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3i stages relief rally

Shares in venture capital giant 3i are up sharply today after its full-year results proved better than expected, but given the tough economic outlook, the shares are still not attractive.

The £5 billion Footsie group , the biggest listed venture capital company in Europe, delivered a fall in net asset value (NAV) of 23.7% for the year to March, compared with a 29.8% drop in the FTSE All Share, including dividends.

Merrill Lynch analyst Philip Middleton, who rates the shares a buy, said the result was above his estimate of between 450p and 460p.

Also encouraging for the market is the lower-than-expected £379 million of provisions for companies that may fail.

These provisions, which are largely due to the falling value of early-stage technology companies, are up on last year, but again they are better than expectations of £400 million or more.

In March 3i's shares tumbled after the group surprised analysts with news provisions were likely to be higher in the second half.

The market has responded to today's news by marking the shares 41p up at 523.75p. In 2000, near the height of the tech boom, the shares reached £18.

3i also announced today it had invested £931 million over the year, while realisation profits from the sale of assets were £184 million. However, investors should note than half of this comes from the sale of budget airline Go to easyJet.

A final dividend of 8.6p per share will be paid, representing a total dividend increase of 3.8% to 13.5p over the year.

3i's falling net asset value has largely arisen from its early-stage technology investments, which have more than halved in value over the year.

Chief executive Brian Larcombe commented: 'The market has undoubtedly been difficult and, particularly for early-stage technology companies, the operating environment has been the toughest for a very long time.'

However, one positive development here for shareholders has been 3i's new method of valuing what has previously been a distinctly cloudy unquoted tech portfolio.

The group has decided to value these assets by reference to further rounds of financing, whether or not the companies have actually raised money.

Merrill's Middleton praised the 'added clarity' and added: 'This represents a significant break with past practice and appears to account for the increase in 'downrounds', which so unsettled the market in the pre-close announcement.'

Meanwhile, the size of the pension fund deficit has ballooned to £90 million from £14 million, and the group has had to pay in £25 million over the past year.

On overall prospects for the business, Larcombe commented: 'Although we are cautious about the short-term environment, we are confident about the prospects for the business.'

Citywire Verdict:

3i's results are above market expectations, and provide some relief for shareholders who have seen the value of the shares slump from their peak in 2000.

Also encouraging for investors looking to invest into the venture capital sector is the group's new method of valuing the early-stage tech portfolio. The lack of clarity in this area has been a problem in the past, and this new measure should allow the market to estimate more accurately the stock's value.

However, numerous problems remain. The IPO window is still firmly shut, and economic conditions are tough and could get worse. Some of the problems in the early-stage tech businesses were caused by a lack of demand from technology corporates, and in March finance director Michael Queen told Citywire this was unlikely to pick up until 2004.

3i has responded to its problems by restructuring, reducing staff numbers and closing offices in Dublin, Tokyo, Hamburg and Berlin, but the pension fund deficit remains a worry.

While 3i's results are encouraging, we continue to favour Schroder Ventures as a way of playing any upturn in the venture capital market.

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