Not Quite Love, But VCs are Still Infatuated With I.T.

The love fest among venture capitalists and IT startups isn't as wild as it was a couple of years ago, but the infatuation continues. Among the top 10 VC deals in the past quarter, four involved IT companies, including the three largest investments. The biggest payoff: A $105 million later-stage investment in Vonage Holdings Corp., a phone service using voice-over-IP technology.

For the first three quarters of 2004, VC investments in IT companies reached $8.6 billion, up from $7.5 billion a year ago. By comparison, in the first three quarters of 2000, the peak year, VCs invested $45.9 billion in IT companies. This year's investments represents a gaunt 19% of 2000's.

Still, there are positive signs. Early-stage investments in IT companies--a gauge of interest in promising new technologies--rose in the third quarter, with the median amount invested in first-round deals hitting $5.7 million, the highest amount in two years. "The return of interest in early-stage investments bodes well for the future of the market," says John Gabbert, a VentureOne research VP.

In effect, VC investments in IT companies are bets on the technologies that CIOs and other technology consumers will buy in the coming years. What are those technologies? Wi-Fi, WiMax, ZigBee, and Bluetooth, says Sanjay Subhedar of Storm Ventures, a VC firm that has several wireless vendors in its portfolio.

Information and message security are other hot technologies. VCs gave Caymas Systems Inc. $37 million for its identity-tagging and control architecture, which controls access to information assets. Early-stage VC firm Greylock Partners' portfolio includes CipherTrust Inc., a maker of software that protects against spam, viruses, worms, Trojan horses, and other malware.

As these investments illustrate, VCs cautiously court their IT mates as both partners search for bottom-line rewards from their mutual fascination.