VC Industry In Trouble But PIPEs May Save the Day --- For Some

Battered by the slump in global markets, venture-capital firms and their private-equity counterparts are turning to investments in public companies, usually as PIPE -- private investments in public equity -- investors. It may be the only bright part for VCs these days, as the global recession has slowed new financings and fundraising activities to a crawl.

For instance, formation of new VC funds nearly ground to a halt in the first quarter, according to the National Venture Capital Association. In a report released Monday with Thomson Reuters, the NVCA found that only 40 VC funds, including three new ones, raised a total of $4.3 billion in the first quarter. It was the smallest number of funds raising money since the third quarter of 2003. Additionally, VC firms are having a hard time finding new companies to invest in, according to VentureSource, which later this week plans to release data showing that VC financings for the first quarter are the worst since 1998.

In this dire environment, some VC firms at least have PIPEs to keep themselves busy.

"There are many VC funds or PE funds which are reupping their investments in companies they're already invested in," said Anna Pinedo, a partner at law firm Morrison Foerster, in a conference on PIPEs in New York this week.

Lacking opportunities to invest in new companies, funds are increasingly looking to exploit low market valuations by upping their stakes in publicly-traded companies they've already invested in. They're also investmenting in public companies with distressed stock prices or with promising future prospects.

Venture capital and private equity firms were involved in 20 percent of PIPE deals and accounted for 15 percent, or about $1.5 billion, of total capital raised in PIPEs in the first quarter of 2009, according to data released this week by DealFlow Media. DealFlow noted that VC and PE funds have grown more active despite an overall decline in PIPE deals. In the first quarter, public companies closed only 190 PIPEs, raising $10.3 billion -- a 72 percent decrease in capital investment over the previous quarter.

For instance, New York-based VC firm Iroquois Capital invested in four PIPE deals, and life-science VC firm Bay City Capital completed three, in the first quarter. One of Bay City's deals was in Cadence Pharmaceuticals, which is listed on NASDAQ and which raised a total of $86.6 million in February from Venrock, Frazier Healthcare Ventures, Domain Associates, Versant Ventures, New Enterprise Associates and T. Rowe Price Associates.

Although not unheard of, PIPEs aren't typical investments for venture capital firms, which usually target privately held start-ups with innovative products or services. But in a down market, they have existing funds that still need to be invested and some public companies, especially those still developing products like life-science companies, hold the potential for attractive future returns. At least that's the bet they are willing to make.