Venture funding gets less venturesome: it's become very difficult to get capital for start-up enterprises, no matter how promising their ideas. Venture firms are directing their money toward more proven entities.

• Author: Van Yoder, Steven
• Position: Venture Capital

Venture capital isn't what it used to be. The once-lush supply of VC funding that propelled biotech, high-tech and telecommunications firms to prominence in the late 1990s has dried up on a worldwide scale. Venture capitalists have become increasingly selective as they now face longer investment cycles, declines in company valuations and limited exit opportunities. With few exceptions, companies have found that obtaining venture capital funding is not as easy -- or even as likely -- as it was a few short years ago.

According to the Ernst & Young/ VentureOne Venture Capital Survey, the amount of new venture capital invested skidded 62 percent in 2002. All major industries have experienced declines, including the once-red hot software, telecommunications, networking and life sciences industries.

"2002 has been a milestone year for the venture capital industry," says Gil Forer, Global Leader of the Venture Capital Advisory Group at Ernst & Young. "The industry has faced several significant challenges, such as a potential decrease in the number of VC firms, the LP-GP [limited partner-general partner] expectations and relationships, difficult fund-raising environment [and] significantly fewer liquidity opportunities."

With that, returns have slumped sharply. Venture capital funds suffered an average loss of 22.3 percent in last year's third quarter, according to a study by Venture Economics and the National Venture Capital Association. That extended a series of losses dating back two years. Still, as of last Sept. 30, the 20-year record for VC funds stood at a glowing 16.7 percent annualized return.

To Those That Have, More Is Given

Seed money, in particular, has virtually dried up. The number of companies receiving first-round venture capital has dropped to six-year lows, and VentureOne reported that first- and venture capital second-round investments in venture-backed firms slumped from $8.1 billion in the second quarter of 2000 to just over $1 billion in each of the last four quarters ending last September.

There is one category of recipient that is doing relatively well, however: companies that have established themselves to some degree in their marketplace. Because liquidity opportunities -- through initial public offerings (IPOs), mergers and acquisitions -- have grown progressively scarce, these enterprises have had better luck finding "follow-on" capital.

"The only financing we've done over the 18 to 24 months has been with companies that were previously funded," says Steven Block, managing principal of the corporate and securities practice group for Fish & Richardson. "As far as making investments in new companies, it's almost non-existent, especially companies with little more than a business plan."

"Two thirds of current venture financing is being invested in current portfolio holdings," says Martin Alter...