Why I remain optimistic about long-term prospects

Back in October 1999, in the heyday of the internet bubble, the Carlyle Group, a US buyout fund, announced plans to raise more than E300m for a fund targeted at European internet and technology companies, called Carlyle Internet Partners Europe.

Jean-Bernard Tellio was recruited to head the fund, after cutting his teeth pouring more than $400m into internet investments for Groupe Arnault of France. Tim Jackson, founder of QXL, the online auction company, and at the time a Financial Times columnist, joined as a managing director.

Excitement about the internet and its potential returns helped the Carlyle Group swell the coffers of the European fund to about $730m. Nevertheless, the fund has since sought to distance itself from its internet roots.

Last December, Mr Tellio left the fund, leaving it in the hands of Jacques Garaíalde, managing director who joined in May 2000. Whereas Mr Tellio had a reputation for effusive charm, Mr Garaíalde comes over as more restrained. He is assiduous in going back to ensuring previous questions are fully addressed, even if the conversation has moved on.

The shift in focus is also evident in Mr Garaíalde's answer to a question about the fund's exposure to the internet. "How would you define an internet investment?"

Instead, the focus of the fund - now called Carlyle Europe Venture Partners - is on a sector-driven approach to purer technology investments. It has recruited specialists from investment banking and the industry, to build credibility in areas such as infrastructure software and networking.

In spite of its early focus on the internet - and having made some high profile duff choices - Mr Garaíalde says the fund was cautious in how fast it spent its cash.

"We have invested only 23 per cent so far. We have been extremely cautious. The average pre-money valuation for us was E20m-E30m. We made just one or two investments at valuations over E100m as they were too high," he says.

"We were under a lot of pressure last year to invest more quickly. Today, people are quite thankful that we didn't."

To date, Carlyle has invested in 17 companies. None have been closed. Two have merged, according to Mr Garaíalde. Even so, there is a note of realism about the remaining portfolio. Some of its biggest exposure is to business-to-business marketplaces, which represents about 30 per cent of the portfolio.

About 25 per cent of the funds investments to date have been in communications technology. "About a third of the companies we are optimistic about - and they are developing according to our expectations, with some delay in sales ramp-ups, but nothing that is concerning," he says.

"There are a third which we are quite pessimistic about. Those are ones we are trying to merge because we don't believe they have a future as an independent company and it does not bring any more value to put more money in."

He said the companies Carlyle was pessimistic about came from "across the board" of its technology investments. The remaining third of its portfolio, "are between the two".

In these more challenging times, which require venture capitalists to play a more hands-on role in their investments, Mr Garaíalde says his consulting experience is useful. He spent nearly 20 years in consulting at the Boston Consulting Group, and quit his job as a managing partner of the French and Belgian operations to join Carlyle. "I was very happy. Maybe I was having a mid-life crisis," he jokes.

Nevertheless, he enjoys the job of applying his consulting skills to creating and growing technology companies. For example, he says it is important to learn how to sell to large corporates. Start-ups also need to "reprioritise R&D compared with sales and marketing. There is no need to improve a product if they are not selling anything - something that has been forgotten in the last few years."

Another change he sees is the number of business plans Carlyle sees each day. "A year ago we saw 30-50 plans a day. Now it is about five a day, and the quality of the projects is much higher."

Valuations have also shrunk. "In software we can now invest at pre-money valuations which are about two times revenues for this year. A year ago, it was at least twenty times. In telecom services, we can now invest at a fraction of the cash that has already been invested, against five to 50 times that."

Along with many other venture capitalists, he welcomes the return to a more sober investing environment. But even if the short-term prospects are gloomy, he is upbeat about the long-term potential. "Even though we are pessimistic, we don't see any signal that IT or telecoms consumption should be diminishing in absolute value over the next two to three years."