Benchmarks: Q4 venture capital investments.(Mergers, IPOs, and Venture Finance: Benchmarks)

Software is managing to maintain a steady monetary position among venture capital investments. 2005 saw $4.8b invested in 869 deals, and 2006 saw $5b put into 865 deals; the last quarter of 2006 reached $5.8m per deal.

As Soft letter noted in the 15 April 2006 (VCQ4) study, the deals are growing steadily larger in scope and fewer in number: $5.5m per deal in 2005, and $5.7m in 2006. As VCs raise larger amounts for their funds, they need to make larger placements. The result is a tendency to fund later rather than early stages, and to overdo the cash infusions into young companies.

More troubling are indications that venture capitalists are seeing greener fields than software for their investments. The chart above shows declines over 2005-2006 in Computers & Peripherals and Networking & Equipment, and increases in Industrial/ Energy, Electronics & Instrumentation, Media & Entertainment, and Medical Devices & Equipment. As an industry, software should continue to prosper as all these sectors need software inputs, but software continues to be troubled by declining venture capital interest in fledgling firms and by the lack of IPOs.

The remedy for the lack of IPOs has been private equity funding for mergers and acquisitions (see sandhill.com for the Software 2006 Industry Report from the Sand Hill Group). As recently as 2002, private equity contributed only $0.9b against the $4.6b that VCs were putting into the software industry. By 2005 VCs were putting up $5.1b, while private equity was sending in $6.2b. Private equity M&A growth from 2002 to 2005 increased at an annual rate of 42% to an average $101m per deal, and the total value of such deals increased at an annual rate of 27% to $22b. As with the VC deals, the number of M&A deals decreased at an annual rate of 11% as the industry consolidated, leading to 218 M&A deals in 2005. The merger activity is not just pre-IPO sellouts, but includes the acquisition of public companies as well.

The material in this report is drawn largely from the Money Tree Survey by PricewaterhouseCoopers, Thomson Venture Economics, and the National Venture Capital Association, and generally confirmed, modified, or supplemented by other sources.

 Changes in VC Investment 2005-2006  Networking & Equipment                 -35% Computers & Peripherals                -24% Software                                 3% Telecommunications                       4% Semiconductors                           5% IT Services                              9% Biotechnology                           14% Medical Devices & Equipment             19% Media & Entertainment                   35% Electronics & Instrumentation           43% Industrial/Energy                       52%  Source: PricewaterhouseCoopers MoneyTree Survey  Note: Table made from bar graph.