Venture capitalists, thrashed by months of bad economic news, are scrambling to find investors after pulling together the smallest pot of money in eight years.
Firms raised $1.7 billion in the third quarter — less than half the $3.5 billion collected in the same period last year and the lowest amount since the third quarter of 2003, said the National Venture Capital Assn.
"August and September were just abysmal for any type of venture-backed situation," said David Menlow, president of research firm IPOfinancial.com in Millburn, N.J. "Investors want to feel there's hope for the marketplace rather than feeling that everyone is standing at the edge of the abyss."
In another report, research group Dow Jones LP Source, a research unit of Dow Jones & Co., found a similar drop. It estimated that $2.2 billion in investment capital was raised in the U.S. in the third quarter, a 24% drop from a year earlier.
Investors, made skittish by a lagging economic recovery, a European debt crisis and downgraded U.S. debt, retreated from riskier projects, analysts said. Poor venture capital returns in recent years have also made investors cynical toward the industry, they said.
The year started out well, with heavy fundraising garnering $7.6 billion in the first quarter, according to the venture capital group. As late as July, 11 IPOs were scheduled over one week alone.
But later in the quarter, the markets began contorting, gyrating hundreds of points a day amid talk of a double-dip recession.
"Things were getting better, but what we've seen since is a real retrenchment," said Mark Heesen, president of the venture capital group. "We'll continue to see firms wanting to go out but not putting their toe in the water until likely the first of next year."
Companies began delaying or calling off eagerly anticipated initial public offerings, forcing their venture capital backers to direct more time and money to keeping them afloat. Zynga, Facebook and Groupon have yet to go public.
Venture capital firms, especially larger ones, seem to be sitting out fundraising for now, Heesen said. Some may be waiting until the 2012 elections — and potential policy changes — before restarting.
"The last 10 weeks have really shut down the process," Heesen said.
The industry, he added in a blog post, has been investing more than it's been raising since 2008 — an overhang that will reach $20 billion by the end of the quarter.
"Just like a bubble," he wrote in the post, "this imbalance is not sustainable."
Venture capital fundraising in the U.S. and Europe was halved in the recession's aftermath and has yet to rebound, according to the Dow Jones report. Investors gravitated to more mature venture capital-backed companies, piling three times the amount into late-stage funding through the first nine months of this year than they did through the same period last year. Meanwhile, early-stage fundraising slumped 41% over the same period.
As venture capital fundraising weakens, individual "angel" investors and hedge funds will increasingly step in to fill the gap, said Scott Austin, editor of Dow Jones VentureWire. Even corporations such as Nike and Rubbermaid have launched venture capital branches.
"There won't be enough venture capital to go around," Austin said. "There's going to be a lot of start-ups that are desperate for financing and anyone will probably have the chance to buy in. Everybody is trying to get in this game."
In the Southland, investment capital is coming increasingly from Silicon Valley and the East Coast, said Randy Churchill, president of the Los Angeles Venture Assn. He worries that attractive local companies could be pressured into moving out of the area to be closer to those financial lifelines.
"As an entrepreneur, I wouldn't be too worried," he said. "There's money to invest and we're still getting a good volume of funding in our region, but the percentage coming from local venture capital firms is declining."
The dour environment will probably squeeze the Southern Californian venture capital industry, local firms said.
That means fewer venture capital funds will survive in Los Angeles, and the larger ones that hang on will probably shrink, said Eve Kurtin, managing director of Pacific Venture Group in Encino. At the firm, which manages two funds, the slowdown means there probably won't be a third fund.
"Venture capital funds may be fine and dandy, but there are a lot of them," Kurtin said. "There is absolutely going to be a contraction in the market."