Fabless Investing Tops $400M

The last quarter was once again a fabulous time to be a fabless company in need of capital.

After all, venture capital firms invested $395 million in 34 fabless semiconductor startups during the third quarter, according to research by the Fabless Semiconductor Association and Private Equity Week, bringing year to date totals for the first three quarters to 93 investments and over $1.2 billion in fabless startups.

More than 100 different venture firms participated in various stages of investment during the third quarter, which was marked by investments in a broad variety of communications sector companies.

Within the communications sector, wireless, security and communications infrastructure sub-sector companies received the most funding. There was a slowdown in previously active sub-sectors including network processors and wireless, indicating that savvy investors are now turning away from these areas.

At the same, time opportunities in security (driven by the continual onslaught of network viruses), network infrastructure (bandwidth, switching), and cellular communications (signal quality, multiple RF abilities, and power management) received increased investment by venture capital firms.

The top investing firms in this space for the quarter were 3i Group and TPG Ventures with three investments apiece, followed by Alliance Technology Ventures, Atlas Venture, Benchmark Capital, China Development Industrial Bank, Fremont Ventures, Genesis Campus, Granite Global Ventures, Investcorp, and TL Ventures with two investments apiece. Atlas and JPMP continue to lead in total sector investments for the year to date with seven and six investments, respectively.

The large number of VC firms investing during the third quarter demonstrates a surge in interest in fabless investments by the VC industry overall, a trend that PE Week’s related publication Venture Capital Journal will explore in its January 2004 special issue.

At 3i, which pushed its way past Atlas and JPMP to lead in fabless semiconductor investments for the quarter, Marko Maschek, a partner in the firm’s Waltham, Mass.-based office, describes 3i’s interests in semiconductor firms as one of the four key sectors of investment for his firm. He says that 3i has over 130 investments in different semiconductor companies around the world, of which about one-third are in the fabless area.

When asked about his firm’s fast pace of investment in fabless firms, Mike Guthrie, a general partner at TPG Ventures in Palo Alto, Calif., who oversees much of his firm’s work in semiconductors, says, “We didn’t start the quarter saying we’re going to do this much semiconductor or fabless investments. It just happened.”

“There was probably $400 million [of VC invested] in enterprise software and $900 million for the quarter in biotech. [Apart from] semiconductors what else is there?. Service, and there is little investment there in the aftermath of the Internet downturn.”

The growth of investment in semiconductors, especially fabless companies, says Guthrie, is a return to the basic values of venture capital. That is, investing in firms that develop intellectual property (IP) because semiconductor firms are perceived as being IP developers.

While investment in fabless companies during 2003 continues to exceed the investments for the same quarters in 2002, the industry is still trailing the investment pace of 2001, which had 90 investments in the first six months alone. The current upswing of deals does, nevertheless, demonstrate a return of confidence among investors who view fabless startups as the most viable option for high returns on investments in semiconductors.

TPG’s Guthrie explains the growing activity by VC’s in fabless startups, saying “Investing in fabless companies is not a new trend, its just that [VCs] have to be capital efficient these days.

“Exits aren’t what they used to be. You can’t pump $100 million dollars into a [semiconductor] company with its own fab [and expect to make a profit].”

The goal today, he adds, is to move a semiconductor startup to self-sustainability as quickly as possible – with $30 million of investment as the VC industry’s current working target for reaching that point – to make the economics of venture capital work.

The current generation of fabless startups, which outsource their production to off-shore fabs, fits that model of fast ramp-up to self sustainability, so the semiconductor sector has become important to VCs once again.