Old Is New Again

Venture capitalists broaden horizons

It took Rusty Schmit, founder and chief executive of Albuquerque's Advent Solar, nearly a year to scrape together the $8 million in venture capital he needed to start developing a new generation of solar cells. His silicon-wafer technology allows solar panel manufacturers to cut costs and make lighter-weight, more aesthetically pleasing products. But back in 2004, when Schmit was first raising money, he says venture capitalists weren't much interested in renewable energy.

Advent Solar is getting a much warmer reception as it prepares to raise $25 million to build its first production plant. Schmit hasn't even started pitching, yet venture investors are already calling. "These guys seem to be looking really hard for new places to deposit their cash," says a bemused but grateful Schmit. "Alternative energy is going to be one of the beneficiaries." Says Tucker Twitmyer, a partner at EnerTech Capital in Wayne, Pa., and one of Advent Solar's early backers: "Everyone is now jumping into this space where once we were one of the few players."

Reluctant to lean too heavily on technology and telecom after the bust, venture capitalists are frantically "whiteboarding" -- industry-speak for the process of searching out new fields for investment -- as they seek to invest their new funds, the first raised in four or five years. Venture capitalists still have their need for outsize returns. But they are increasingly aware that those winnings could come from a manufacturer, a security company, or an established consumer goods company looking to expand just as readily as they could come from a hot new software company. "All the great, innovative investments are always in areas that the herd is avoiding; they are always contrarian," says Patrick Ennis, a Seattle-based managing director at ARCH Venture Partners. "All of a sudden the venture world is setting out on a voyage of discovery, and they are finding a whole array of promising companies."


While software and life sciences outfits still top the list of companies getting first-round funding from venture capitalists, a batch of consumer, industrial, and energy companies have displaced startups in fields such as telecommunications and networking, according to the National Venture Capital Assn. in Arlington, Va. In its second-quarter 2005 report, the NVCA found 63 first-time deals in software and 41 in life sciences. But consumer products companies were next in line, with 15 investments, including nutrition, health, and beauty-products startups. They were followed by industrial and energy companies, with 14 deals. Thirteen telecommunications companies got funded, but only two networking startups got first-time funding. The NVCA says that as of June 30, first-time financings were at their highest level in two years.

ARCH is among those pursuing manufacturing-related startups. "Manufacturing employment is suffering, but productivity is going up, up, up," says Ennis. One result is that manufacturers are eager to look at new innovations that will further boost productivity.

One of ARCH'S recent investments is a $7.5 million stake in 20-employee Artificial Muscle, a $1 million Menlo Park (Calif.) company recently spun out of SRI International, formerly known as Stanford Research Institute. Artificial Muscle has developed a new polymer that expands and contracts in response to an electric or magnetic charge. The polymer provides a cheap, lightweight, and energy-efficient alternative to noisy metal motors. Potential applications for its use include everything from industrial robots to locks on car doors. Would-be customers are willing to pay Artificial Muscle for preliminary research, design, and feasibility work, sparing the company the need to spend its own money to invest heavily in research and development. "That's not a sales and marketing model that many of these venture guys have seen before. But boy, do they like it," says Charlie Duncheon, the company's vice-president for sales.

The formerly blue-collar world of physical security -- protecting airports, shipping, and other facilities -- is another field ripe for venture investment, says Roger Novak, a partner at Novak Biddle Venture Partners in Bethesda, Md. "We have looked for -- and found -- companies that can apply technology to video surveillance, so that instead of having a guard stare at a video monitor for hours, the monitor can be programmed to recognize patterns that might cause security concerns." Another area attracting interest is the detection of ceramic knives or plastic explosives.


Venture investors also are looking for ways to capture their share of consumer spending. Mort Rosenthal, a veteran entrepreneur, readily raised more than $5 million from Highland Capital Partners for a plan to launch a chain of one-stop shops, called IMO, offering all available mobile phones and plans in a single location.

Indeed, even the oldest businesses are looking newly attractive. "Sometimes the 'new new thing' turns out to be 'the new old thing,"' says Bob Higgins, managing general partner at Highland Capital Partners. "People are looking at all kinds of consumer plays -- just look at how much consumers will pay for bottled water."

WineryExchange, a six-year-old private-label winery and spirits manufacturer with 65 employees and $40 million in sales, is one beneficiary of this line of thinking. CEO Peter Byck raised $2.5 million earlier this year from an investor group including noted technology players such as Venrock Associates. He plans to use this round of financing to help cover the cost of branching out into beer. Companies like his may be a far cry from the go-go telecom pioneers, but for many venture capitalists, that's a reason to cheer -- and for Byck, at least, to hoist a cold one.

By Suzanne McGee

Before it's here, it's on the Bloomberg Terminal.