A feast is made for laughter, and wine maketh merry. But money answereth all things. Eoclesiastes 1019
They are the money behind the scenes, the people who gamble on people with bright ideas. They bankroll the businesses the banks won't touch, making millions in the process, sometimes losing as much. Every inventor, every cash-hungry small firm knows they exist. The trick often is getting to them.
They are called venture capitalists.
Though the companies they have financed are well known, their names and faces are not.In the past, they have launched from scratch such major corporations as IBM, Xerox, McDonnell Aircraft, Polaroid and Federal Express. Today, they have their money riding on what are likely to be tomorrow's leaders in such pioneering fields as microprocessors, medical devices and environmental sensors.
They play a heady game - and a hazardous one. On average, they will fund only a few of the hundreds of ideas, they see, and only some of those ever make it. Still, there is no substitute for them. They are America's angels of fortune who bestow on infant firms the blessings of capital and experienced counsel.
Once these people who act like gods were truly gods of wealth. Among them were the Rockefellers, the Whitneys, the Phipps and the Mellons - rich families who felt a certain social responsibility along with their wealth and invested in new ventures not for profit (heaven knew, they didn't need more) but in fulfillment of some altruistic end.
Today, what had been a club of families has turned into an industry of professionals who manage formalized pools of capital. Some say this evolution has bred a greater concern for profits among venture capitalists, a greater nervousness over achieving short-term results. The new crowd, it is said, hasn't the patience of the old.
But it is difficult to generalize about today's group. They are a diverse bunch, a very assorted cast of characters - including wealthy individuals, professionally managed partnerships, a number of banks, a few corporations, some insurance companies and several brave pension funds - each of which has its own risk preferences and investment strategies.
By rough count, there are about 50 serious players - that is, groups that provide either start-up or early-stage financing for potentially-high-growth companies. Another 200 or so offer later-stage financing or growth capital for major expansions. In addition, there are about 275 SBICs (small business investment companies) established by a 1958 federal act. An SBIC raises private money, then goes to the government to borrow more at a discount. It tends, however, to be less bold in its investments than the traditional venture group.
In a start-up, a venture capitalist might invest as little as several thousand dollars or as much as several million. Chances are, too, one venturer won't go into a deal alone. Venture capitalists like company when they gamble.
In all, there is roughly $3 billion in formal venture capital available today. And for the first time in nearly 10 years, the pot is filling again.
About $300 million in fresh risk capital has come spilling out of the pockets of the rich and the treasuries of major banks, corporations and insurance companies in the past 18 months. Another $50 million is due by the end of the year, according to industry watchers.
Not since the late Sixties has the venture field seen so much activity. The spurt has been encouraged both by the likelihood of a decrease in the capital gains tax and by the revival of the stock markets. It has brought understandable jubilation both to funders and fundees. It also has prompted a look at where the venture capital business is today.
Peter Crisp has been in the business of betting on new ventures for 18 years. He learned what he knows about the field while sitting at the right hand of Laurance Rockefeller and his associates. When he was 26 and in Harvard Business School, Crisp wrote Rockefeller for a job. Fortunately, it was at a time Rockefeller had been thinking of hiring a young associate.
Ten years ago, the Rockefellers institutionalized their venture capital program by establishing a partnership called Venrock that was managed by certain Rockefeller associates, Crisp among them.
During a recent interview in his office on the 56th floor of 30 Rockefeller Plaza in New York - in the same suite in which senior members of the Rockefeller family have their offices - Crisp talked about the venture capital industry. He indicated that it is still a close-knit group. "This business tends to be a very small and very friendly, compatible community," he stated.
But the world has changed and has become more complicated, and so has venture capital, Crisp said. It takes more attention to scientific discoveries and more sifting and studying of information about consumer markets to know which young company is likely to make a fortune and which isn't. In the founding days of the aerospace and electronics industries, the guessing game was much simpler.
Crisp said he has tried to maintain the same spirit of investment that has always guided the placement of Rockefeller money, a spirit characterized both by a sense of social responsibility and financial prudency.
But some see the move from family benefactor to a professionally managed partnership handling family funds as a profound change. Behind all the analysis and number-crunching that's done today lies a heightened concern for the bottom line, say the critics.
"The old families felt their money was in trust for the United States," said A. David Silver, a New York broker who puts entrepreneurs in touch with venture capitalists. He is also the author of "31 Different Ways to Finance a New Business." "Their horizons were bound to be longer, they weren't likely to be as conscious of profits as are some groups today," Silver explained.
Venture capitalists are particularly sensitive these days to the mention of profits. The reason: Congress is debating whether to lower the capital gains tax. It is an emotional debate, with proponents arguing that a cut is needed to spur investment and opponents charging that a tax reduction would be a giveaway to the rich.
Venturers have lobbied in force for a tax cut because their profits come primarily from capital gains - that is, the sale of securities of firms they invest in at a higher price than initially paid. But they contend that the crucial issue is not how much they stand to make, but the basic health of the U.S. economy.
Pointing to several recent studies, investors stress that young companies generate jobs much faster than do mature companies. Also, young companies - particularly in high-technology fields - increase exports, which in turn help ease the U.S. trade deficit. In addition, young firms tend to yield tax revenues greater than what the government might lose by reducing the capital gains tax.
One theme repeated often during talks with industry members is how professional the practice has become. "It used to be a group of people just playing," said Stanley Pratt, publisher of the industry's monthly newsletter. "Now it's become a group of pros."
By pros, Pratt means people who don't rush into deals, the way many did particularly in the Sixties, which is a period lots of venturers would prefer to forget. Those were the days when every deal looked like a winner and money gushed forth to fund them all. The flood lasted until the early Seventies, when many venture outfits rushed finally over the brink. Lots of deals washed out in the tumble, shrinking the industry to a group of hearty survivors. By and large, venture capitalists have become very careful and more cautious.
This is most clearly apparent in the way they structure deals Once, a venture capitalist would have been satisfied just taking stock in a new company on the hunch that the company would succeed and the stock would appreciate in value. But no longer. The straight equity deal went out of fashion with long hair.
Today, the variations on a lending theme can be endless. They frequently involve such sophisticated provisions as preferred stock, convertible debentures, subordinated warrants and other special options - the final point of which is to guarantee the venturer an earlier return on his investment, or to protect him in the event a young company fails.
"We are all more interested in ordinary income than seven or eight years ago," said William Burgin of Bessemer Securities, which invests Phipps family money. "We invariably structure investments with a stream of interest or dividends or with sinking funds and other means to pay us back our principal."
Investors also have been asking for a larger piece of the pie.
"Before you'd put up $1 million and take a 10 percent interest. Now if you put up $1 million, you want 60 percent," said Alan Patricof of Patricof Associates in New York.
But the leverage venture capitalists have had in recent years isn't likely to last. When funds were scarce and entrepreneurs had nowhere else to turn, lenders could set their own terms. However, as the market perks up, borrows will have more room to bargain.
"The relative weight of money versus ideas will come more into balance," predicted Patricof. "The give and take will be more even. Entrepreneurs will get a more even shake."
No inventor, of course, likes giving up even a small part of his ideas. So, understandably, some entrepreneurs are about as fond of venture capitalists as they are of the IRS.In some circles, venture capitalists are unaffectionately referred to as "vulture capitalists."
In response, Ienders say they do more for their companies than put up the cash. For one, they give precious advice.
"We've seen a lot of start-ups, so we know what can go wrong," said Pat Welsh, president of Citicorp's Venture Capital Fund, one of the nation's largest venturing pools.
Welsh, like Crisp and like many others who are managing America's high-risk investment money today, has an MBA. He is a professional playing an increasingly sophisticated financial game. He has been with Citicorp since 1968, when the corporation first entered the new venture business with one purpose in mind: profit.
Welsh says his own motivations are broader than the bank's. He says he enjoys investing in new companies because it is a creative activity and fun besides. During a recent interview, Welsh explained that his primary objective in financing a new company is "to establish a supportive relationship" with that company. This frequently goes beyond writing checks.
"We can help in lots of ways," he said. "For instance, we have a lot of banking contacts and can help establish banking relationships for a new company. We'll help them locate top managers, or we'll help set up an internal accounting system, or write a contract."
One entrepreneur with strong feelings on just how much venture capitalists contribute to the rise of a new company is Thomas Stone, founder and president of Tesdata Systems Corp., a mushrooming electronics company in McLean. Stone's company makes little computers that monitor big ones.
"In most instances, venture capitalists can lend little more than financial advice," said Stone. "Their ability to help is really extremely limited."
Five years ago. Stone borrowed $800,000 to start Tesdata. He's been fortunate. Today, he runs a multi-million-dollar company that dominates that computer monitor industry. Last year, Tesdata earned nearly $2 million on sales of $14.5 million.
But Stone owns only about 15 percent of the company he conceived and nursed. He says he doesn't mind.
"I look at it somewhat philosophically," he explained. "Sure there were times when the relationship (with my investors) was strained. But on the whole, I can't complain." He paused. "I guess it depends on success. When times are bad, they will get down on you. When times are good, everyone is happy."
A resurgence in corporate interest has contributed to the recent venture capital boom. Such blue-chip companies as Exxon, Time, General Electric, Shell, Xerox, Textron and International Nickel have entered the field. Many of them are in the game less for money than to gain an edge on new technologies, to develop "window on" companies.
But more traditional venture capital players view these corporate giants warily because of their size and acquisitive motives.
"We feel their venture activities are really a masquerade - a classic case of the fox in the henhouse," said Richard Burnes of Boston's Charles River Partners, talking about Exxon in particular.
Burnes has done four joint ventures with Exxon, and that's been enough for him. Never again, he said. He charged Exxon with coming into a deal as a seeming equal partner in the early, doubtful stages, then muscling aside smaller partners as soon as the deal begins to show results.
Exxon countercharges that small venture groups often ride on its coattails, that it often is asked to do more than its share in a venture deal, and that the effort it puts into a new venture goes far beyond what's done by the average venture capital firm.
There is a common philosophy among those who have been most successful in the venture capital business. It has been to bet first on people and only second on an idea or invention. The reason for this is that when the going gets tough for a young company, as it usually does, success depends on the grit and smarts of the people in charge. Rarely does an idea pull itself through.
A second trait common among the leading venture capitalists has been patience, a certain steeliness of mind that has allowed them to lock piles of money into struggling companies for years at a time.
As a rule, a young company takes from five to 10 years to grow to a point where its stock can be traded publicly or until, at least, the initial investors can find buyers for their shares. During this time, shareholders also are likely to be called on to put more money into their struggling company, sometimes double the original investment or more.
Interest in becoming a venture capitalist? If you have millions, no doubt you already know who to contact. If it's a matter of investing a few thousand, there are a few small venture capital groups that still may be interested in you. In Washington, try Wachtel & Co. Inc. There are also about two dozen investor groups whose shares are publicly traded. Two such companies are in Washington: Allied Capital and Greater Washington Investors. For just a few dollars a share, you could buy into a piece of the venture action.
But be forewarned. "It's a very speculative investment," said Don Christensen, president of Greater Washington. "You can go up, and that's the glory. You can go down and, believe me, that's no fun."