29 May Strommer: To thrive, Wisconsin must build entrepreneurial culture
Milwaukee, Wis. – Wisconsin’s risk-averse nature often is cited as a reason the state doesn’t attract much venture capital, but when it comes to creating the new jobs of the new economy, states have no choice but to stimulate their entrepreneurial climates.
That’s a message that University of Wisconsin-Madison alumnus Susan Strommer will bring to the state when she addresses the 2008 Wisconsin Entrepreneurs Conference June 9 and 10 in Milwaukee.
Much of the entrepreneurial focus is on attracting seed and venture capital, but since few companies – even ones with strong business models – will actually secure venture capital, building a stronger climate for the start-up businesses that create most new jobs is part of the equation.
Strommer, president and CEO of the National Association of Seed and Venture Funds, said entrepreneurial growth starts with K-12 education. In her view, the extent to which young people are educated and encouraged to try their own ventures, which involves a more tolerant attitude toward risk-taking and failure, is one measure of a state’s entrepreneurial culture.
Some of the changes Wisconsin has made to improve its investment climate can have an immediate impact because business people pay attention to changes that will benefit them, Strommer said, “but to grow entrepreneurs is a much more long-term effort.”
In this WTN Visions interview, Strommer addresses not only the entrepreneurial climate, but the business plan investors expect from entrepreneurs and the nation’s declining share of seed capital in new businesses.
All about innovation
Strommer said building an entrepreneurial culture is more about promoting innovation than it is about encouraging every child to be the next Bill Gates.
For that task, different states have taken different approaches, but several involve giving tools to students that encourage them to explore and innovate. In Maine, former Governor Angus King proposed that each fifth grader be provided with a laptop computer so they can access the Internet and learn computer skills, Strommer noted. [The state of Maine currently provides laptops for all public school seventh and eighth grade students and teachers; the current governor, John Baldacci, would like to expand the program to high schools, where every teacher and administrator has a laptop but students do not.]
Strommer called Wisconsin’s education system, both K-12 and higher education, “one of the best in the world” – a good starting point for building entrepreneurial programming. However, she said the Legislature must be more forward thinking about what’s needed to take Wisconsin to the next level and make more capital available for entrepreneurs the educational system creates.
“I wouldn’t say Wisconsin is poor compared to other states because not many states do this well at all,” she stated.
Stimulating investment
Wisconsin has taken a number of steps to improve its standing with investors. In 2004, the state enacted the Act 255 investor tax credit program, and it has stimulated angel investing to the point where Gov. Jim Doyle has proposed an expansion. Doyle has recommended that individuals receive a 100 percent capital gains exclusion of up to $10 million for long-term capital gains reinvested in qualifying Wisconsin businesses.
The state also has repealed a law that held shareholders in a corporation personally liable, if a company went under, for wages owed to employees.
Wisconsin also has established a network of 17 active angel investment groups, including one – the Phenomenelle Angels fund – designed for women-owned companies.
By focusing on its angel investors, Strommer said Wisconsin is doing “absolutely the right thing” because venture investors are targeting later-stage companies, leaving start-ups starved for capital. “Angel investors do a good job, but when they act as lone rangers and individual investors, their impact is scattered and not as strong as when they are organized into groups and then networked beyond that,” Strommer said.
According to Strommer, there is no definitive study on what a state can do to create a stronger entrepreneurial climate. However, some of the states that have had the toughest economic times have been some of the most creative in stimulating entrepreneurship, and Strommer cited Oklahoma as an example. Oklahoma faced a steep challenge following the 1980s oil bust, and like many states it decided to diversify its economy because it was too focused on one traditional industry.
That diversification involved boosting venture capital through the creation of an entrepreneurial catalyst organization, and Strommer said it was a smart move given the economic shifts that were occurring. She cited a study of the American economy that examined the 20-year period between 1981 and 2001 and found that all the net new jobs were created by companies five years old or less. Strommer takes that as proof that the more states can do to foster entrepreneurship, the better their economies will create new jobs.
“The states that are doing the best at growing their new economy are the ones that understand that the traditional industries, in most cases, are not creating new jobs,” she said.
Early-stage business case
In turn, entrepreneurs need to understand what seed investors are looking for in their companies. According to Strommer, the reason most entrepreneurs fail to secure seed capital is they become so enamored with their technology that their business plan hasn’t pinpointed the market opportunity, the company’s ability to offer its product or service on a sufficient scale, or whether it would produce a substantial profit margin.
As one investor put it, he wants a product that has consumers drooling over the prospect of getting their hands on it, Strommer said.
“The business plan must show, in a compelling way, that the size of the market, the price you can get for the product, and the profit margin will generate revenues that translate into an annual return of at least 50 percent,” she explained. “The investors who invest at this stage do not earn 50 percent returns from each investment, but each investment must show it has that potential because any business can get struck by lighting or have something go wrong that no one anticipated.”
Investors may have 10 brilliant entrepreneurs in their portfolios, but usually only one or two will be a homerun with a 50 percent return. Even companies with business plans that anticipate 15 or 20 percent rates of return get passed over for capital because that’s not enough to make up for the complete failures.
Worrisome capital decline
Seed-stage capital is important not only from the standpoint of financing, but also because angel or seed-stage investors typically help entrepreneurs grow their company, find quality managers and employees, devise marketing plans, and even help find their first customers.
Yet the private capital markets are not providing sufficient capital for young U.S. companies, so NASVF may have to engage in advocacy to make it happen.
Just 12 years ago, almost 20 percent of venture capital went to start-up and early-stage companies, but that figure now has dipped below five percent, Strommer said. Much of it is being invested in later-stage companies or overseas, so the NASVF is reluctantly coming to the conclusion that if the federal government doesn’t do something to support the development of capital for new entrepreneurs, the American economy will suffer.
Action at the federal level could include expanding the Small Business Investment program to once again include investments in younger companies, the establishment of a federal tax credit for companies that invest in early-stage companies, or providing federal funding for state programs like Wisconsin’s Act 255.
“Venture capital is being attracted to developing country markets, where they have very fast economic growth, and away from more mature markets like the U.S.,” she said, “and that leaves not much capital to develop a new generation of entrepreneurs. Government action may well be needed.”