High-tech entrepreneurs are where the action is in this economy, and everyone wants a piece of it. That's the message behind the staggering increase in U.S. venture-capital investment in the third quarter. According to PricewaterhouseCoopers' third-quarter MoneyTree survey, venture capitalists crammed $9.04 billion into 993 companies, up 18.3% from last quarter's record of $7.6 billion for 991 companies. Average funding per company soared 70%, to $9.1 million. High-tech companies garnered nearly 90% and Internet companies nearly 60% of total investment last quarter.

So far this year, young companies have gotten nearly $21 billion from VCs, nearly half again as much as for all of last year. At this rate, the annual total is likely to be double the amount for 1998, says Kirk Walden, national director of the accounting giant's quarterly MoneyTree Survey, adding that the firm's count only includes cash-for-equity deals that are entirely unsecured. Total investment would be even larger if PWC counted package deals that include, for example, debt with warrants attached, he notes.

So whom can entrepreneurs thank for this monetary vote of confidence? Themselves, the economy, and the bottomless public appetite for tech stocks, which has driven the Nasdaq composite index to near record levels. Among companies that have gone public since the beginning of the third quarter, share price increases of 300% and higher aren't uncommon. Ten companies went public last week alone, among them the venture-funded education company, Edison Schools Inc., and Webvan, an online grocery and drugstore, that won the record VC stash for the quarter, $275 million.

These returns have lured new pools of capital and made traditional ones such as pension funds more eager than ever to hand over money to VCs, despite the risk associated with such untested companies, says Jerry Colonna, managing partner at Flatiron Partners in New York. "Good VC returns are 35% IRR. We've been blowing past that. Ours are 1,500%. We put $100 million into 12 companies that now are worth $2 billion market-to-market. Compare that to T-bills."

There is some poetic justice in all this. Now that entrepreneurs are making everybody else so rich, they have more of an edge in the traditionally painful process of winning VC money, acknowledges Steven Lazarus, managing director of ARCH Venture Partners in Chicago: "The young people do have a somewhat excessive sense of valuations, and they're getting it." If entrepreneurs have a good idea and the possibility of first-mover advantage, they often have several suitors, he says. "It's much more of an auction environment." Lazarus thinks VC investment is actually significantly larger than PWC says. He's chairman of the National Venture Capital Assn., a trade group, which collects its own numbers. They came out much larger, though Lazarus says he doesn't know why there's such a discrepancy. NVCA counts year-to-date VC investment at $28.6 billion.

It may seem ungracious to look a gift horse this size in the mouth. There are downsides to this huge cash influx, though. When VCs throw a huge sum of money into a company, the cash becomes a tool for nuking the competition out of the water, points out Michael E. Frank, a general Partner at Advanced Technology Ventures. The early-stage investor based in Waltham, Mass., will have $750 million under management by yearend. "The more one company raises, it raises the bar for everyone else. The cost of playing poker goes up." The money is paramount with e-commerce companies because so many are identical, he explains: "The only thing you've got is money and branding."

Frank adds he's seeing a weaker pool of management talent as people who would never have gotten funding before apply and even clear the bar. "We're getting teams that are 23 years old, and we're looking for adult supervision for these people."

That may not be so surprising since nearly 40% of the money this year has gone to startup and early stage companies, according to PWC. That doesn't mean that entrepreneurs can expect to be in nirvana forever. Frank and others foresee a big shakeout among weaker Internet companies that have plowed much of their funding into last-ditch advertising campaigns in a do-or-die effort to capture the Christmas shopping season. Some suspect, in fact, that many entrepreneurs really just hope to survive long enough to be bought out.

With so many business plans pouring in, some VCs say they're losing patience with entrepreneurs who expect them to pour money into acquiring customers with no plan for making money from them. "I pay a lot of attention to customer acquisition costs," says Sean Foote, a director of the Redwood, (Calif.) early stage tech fund Labrador Ventures, which recently got a business plan from two Wal-Mart stock boys in the Midwest. "How much are you going to spend to acquire them? How much are they going to bring in?" Adds Larry Kubal, another Labrador director: "We try to maintain investing in businesses that are based on sound economics." In other words, for all the razzle-dazzle about the Net changing business, you still have to find a way to make money from it.

By Julia Lichtblau in New York
julia_lichtblau@businessweek.com