Backing a weakened market

Conversations with practitioners in the Nordic venture market suggest an air of optimism. But it is important to understand the nature of this optimism, which is certainly not based on a view that the market is in good shape and always will be. Instead it draws on the conviction that taking positive action is the only meaningful thing to do in the aftermath of the turmoil of late, other than throwing in the towel and admitting defeat.

Unsurprisingly, Scandinavia was not spared the fallout from the technology crash and the sorry tale of company failure, plunging returns and subsequent investor disillusion that was played out in many parts of the world. But what is notable now is a determination to pick up the pieces and try and ensure that there is a future for young businesses. For this to happen, the Nordic early stage investment industry needs a good measure of institutional support.

As the market begins to recover, you may see people coming together and new teams emerging

“We are playing an active role in consolidating and developing the market,” says Till Gutzen, a fund manager for the technology ventures unit of the Sixth Swedish National Pension Fund (AP6). “A lot of new venture investors have sprung up in recent years based on entrepreneurial spirit and we have to take that spirit and institutionalise it. I think we will see a trend towards pan–Nordic investment because the individual countries in the region are too small.”

In 2002, AP6 teamed with Danske Bank to sponsor the formation of Scandinavian Life Science Venture, a vehicle set up to invest in pharmaceutical development, biotechnology and medical technology. AP6 was also a founding partner, along with Skandia Liv, of Creandum, a Stockholm-based venture capital firm that achieved a €33m first fund closing in March 2003 for investment in the datacom and telecom industries. Creandum closed its first deal in September when it participated in a €195,000 financing for Gothenburg-based nanobiotechnology company Nanoxis.

The firm, which says it aims to become the Nordic region's leading early-stage technology VC, is operating in conditions that are still testing. Says Sören Sjölander, chairman of the Creandum advisory board: “There is almost no early-stage venture capital available in Sweden, but there is still a big need from exciting companies that have their roots in the universities and science parks for competent and early-stage investors with a longterm commitment.”

The lack of capital referred to by Sjölander is underlined by figures from the Swedish Venture Capital Association showing that a total of six Swedish seed capital providers raised a modest €78.4m from January 2002 to September 2003. The amounts ranged from Creandum's €33m down to the €3.3m raised by Lumitec, which was founded in November 2002 by Industrifonden, The University of Lund, Malmöhus Invest and Sparbanken Finn. Three somewhat larger venture firms not defined as seed-stage by the SVCA – HealthCap, IT Provider and Northzone – raised a combined €513m during the same period.

The only thing that will attract more investors is superior players overperforming, which we haven't seen yet

State-owned Vaekstfonden (The Danish Growth Fund) is attempting to reinvigorate the market in Denmark, both through direct investments and a fund of funds. It has backed a range of Danish firms including biotech company NatImmune, software developer 3DFacto and building ventilation supplier Convec. “The Danish market has held up well, and we are the main reason,” said Christian Motzfeldt, chief executive of Vaekstfonden. “As a government vehicle, it's our objective to assist a weak market, and we put a concerted effort into keeping companies alive that are worth investing in.”

According to Motzfeldt, Vaekstfonden currently has a market share of direct investments in Denmark of around 20 per cent. This could be set to increase as the organisation is currently raising a €54m fund, with half provided by the Government and half by banks and other institutional investors. The fund, which is scheduled to close by the end of the year, will offer seed and start-up capital for IT and biotech firms. The only other Danish venture operation to have raised external money recently was Copenhagen-based Internet Ventures Scandinavia, though the undisclosed amount was thought to have been fairly small.

Motzfeldt is convinced that his organisation's fund is being raised at the right time. “I expect the venture market to pick up in mid-2004. There are signs of growing interest from foreign pharmaceutical companies and large telecommunications companies that need to enlarge their pipelines of new products,” he says. The fund will invest in start-up and seed situations, half in biotechnology and half in other technologies.

Stable life science sector
The 50 per cent allocation to biotechnology is not surprising bearing in mind the attention the sector is attracting. The Medicon Valley life science cluster was launched in 1997 in the Oresund region, which links Malmö in southern Sweden with the Danish capital Copenhagen following the opening of the Oresund Bridge in 2000. Out of 100 biomedical companies in the area, 55 have been launched since 1998. The area boasts a skilled workforce and respected universities, and is home to pharmaceutical multinationals such as AstraZeneca and Novo Nordisk.

Niels Mengel oversees the Copenhagen-based operations of venture capital firm Oresund Healthcare Capital. He says that even biotech is struggling to attract investment at the moment because of the lack of visible exits, which is why his firm has chosen to focus on medical devices. “There are a lot of good opportunities in that area because the risk seems to be lower and the investment horizon shorter,” he said. The firm's portfolio companies include Aditus Medical, a maker of products for non-viral drug and gene delivery. He says that although there are a lot of venture capital firms still active in the Oresund region, what is lacking is the intellectual capital necessary to build businesses effectively.

Institutional investors are currently attracted to the life science sector, according to Anki Forsberg, a partner at Odlander, Fredrikson & Co, which acts as adviser to the HealthCap funds. “The large pharmaceutical investors see there is a product pipeline issue and that biotech is filling the gap,” she says. “Therefore, people have digested the fact that biotech is here to stay because it will continue to feed the large pharmas, which are quite simply desperate for new products.” HealthCap closed the Nordic region's largest biotech fund in September 2002 at €276m. The fund was backed by a long list of institutions including the 4th and 6th Swedish National Pension Funds, Danish pension manager ATP Private Equity, HarbourVest Partners and Swiss Re.

Partners not rivals
Enthusiasm for the biotech sector is partly the result of encouraging signs in the US, where stocks have risen sharply and more than a dozen biotech firms are reported to be lining up flotations following the example set by Acusphere in October, which was the first IPO in the sector since April 2002. But Motzfeldt cautions: “The biotech market is still very young, most companies are still at the seed stage and we don't know whether they will fail or not.”

Forsberg says she does not take much notice of the latest hype surrounding the public markets, preferring instead to concentrate on “continually building value, from one clinical trial to another and through the achievement of relevant milestones.” She also keeps up a constant dialogue with would-be backers of the firm's portfolio companies and, because of the lack of capital in the region, this means talking to foreign funds. “We are not building formal relationships, but we ask overseas VCs to come here as it is a challenge to get capital. We see them as colleagues not competitors and encourage them to go through our portfolio with us and discuss whether they would be suitable investors as part of a syndicate,” she says. UK firms to have invested alongside HealthCap when completing their first Nordic deals include 3i, Abingworth Management and Schroder Ventures.

Companies outside the biotechnology sector may find it harder to attract investment, though deals are still happening. In October, InnovationsKapital and Northzone Ventures led a $3.5m investment in Safelogic, a Swedish electronic design automation (EDA) company and provider of functional verification products for integrated circuit (IC designs). And earlier in the year the Finnish mobile sector showed its enduring appeal when data access provider Smartner Information Systems raised €5m in a round led by UK firm Amadeus Capital Partners and including Nordic firms Eqvitec Partners, IT Provider and Sitra.

Time to consolidate?
As elsewhere in Europe, the focus in the Nordic region is still primarily on follow-on investments for existing portfolio companies rather than sourcing new deal flow. Because of this the need to pool limited resources has led to inevitable speculation about the prospect of consolidation. The first sign of this, albeit in very different market conditions, was 3i and Ratos' acquisition of Atle for €910m in February 2001 – a deal like that is unlikely to be repeated: Atle had 100 investments and 40 staff at the time of the deal and was consequently of a much greater scale than any firms currently considering a similar move.

“As the market begins to recover and fragment, you may see people coming together and new teams emerging,” says Andrew Barrett, a director at Apax Partners who is based in Stockholm. “But in the UK in the early 1990s everyone was talking about consolidation and it didn't happen.” Of the Danish market, Motzfeldt said: “We have seen the disappearance of only a couple of independent venture capital firms and a number of corporate venturing units. But we do see a trend toward consolidation because of the need to preserve more capital for follow-on funding.”

This consolidation process is likely to be assisted by institutions if they feel it is necessary to safeguard the future. “The only thing that will attract more investors is superior players over-performing, which we haven't seen yet. What we're trying to do is create favourable conditions to assist in that process. We will do that by working actively with GPs, and we won't hesitate to be demanding in our discussions with them,” says AP6's Gutzen.

Such fighting talk suggests that the Nordic venture market may not be forced to remain in the doldrums for too long.