the number of investments in profitable companies held steady, while the number of investments in unprofitable firms declined.

As the economic outlook brightens, CIOs are beginning to look at making investments that go beyond supporting lights-on operations. That's good news for entrepreneurs, says Ryan Floyd, general partner of Storm Ventures, a Silicon Valley-based VC firm. "CIOs are starting to think about what they'll be doing 12 months from now instead of the next quarter," he says.

That, in turn, is lighting a fire under fund managers to be more proactive in seeking out deals. Floyd estimates that VC firms are sitting on reserves of $40 billion waiting to be invested. With tech stocks picking up and economic indicators looking better, they'll have a difficult time explaining to investors why they're not being more active.