2008 Michigan Growth Capital Symposium Synopsis
Experts optimistic about state's eventual recovery.
ANN ARBOR —With Michigan's economy struggling under the cloud of a subprime mortgage and housing foreclosure crisis, coupled with slowing business activity and mounting job losses, the 2008 Michigan Growth Capital Symposium offered an optimistic outlook for the state's eventual recovery. The annual two-day event, now in its 27th year, attracted nearly 400 participants to the Marriott Eagle Crest Conference Center in Ypsilanti, Michigan, on May 14 and 15. Seven panels of experts drawn from the entrepreneurial, venture investing, legal and government sectors discussed a wide range of issues, and 30 promising early stage companies made presentations. Two keynote speakers, Alan G. Walton of Oxford Bioscience Partners and Kenneth R. Pelowski of Pinnacle Ventures, offered their views of biotechnology and venture investing opportunities, respectively, and both received the Leaders and Best Award.
"Per square foot, there is more enthusiasm and positive thinking about Michigan and the Midwest here than anywhere else in 500 square miles," observed Dr. David J. Brophy, director and founder of the symposium and professor of finance at the Stephen M. Ross School of Business at the University of Michigan. Innovation, hard work and financing provided the rallying point for this year's symposium and demonstrated an alignment of entrepreneurial enterprise and venture capital, he noted.
The event was presented by the Center for Venture Capital and Private Equity Finance of the Samuel Zell and Robert H. Lurie Institute for Entrepreneurial Studies at the Ross School of Business.
ALAN G. WALTON, Senior General Partner, Oxford Bioscience Partners
The sequencing of the human and other genomes, and the development of associated technologies, have been the driving force behind the meteoric rise of biotechnology, said Alan G. Walton, the senior general partner in Oxford Bioscience Partners, a life sciences venture capital firm with offices on the East and West coasts. Over the span of his distinguished career, the English-born Walton has pioneered advancements in biotechnology as a scientific researcher, university professor, U.S. Presidential science advisor, biotech company founder and now, venture capital investor. He was presented with the Leaders and Best Award by MGCS founder and Ross School finance professor David J. Brophy in recognition of his accomplishments.
During his keynote remarks, Walton predicted that biotechnology advancements will bring major changes in four key areas over the next 50 years. "Most major human diseases will be treated, controlled or prevented by biotechology products and methods," Walton said. "Most of the world's food supply will be more plentiful, nutritious and disease resistant through biotech products." He also predicted that a significant portion of the world's energy will come from genetic engineering and that molecular computers will be based on biological molecules. "My prediction is that this will be the biotechnology century," he said.
From a venture investing perspective, Walton observed there are two key investment strategies in the biotechnology sector. "One is to come up with the newest, latest and best thinking that is enabling technology, or you can head down the public route, although the public isn't interested in technology and doesn't understand it," he said. "Oxford's strategy has been to try to come up with revolutionary technologies." Last year, Oxford funded and sold a new technology called RNAI developed by Sirna; a rapid gene sequencing methodology developed by Solexa, an English biotech firm; and an ultra-rapid vaccine formation company. "Although we have a lot of failures, these huge sales of new technology have been the mantra at Oxford," Walton said.
He noted that biotechnology has a history of four-year cycles. "Right now, in 2008, we have no IPOs, and companies are running out of cash," he said. "Things are looking a little bit grim. But if you believe the cycling, then at the end of the year and into 2009, biotech is set to come back again. I hope that gives us a little bit of enthusiasm." Although major technological breakthroughs in commercial bioscience have been largely hidden from the public in the last few years, Walton said he anticipates these advances will inevitably cause an economic shift to those centers where these technologies are employed. Commenting on the most likely commercial successes in the energy side of the biotech equation, he dismissed the hydrogen highway as "dreaming" and said, "Unfortunately, we'll have to go to non-corn-based ethanol in the short run and use that until we can build nuclear reactors that will take over, as they have in France and Japan."
PANEL: Creating a Clean Tech Cluster in Michigan and the Midwest
Michigan's skilled workforce, plentiful natural resources, strong research community and deep manufacturing expertise in the automotive and chemical industries provide a solid platform for creating a thriving clean tech sector, said a panel of private and public technology investment managers and economic development leaders. "We think there are three or four major sectors that present opportunities," said Ananth Ananthasubramaniam, manager of technology investments for DTE Energy, which has invested $100 million in the alternative energy space. The "greening of the grid" will stimulate a growing market for renewable energy sources, such as solar, wind and biomass, he said, and increased concern about energy efficiency, management and storage will drive new technologies in those areas. Alternative fuels also offer great possibilities for innovative companies and forward-thinking venture investors. Through its Centers of Energy Excellence initiative, the Michigan Economic Development Corporation is striving to grow a clean tech industry cluster by attracting high-potential companies to Michigan, connecting them with the right partners and then brokering the deals, explained Douglas Parks, vice president of new market development. Colin South, president of Mascoma Corp., which focuses on cellulosic ethanol production, reported that the supply chain and knowledge base in Michigan initially attracted his company to the state. To move the needle toward clean tech, the panelists said, will require a variety of financing sources and combinations, including venture capital, asset investment and the public markets. Companies seeking venture capital dollars will need to identify disruptive technologies that are sustainable and offer more than incremental improvements over existing ones, advised Mike Melnick of CMEA Ventures. He said that the management team's capabilities and the scalability of the market also must be considered.
PANEL: Investment in Life Science Companies
Establishing strong investment partnerships is critical for entrepreneurial companies in the highly competitive life sciences sector, but this can be challenging. "As the CEO, you are going to be raising money all the time," observed Douglas Onsi of HealthCare Ventures. "Don't give up the first time some investor passes, but be realistic. Think about how your company creates value and then go to the places where people recognize that value." Robert More, a partner at Domain Associates, advised entrepreneurs to focus on their particular area of expertise and to work initially through local channels in the venture investing community. "You'd better be the best at what you do, because you're competing globally now, not regionally," he said. "Know the kind of deals a venture capital firm is doing and find out who your deal champion is going to be before you go to that first meeting." Venture capital firms considering investments in nontraditional geographical areas typically look for entrepreneurs who can execute well on a plan and convey a desire to collaborate on a project, said Nina Kjellson of InterWest Partners. "It's important to align the interests of the investor and the inventor," she explained. "I also encourage entrepreneurs, scientists and institutions that help entrepreneurs to think through the early team building and to consider how this enterprise will scale from two or three people to a successful company." In cases where there is not be a good fit with venture investors, Kjellson suggested exploring alternative funding sources, such as foundations, grant-making nonprofit organizations and government agencies.
PANEL: Venture Capital Investment Strategy
Venture capital investments play an important role in the diversification of overall investment portfolios, but fund managers often differ on their selection criteria and allocation strategies. "Venture investing fits me and what I like to do," said Michael Jandernoa, who straddles both sides of the investment fence as the former CEO of the Michigan-based drug manufacturer Perrigo Company and now as the co-founder of both Bridge Street Capital Partners and Grand Angels. "In Michigan, we have a tremendous history of entrepreneurs and many young people with great ideas. If we can give them the proper financial support and guidance, it will increase their chances for success." While fund performance is critical, Jose Fernandez of StepStone indicated his firm is willing to consider first-time funds, if the emerging manager has had sufficient work experience and can show a differentiated strategy and access to deal flow. However, he cautioned managers about glossing over mistakes and using creative marketing to hide any shortfalls when talking to investment firms. Kevin Fedewa of the State of Michigan Retirement System reported that declining fund sizes have resulted in "a pretty big hit to our exposure to venture." Although most of the venture funds in which he invests are on the East and West coasts, he noted that general partners are starting to fly to Michigan and the Midwest. Jon Norris of SVB Capital said he sees great opportunities to get involved with early stage funds in the Midwest, despite recent turmoil in the economic environment. "We're seeing some interesting plays and becoming more active in providing banking services on both the VC and PE sides," he said.
KENNETH R. PELOWSKI, Founder and Managing Partner, Pinnacle Ventures
In venture capital investing, the top firms tend to produce the majority of industry profits and are able to perpetuate their high-flying success through repeat business, said Kenneth R. Pelowski, the founder and managing partner of Pinnacle Ventures, a Palo Alto, California-based private venture capital fund. "From 1997 to 2004, 50 venture investing firms, representing 4% of 1,200 firms, produced 77% of the profits in the industry," he said. "Of those, 20 to 25 firms, only 2%, produced almost 80% of the profits. What's more, those top 50 firms have increased their share of the pot. I believe this trend will continue."
This top-heavy scenario presents an interesting dilemma for companies in Michigan that want to get connected with one of those top 25 firms, Pelowski observed. "It's possible, but it's not easy," he said, noting that some bright spots appear on the horizon. "I believe there is more activity in Michigan than most people are aware of, and certainly there are some well-known exits. There is starting to be some recognition in Silicon Valley of what we call high quality deals and exits in the state. That's really important, because without it, it's really hard to attract capital." Pelowski, who grew up in Michigan and received his electrical engineering undergraduate degree and MBA from the University of Michigan, also noted that University research efforts and state initiatives, such as the Michigan 21st Century Investment Fund, are helping to move things in the right direction. "I owe a lot to the University and the state, because I was educated and trained here," he said. "I have expertise in startups and venture capital that I think will help the University take world-class research and commercialize it, which will help the state's economy as well."
Pelowski, who is now launching his fifth startup, outlined what it takes to present and to successfully receive capital from some of the premier venture firms in the country. "It starts with really good technology," he said. "And that technology has to have differentiation, be protected and create barriers. But what really matters most is that a company has to make a great product — not a good product, not a nice feature extension of a product, but a great product. And it has to have a big market — a billion a year. Below $500 million, it is not going to be ready, and from $500 million to a billion, it's possibly ready." Without these large opportunities, Pelowski said, the venture capital community cannot make the returns it needs. People who have proven experience as entrepreneurs, he added, are also an important part of the equation. "One of the greatest risk factors we have in a deal is a first-time CEO," he said. "It's a huge ‘con' in our analysis because the risk of their raising capital is huge."
Looking forward, Pelowski predicted that the trend toward venture investing in the healthcare and energy areas will play out well in Michigan, in part because the University has doubled its research spending in those two areas and the state is known for its core competencies in alternative energy, transportation and healthcare. "What we see—and thus what we think is the opportunity and why we come here—is a huge intersection, for the first time in my lifetime, of what Michigan is good at and what is important or interesting to the venture community. I think that's a huge opportunity for the state." At the conclusion of his remarks, Pelowski was presented with the Leaders and Best Award by MGCS founder and Ross School finance professor David J. Brophy.
PANEL: Emerging Technologies and Opportunities
Emerging technologies offer a nearly unlimited horizon of entrepreneurial and venture investing opportunities, but tapping into that deep pool of possibilities requires creative thinking, perseverance and the right synergies, said a panel of industry experts. "We invest in early stage companies with really disruptive technologies," said Annette Finsterbusch of Applied Ventures, who has focused on plays in energy storage, energy conversion and solar and non-solar fuel cells. With a background in software, business advisor and investor John Lovitt said he looks for products that represent the marriage of different technologies to solve some problem or to capture the "explosion of knowledge." After 35 years at Johnson Controls, Thomas Dougherty believes many opportunities can be leveraged from the automotive sector where his new startup company, Monolith Engines, is developing specialized batteries and capacitors for use in electric and hybrid cars. Although rising gas prices will likely foster more creativity, Dougherty expressed concern about the long lead times for product development and the "missing conduit" to get new products through tier 1 and 2 suppliers to OEM manufacturers. Andrew Basile Jr., a West Coast attorney, said that Michigan firms could get more traction by sticking with secondary and tertiary entrepreneurial activities, such as service companies. "I've concluded that we [in Michigan] are not poised to exploit the Silicon Valley model of new company creation," he said. "We need to have smaller companies doing smaller deals." In addition to utilizing the existing expertise in the automotive industry, he suggested new ventures might capitalize on opportunities associated with aging Baby Boomers by focusing on the personalized delivery of healthcare services into homes.
PANEL: Preparing Your Company for its Initial Venture Financing
Seeking venture financing may or may not be the right decision for an entrepreneurial company, said panelists who represented both the giving and receiving ends of the deal making. Although the infusion of capital may benefit an early stage venture, "there is no free lunch," cautioned Doug Camitta of the law firm Pepper Hamilton. "How you run the company will change when you sign up with a venture capitalist. There will be oversight and information reporting requirements." Serial entrepreneur Vinay Gupta, who is now on his fifth startup, Janeeva, said the decision often depends on whether a great deal of money is required to bootstrap a new venture and whether the entrepreneur is willing to give up equity in return for venture financing. Rand Mueller, the CEO and co-founder of Guidepoint Systems, said he used venture capital financing in half of the 13 companies he has started thus far. "Find the money guy who understands your business and vision, and be sure you have good chemistry with them," he advised. "Some fit, some don't." Venture capitalists, on the other hand, are looking for good deals that will pay off for their own investors. "Can your business be sold for $250 million?" asked Jeff Bocan of Beringea. "VCs want to make 10 times their money back, so that's the point where a deal becomes attractive." Getting in the door of a venture capital firm is often the hardest first step, however. "This is a people business," Camitta said. "To get into a VC firm, figure out whom you want to meet and who knows that person and can introduce you." Dave Fachetti of Globespan Capital Partners advised entrepreneurs to investigate other factors such as sector expertise, fund cycle and recent deals to determine how their company would fit into the venture firm's investment mix.
PANEL: Lessons from the Trenches: The Outlook for U.S. Venture Capital
Faced with overheated competition in Silicon Valley and other research corridors and triangles, venture capital investors are turning their attention to Michigan and the Midwest, a panel of venture investors said. "We don't want to compete on the basis of term sheets with wonderful firms along Boston's 128 Corridor because deals are too high priced," said Jeanne Sullivan, a general partner of StarVest Partners in New York City. "We want to look for companies in underserved areas where people are looking for investors. We're seeking strong entrepreneurial and operating experience that comes out of the technology area." Koleman Karleski of Chrysalis Ventures, which has offices in Kentucky and Ohio, observed there is a mismatch between investment activity and assets in the middle part of the U.S., where 22 or 23 states receive only 15% of the venture capital dollars. "That's the reason we're here," he said. Although venture investors are now more willing to travel to the Midwest from the East and West coasts in search of the best companies, many prefer to partner with locally based venture capital firms. "We like to have a strong local partner on the ground here, especially when we're investing in an early stage venture," said Alison de Bord of San Francisco-based Alta Partners. David Parsigian, a partner at the law firm of Honigman Miller Schwartz and Cohn, noted that "things are a lot different in Michigan than they were five years ago." The more widespread availability of capital is helping to spur the growth of firms that can help entrepreneurial companies, he said, adding, "We have great critical mass growing in our region." One of the biggest challenges facing venture capital firms is defining their sector focus. "At the end of the day, we're all trying to figure out where the puck is headed and how to carve out some sub-sector," Karleski said. "Being diversified helps us to avoid pitfalls."
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