Ready, Set, Flow Optimistic entrepreneurs are testing the VC waters now that the market's future looks brighter.

Oliver Curme sums up the current venture capital climate-and theoutlook for 2004-in five long-awaited words: "Happy days arehere again," says the general partner of Battery Ventures, aVC firm in Wellesley, Massachusetts.

You wouldn't necessarily know it was time to celebrate justby looking at the numbers. VC investments in 2003, at $18 billion,declined by 15 percent over the previous year, according to themost recent "MoneyTree Survey" fromPricewaterhouseCoopers (PwC), Thomson Venture Economics and theNational Venture Capital Association (NVCA). First-time funding wasalso down in 2003: 624 companies got $3.4 billion, compared with2002's 792 companies that got $4.3 billion.

But the survey results also show evidence of a turning tide.Investment levels in the fourth quarter of 2003, at $4.9 billion,were at their highest since the second quarter of 2002. Moreover,external economic and market conditions have changed the VC moodfrom despondent to enthusiastic again. Healthier equity marketshave opened the IPO window; according to Greenwich,Connecticut-based Renaissance Capital, more IPOs were completed bythe second week of February 2004 than in the entire first half of2002. And there has also been a thawing in M&A activity, thanksin part to larger companies having more currency with which to dodeals.

Given that better exit opportunities inspire VCs to invest moremoney, it's not surprising that most experts see good newsahead. As further proof, an uptick in VC fund-raising in the fourthquarter of 2003 suggests funds are looking toward futureinvestments. "There's just a whole lot of optimism outthere," says Curme, whose firm is talking to investmentbankers about two companies it plans to take public this quarter ornext. "The valuations are ranging from half a billion to $2billion," he says. "When you've been wandering thedesert without a drink of water for a couple of years, and youstart experiencing things like that, it restores thesoul."

Funds continue to sink money into existing portfolio companiesthat have moved into later stages, and investment in early-stagecompanies consequently declined from third to fourth quarter 2003.But John Taylor, NVCA's vice president of research, says whilethe numbers may not have shown it this past quarter, "we knowfrom what practitioners have been telling us that there is renewedinterest [in] seed and early-stage companies."

Software attracted the most first-time capital, taking 20percent of the total, followed by biotechnology and medicaldevices. Jesse Reyes, vice president of Thomson Venture Economics,notes that VCs are still taking a rational, risk-averse approach toinvesting-going after more-established, cash-generating, provenbusinesses that are either likely to go public or will be ripe fora buyout in the next year. Those later-stage companies "aregetting better valuations primarily because they're more matureand their valuations are more certain, so the cash-flow stream ismore certain," says Reyes.

"Better" is still a relative term, adds TracyLefteroff, global managing partner of PwC's venture capital andprivate equity practice, who notes that terms are still tough allover. "VCs are still hedging their bets with tough terms toget the downside protection they need," he explains."It's improving, but it's probably not where it shouldbe."

But even as portfolio companies exit and VCs invest in newventures again, all agree there definitely will not be a return tothe unsustainable levels of the bubble years. Rather, investinglevels per quarter should hover around the $4 billion to $5 billionlevel. Says Tom Siegel, a managing director and co-founder of SanDiego-based Shepherd Ventures: "The current pace of investingis a prudent, rational level that could and should continue atsimilar levels in the future."

C.J. Princeis executive editor of CEO Magazine.