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European venture brakes for Q3 2004

With €769.8 million invested in 224 deals, the quarterly figures from Ernst & Young and VentureOne also indicate that early-stage rounds are representing a larger percentage of deals.

As it did in the U.S., European venture-capital investment saw a seasonal slow-down in the third quarter with €769.8 million invested in 224 deals. This represents a 9% decline in capital invested, and a 13% decline in deals from the third quarter of 2003, according to the European Venture Capital Report released by Ernst & Young and VentureOne. The amount invested in the first three quarters of this year combined, however, is slightly higher than the comparable period in 2003.

Deals completed in the UK Q3 were 56 compared to 76 in Q2, a decline of 26%. The value of deals was also down by 37% from €323 million in Q2 to €204 million in Q3. This is easily the lowest quarter for number of deals, and the second lowest deal value in the last five years of activity in the largest European market. France was the major success of the quarter with 48 deals and €163.1 million invested, which is nearly twice the amount invested this quarter a year ago.

Stuart Watson, who leads Ernst & Young's Venture Capital Advisory Group in London, commented, "There is no hiding the fact that the figures for Q3 2004 are very disappointing. VC activity across Europe has stagnated and until we see good quality exits through an improving M&A and IPO market, confidence will remain fragile. The one exception is France, which now looks like it could be in a position to threaten the UK as the leading VC market in Europe. "

"Despite the declines, there were positive signs for the future of the venture-capital market in Europe, particularly for initial financings," added Stephen Harmston, VentureOne's director of European research. "The median size of first-round deals was $2 million, the highest amount since 2001, which is very encouraging news for European start-ups." Meanwhile, the median amount invested in second and later rounds declined.

Seed and first-round deals made up 35% of all venture capital deals this quarter, the highest percentage in three years. In addition, 31% of the money invested this quarter also went to these early-stage financings. "As exit opportunities, in the form of mergers and acquisitions and initial public offerings, have returned somewhat in Europe, investors interest in the formation of new entrepreneurial enterprises has improved," said Mr. Harmston.

This is the fifth consecutive year in which holiday patterns have conspired to slow down third quarter venture-capital activity. Compared on a month-by-month basis, deal flow was particularly slow during July and August. Whereas the last month of the quarter, September, saw 101 deals and €357.5 million invested, representing nearly half the quarter's total activity.

By industry, third quarter investment declined for both information-technology and health-care companies. Health-care in particular, coming off a very positive second quarter for biopharmaceutical deals, saw deals drop 26% and amount invested fall 40% from last quarter. But compared to the third quarter of 2003, deal count was up and investment was fairly flat. The health-care category was home to this quarter's largest deal, the €43.3 million later-round investment in Arakis (Little Chesterford, U.K.), a developer of therapeutics based on existing drugs.

Within IT, although software and communications segments both saw smaller investment totals, there were increases in other segments. The amount invested into semiconductor companies, €58.9 million, was an increase of 65% from the second quarter and on par with the amount invested in the third quarter of 2003. Information services and electronics companies also posted increases in the amount invested, compared to last quarter as well as compared to this quarter a year ago.

The products and services category, which includes mostly Internet-related companies, also reported a positive quarter, with 33 deals and €66.1 million invested, a 57% increase in deal flow and a 3% increase in capital from the second quarter of the year. That is also a 4% increase in investment from third quarter 2003, although the numbers of deals declined by seven.

"Since the beginning of the year we have seen renewed interest in Internet-related companies, both from the investment and M&A perspectives," said Gil Forer, Ernst & Young's global venture capital advisory group leader. "Many of these companies are survivors from the internet boom that kept a low profile during the down years, gained momentum and now offer solid revenues and even profits in some cases. Others are more recently formed companies that are effectively realizing the promise of on-line business."

Mr. Forer continued, "Among the eight largest M&As occurring in Europe this year, three of them were in the Internet-dominated products and services category, including the largest European acquisition this year-Yahoo's $475 million purchase of Kelkoo, an online shopping guide founded in 1999."

By major countries, France posted a positive quarter with 48 deals and €163.1 million invested, which is nearly twice the amount invested this quarter a year ago. The amount invested in Germany also increased from last year, by 7%, to €138.0 million, although deal flow was down by 3 to 32. The United Kingdom had 56 deals and €204.0 million invested, which are decreases from last quarter and last year's investment levels. Ireland reported a particularly healthy quarter with 13 deals and €33.5 million invested, increases of 18% and 55%, respectively, from last year.