Ray of Hope? VCs are optimistic about the coming year but are still holding on to their purse strings.

Could it be? Is the light at the end of the long, dark venturecapital tunnel finally flickering? It's hard to say, given thatVC experts have optimistically speculated, with each quarter'sdecline in investing, that the industry had finally hit bottom.Unfortunately, the loud thud was never quite heard.

But recent numbers offer more fodder for those taking theoptimistic view. After nine quarters of decline, venture investingin the fourth quarter of 2002 finished nearly flat from the priorquarter, according to the latest MoneyTree survey from PricewaterhouseCoopers (PwC), Venture Economics andthe National Venture Capital Association. The dollars investeddeclined from last quarter by only $300 million to $4.2 billion,while the number of entrepreneurs funded--692--was up from 671.

Overall, 2002, with $21.2 billion of venture capital invested,finished at the same level as 1998 and at about half that of 2001.Because exit strategies are still out of reach and VCs can onlyguess how long their money will be tied up, the low dollar amountsbeing invested aren't surprising. Valuations before investmentare still below what they have been, and terms for entrepreneursare tougher than ever, says Tracy Lefteroff, global managingpartner of PwC's venture capital practice.

Of those businesses getting funded, a greater number arelater-stage companies and those seeking expansion capital, ratherthan start-ups. Jesse Reyes, vice president of Venture Economics,says VCs have always invested where the money was needed. "VCsare moving away from the risks of some start-ups and looking atcompanies that already have proven concepts but need capital,"says Reyes. Of the later-stage companies that got funding in 2002,software companies got the most cash--just under $1 billion--withbiotechnology ringing up second, at $671 million.

ExperienceRequired
What's hot these days, according to VCs? No question about it:fully fleshed-out business plans; solid, experienced managementteams; substantial first-year revenue and a proven marketingstrategy. Jim Matheson, principal of FlagshipVentures, also points to customer validation, which he believesis "the most important thing you can have." Cambridge,Massachusetts-based Flagship now regularly interviews customers aspart of its due diligence.

But those who seek VC money still have to cope with the bitterpills of depressed valuations and harsh deal terms, at least untilthe market picks up and venture capitalists see a greaterpossibility of recouping their money quickly. While it isn'tclear yet--and likely won't be until uncertainty settles on theworld stage--when we'll see a turnaround, a 2003 survey ofventure capitalists across the country by ProfitDynamics, a Fountain Hills, Arizona, research and consultingfirm, pointed to better times ahead. Sixty percent said the VCoutlook for 2003 would be better or much better than 2002, whilenone of them predicted the environment would significantly worsen.Overwhelmingly, they cited an improved economy and equity marketsas the reason for their optimism.

"It's a much better time than it's been for thelast two years," says Dee Power, who, with partner Brian E.Hill, co-founded Profit Dynamics and co-wrote Inside Secrets toVenture Capital (John Wiley & Sons). "If I were anentrepreneur and wanted second-stage financing, I'd startlooking for it now; last year, I would have tried tobootstrap."

In terms of getting in the door, and for those who don'thave a referral from a trusted associate, VCs surveyed by ProfitDynamics favored networking most, followed by attending industryevents such as VC conferences, and directly contacting VCs. The oneoption nobody suggested was using an online matching service, whichsurprised Power. "You'd think it would work, but VCs andangels say they don't use it," she says. "Thepersonal factor is important for investors."

C.J. Prince is executive editor of CEO Magazine. Shecan be contacted at cjprince@chiefexecutive.net.