A renewed interest in Internet startups, combined with expanding opportunities in the health care and alternative energy markets, spurred a 12 percent increase from the $22.8 billion invested in 2005, according to figures jointly released Tuesday by PricewaterhouseCoopers, Thomson Financial and the National Venture Capital Association.
Last year's activity, spread across 3,416 deals, generated the highest level of investment since venture capitalists forked out $40.7 billion in 2001, the end of a manic era driven by a lemming-like pursuit of dot-com riches.
After hundreds of their Internet bets flopped, venture capitalists recoiled in despair through 2002 and 2003.
Last year, venture capitalists poured $4 billion in Internet startups, a 25 percent increase from $3.2 billion in 2005. It was the industry's largest commitment to the Internet since 2001 when the high-tech financiers pumped $10.2 billion into the sector.
Venture capitalists also upped the ante substantially in biotechnology, which received $4.5 billion last year, up by 17 percent from 2005.
The most robust growth occurred in the industrial and energy category, where venture capital investments more than doubled to $1.8 billion. About 40 percent of that money was earmarked for alternative energy projects.
Now that venture capital's investment volume has increased in each of the last three years, the chances of creating another bubble are rising, too, particularly since the industry has raised a total of $56 billion in the past two years.
So far, though, venture capitalists have been proceeding at a moderate pace of growth that suggests they may have learned from their past mistakes.
"It's not crazy out there right now. We are just in this kind of steady state," said Rob Shaplinsky, founding partner of Bridgescale, a venture capital firm in Menlo Park.
Over the past three years, the industry has invested an average of $5.9 billion per quarter, compared with a $16.7 billion quarterly average from 1999 through 2001.
The final three months of 2006 provided another example of venture capitalists' restraint, with fourth-quarter investments totaling $5.7 billion, unchanged from the previous year.
"We are pleased that, to date, quarterly investment levels have remained prudent and no major over-funding has occurred," said Mark Heeson, president of the National Venture Capital Association.
Venture capitalists have had a strong incentive to be more careful with their money this time around because it's taking longer for them to cash out of their investments.
During the financial frenzy of the dot-com boom, many startups generated huge paydays for venture capitalists by completing initial public offerings of stock less than three years from their inception. Today, startups are usually five to seven years old before they are making enough money to attract a buyout offer from a larger company or assemble an IPO that would pique the interest of more discriminating investors.
Despite the greater caution, some red flags are being raised in trendy areas like "Web 2.0" — a catchall phrase for the Internet craze devoted to social networking and the sharing of content largely contributed by members of a Web site's audience.
"'Web 2.0' has become a buzzword and it always scares me when an entrepreneur comes in with a pitch and starts spouting buzzwords," said Tim Draper, founder and managing director of Draper Fisher Jurvetson, a venture capital firm in Menlo Park.
With dozens of sites vying to strike it rich like YouTube Inc. did in its recent $1.76 billion sale to Google Inc., online video looks particularly ripe for a shakeout.
"You can still hit it big there, but the percentage (of startups) that will is going to be very, very small," predicted Mike Carusi, general partner with Advanced Technology Ventures in Palo Alto.
Even if the Web 2.0 craze crashes, the financial damage should be minimal because none of the big names in the sector have gone public yet, said Josh Grove, a senior research analyst for Dow Jones VentureOne, a venture capital research firm.