Venture capitalists catch IT euphoria, look to computer sector
Like many in the investment world, venture capital funds are becoming increasingly charmed by the information technology (IT) sector and are slowly turning more of their attention, and money, to IT companies.
While venture capital funds are stepping up investments into this fast-growing sector, they are by no means losing interest in other sectors and are continuing to pour money into retail, media and telecommunications ventures, venture capital executives said.
"In Poland every sector is good," said Robert Kitlowski, a financial analyst with Caresbac Polska.
Some interviewed for this article said venture capital funds are not simply following the equity trend. IT stocks listed on the Warsaw Stock Exchange (WSE) have been garnering enormous interest since last fall, with many prices doubling in one quarter alone.
"Everybody invests (in IT companies) not because of the charm which the company founders possess or the name itself, but for money," Kitlowski said. He added that funds invested in that sector are likely to see an internal rate of return a rate that takes into consideration the present value of money of 50 to a "few hundred" percent.
Heather Potters, managing partner of Baring Communications Equity (Emerging Europe), said the level of IT investment has accelerated in the last two to three years. She said growing consumer demand, combined with a lack of developed infrastructure, has investors eager to get exposure to the business.
The funds aren't focusing on the internet craze. Many are looking at all sorts of computer-related industries like producers and distributors of hardware and software as well as systems integrators. Neil Milne, managing director of Copernicus Capital Management, said the IT industry has positive prospects as the demand for computers continues to rise. Personal computers are available in roughly 12% of Polish households, according to the polling agency Osrodek Badania Opinii Publicznej (OBOP). Milne pointed out that the modernization of certain sectors, such as banking and manufacturing, has also spurred demand for computers.
Another internet business advantage stems from the present lack of market leaders in many sectors. Venture capitalists said the gap could be filled by online services, which can establish strong virtual brands.
Milne said the question companies are facing is whether they should invest in having an internet presence now without necessarily knowing if it will pay off.
"Do you wait until the market is bigger and risk losing opportunity to get in before your competitors or do you invest and (potentially) lose money for one or two years," he said.
Another hurdle with the internet is the fact that credit card usage the vehicle by which all internet purchases are made is relatively low. At the same time, the population as a whole has very low disposable income, venture capitalists said.
Out of the total $500 million invested, Enterprise Investors assigned $22 million to IT companies.
A new Enterprise Investors fund, expected to be closed this year, plans to have as much as 20% of its active assets sunk into the IT sector.
But switching the focus to IT, however attractive, might take a while. Although it is relatively easier for fund managers to raise capital for funds with computer-related investments, "it is difficult for (existing) venture capital companies to take advantage of that," Milne said.
He said funds are often not free to invest at will. In many cases, a fund raises money for specific investments, he said. The fund has to stick to its policy, and the average lifetime of a fund is five to 10 years. Also, the process of finding and completing investments takes time, typically three to six months, Milne said.
In addition to IT, funds have been actively investing in telecommunications, media and entertainment and services. Retail is also a hot area, Caresbac's Kitlowski said. Soon "proper" retail networks will come into existence in Poland. The amount of money retail companies may soon be looking for, usually around $2 million to $5 million, will be provided by venture capital, said Jacek Siwicki, executive vice president of Enterprise Investors.
The range of potential investments is wide. Enterprise Investors, the largest fund in terms of capital managed in Poland at the end of 1999 (See the List, page 15-16), is also looking at the health care industry, which Siwicki said is particularly intriguing after the reform.
Enterprise Investors is involved in all sorts of industries, he said, with the capability of investing relatively small amounts in start-ups as well as transactions on the order of $15 million.
Siwicki said the growing diversification and depth of the economy will likely mean that many of the existing 25 venture capital funds will soon be joined by funds that concentrate on a certain industry or on companies in a specific stage of development.
Baring Communications Equity is an example of a focused fund. Barings invests primarily in media and communications. In January, Barings took a piece of Zephyr Telecommunications, which has been instrumental in mobile telephone company Polska Telefonia Cyfrowa's (Era GSM) move to provide international long-distance service over the internet.
By the end of this year, Barings expects 15-20% of its Central and Eastern Europe portfolio to consist of computer-related companies, Potters said.
Outside of companies active in retail, IT, telecoms and media, venture capital fund managers are also looking for conglomerates or larger manufacturers with substantial growth possibilities. "The fund wants to invest in companies that have the potential to become Central European leaders, a kind of ABB or Telefonica of Central and Eastern Europe," said Pierre F. Mellinger, CEO of AIG-CET Capital Management (Poland).
Finding future market leaders means a particular type of investment; the amount required is larger and firms are usually much bigger, often with already established brand names. Enterprise Investors has a few such investments in its portfolio. These include rubber producer Stomil Sanok and aluminum producer Kety, which plan to expand their activities in Eastern and Western Europe.
