There is plenty to gripe about these days, and one need not be Rush Limbaugh or Sandra Bullock to have something to complain about. I desperately try not to be a complainer (especially after the quietest girl in my entire high school once called me out in front of the class while I was whining about a homework assignment: "Jeff, complaining is a sign of weakness," - man, did I feel like a chump!). But after reviewing a recent Brookings Institute report on venture capital and the Great Lakes Region, I just can't help myself...
Here's the crux of what is stuck in my craw: America's Midwest is the source of a tremendous amount of innovation, yet venture capital dollars fail miserably in matching the opportunity -- to make matters worse, some of this disparity is self-inflicted by local institutional investors. As Frank Samuel, Jr. outlines in his recent excellent Brookings report "Turning up the Heat: How Venture Capital Can Help Fuel the Economic Transformation of the Great Lakes Region," Midwest institutional investors (i.e. public pension funds, university endowments and philanthropic foundations) are some of the worst offenders in sending their allocated venture dollars out of the Midwest to the Coasts, at rates equal to or greater than other institutional investors.
I have touched on this sore spot in a previous post "America's Cashless Chasm", highlighting the mountains of venture capital stacked up on the American coasts compared to the Midwest. Frustratingly, despite substantial innovation happening right under their noses (or even within the walls of their own university!), regional institutional investors are generally no different in contributing to the regional disparity of venture funding. Don't take my word for it; check out the data in the table below from the aforementioned Brookings report:
The disparity is clear: despite representing roughly 33% of the population, GNP, R&D spending, NIH grants, awarded U.S. patents and science and engineering graduates, less than 14% of venture capital dollars find their way to the Midwest to convert technology discoveries into new companies and jobs. And the disparity seems home-grown ... as The New Republic's John Austin confirms,
Great Lakes Region's Share of Selected National Totals
Gross National Product 32%
Research & Development 33%
Nat'l Institutes of Health Research Grants 35%
U.S. Patents Awarded 30%
Science & Engineering Graduates 36%
Venture Capital Investment 14%
"Even more disturbingly, the Rust Belt's deep pockets in terms of sizable state and local pension funds that do put money in to VC are essentially sending it to the coasts. Fully 47% of the nation's public pension fund venture money comes from the Rust Belt - but only 13% of that money is reinvested in Great Lakes region commercialization."
The finger-pointing should not fall solely upon the Midwest public pension funds (particularly since a number of them such as the State of Michigan Employees' Pension Fund and the Indiana Public Employees Retirement Fund have made significant state-focused VC commitments). In many cases, Midwest-based university or philanthropic endowments that have explicit or implicit missions of "investing in their communities" are some of the worst offenders. For example, in my literal backyard of Ann Arbor, Mich., the University of Michigan's endowment, (a significant national investor in venture capital), has never invested a penny in a Michigan-based VC firm. Shocking ... Perhaps their fight song should be modified to: "Hail, hail to (VCs-that-are-not-based-in) Michigan!"
One would think that even some token local VC investment by universities would be a selling point to attract some of the more innovative professors, researchers and enterprising students. Seems to work for Stanford and M.I.T.; but unfortunately, this point seems lost on endowments like University of Michigan's, despite the existence of some locally strong-performing funds.
Okay, enough whining - let's talk solutions. The Samuel report recommends a more holistic approach that could have an undeniable impact on the region: the creation of a "Great Lakes 21st Century Fund" - a $1-2 billion fund of funds that would invest in venture capital funds operating in and focused on the Great Lakes region. Amen, Mr. Samuel!
Midwest pension funds and endowments could invest in one large vehicle with many benefits: spreading their investment risk across many potential venture funds, targeting various sectors; not having their investment strategy restricted to any one state or fortunes tied to any one fund manager, and not having the administrative burden of managing investments in a number of smaller funds. For VCs, such a large fund could serve as the cornerstone investor for their specific VC funds, allowing the VCs to leverage the Great Lakes commitments and attract investment from outside the Midwest to pull even more capital into the region.
As outlined in the table above, the prerequisites are in place within the Midwest to warrant greater venture capital activity. No doubt, over time, things will steadily improve as more VCs like me move from the Coasts to invest in the overlooked, yet innovative technologies and companies in the Midwest. But if we want to get serious about making a big impact on a faster time scale, we need Midwest institutional investors investing more within the region. Some quick reminders of the "urgency of now": 10%-15% unemployment across the region, slashed state budgets with reduced jobs for teachers and state workers, new college graduates with limited job prospects, reduced spending from philanthropies for critical social services.
Midwest institutional investors have the opportunity to help themselves (with venture-backed financial returns) and help their pensioners, alumni and communities by having more capital invested and circulated within their state/regional economies - but the time to do so is now. Let's see them put their money where their mouth (literally) is.
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