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VENTURE CAPITAL IS
CRITICAL TO THE REGION
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BY BRYAN BEZOLD
RCGA Director of Research and Chief Economist
The technology-led
economic boom of the 1990s shined a spotlight on a previously obscure,
but important, part of the economy: venture capital.
Venture capitalists fill the gap between early stage financing for
small start-up companies and the stock and bond offerings that are
available to finance larger ones. Many companies that are now household
names got their start because of timely venture capital investments,
particularly technology-related companies like Yahoo! Venture capital
(VC) firms fill an important role in the development of new firms,
by exchanging money and expertise for ownership stakes in small
companies. Since the growth of the region’s local technology sector
is an important part of St. Louis’ economic future, venture capital
is important to the local economy.
Venture capital firms are usually partnerships, composed of general
partners and limited partners. Both general and limited partners
usually contribute money (the capital part of venture capital),
but general partners typically make the investment decisions and
work directly with the companies that VC partnerships invest in.
In return for the investment, small companies give some ownership
stake in their company to the VC partnerships. Typically, VC partnerships
have an exit strategy in mind when they make their investments,
ideally when the company goes public and the VC partnership’s stake
becomes shares of a publicly traded company. Long-term returns to
VC investing were very high in the ’90s1. Partly for
this reason, more traditional financial institutions, such as banks
and larger investment firms, have set up their own venture capital
companies.
VC investments are quite valuable to small companies. Obviously,
start-up companies need money, particularly technology-related firms
that might need several years to get a product to the marketplace.
But VC investments mean more than just money for small companies.
Recent research demonstrates that firms that receive VC investment
are more likely to bring products to market. What’s interesting
about this research, though, is that it suggests that the increased
likelihood of success isn’t just due to money, but also due to the
business expertise that VC partnerships provide to small, growing
firms. Thomas Hellman and Manju Puri, writing the Federal Reserve
Bank of Atlanta’s Economic Review, found that small companies
that had received VC investments had more professional business
practices. Hellman and Puri found that VC partnerships provide management
expertise and professional contacts, what they called “ancillary
services,” that are critical to the success of small firms.2
In other words, VC investments made the companies better businesses,
not just more financially stable businesses, even controlling for
the fact that VC partnerships invest in companies that are more
likely to be successful.
VC investment trends in St. Louis mirror the Nation’s, but also
reflect real changes here. While we haven’t caught up with high-tech
hotbeds like Silicon Valley, the region has made tremendous progress.
Almost $270 million worth of venture capital was invested in local
companies in 2001, compared to $2.9 million in 1991.3
In fact, in three of the four years since 1998, local VC investments
annually exceeded the total amount of venture investments between
1990 and 1997 (Complete data for 2002 was not available as St.
Louis Commerce went to press). So there is probably more at
work here than just a local reflection of national trends. Local
advanced technology incubators like the Nidus Center and the Center
for Emerging Technologies have opened and produced venture-worthy
start ups. Events like InvestMidwest, which the RCGA co-sponsors,
have given local firms a high-profile stage in front of potential
VC investors. There are active VC firms in St. Louis, such as Gateway
Associates and Advantage Capital, which have both invested more
than $50 million locally.4 There are also VC firms here
specifically dedicated to St. Louis' burgeoning Plant and Life Sciences
cluster: Ascension Health Ventures, Oakwood Medical Investors, Prolog
Capital, and RiverVest Venture Partners.
Increasing the flow of VC dollars into the region is a challenge
for St. Louis, but it’s one that the region has been on its way
to meeting for the last four years. Given the crucial role that
VC dollars play in technology-based economic development, the increased
flow of that money in the region bodes well for greater St. Louis.
1 Hellman, Thomas and Manju Puri. 2002. “On the Fundamental
Role of Venture Capital” Federal Reserve Bank of Atlanta Economic
Review (Fourth Quarter): p.19.
2 Ibid, p.22.
3 Thomson Financial, http://www.ventureeconomics.com/vec/stats/2002q3/0MAINMENU.html.
4 The St. Louis Business Journal Book of Lists,
2003. p. 97.
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