While not immune to market busts, angel and venture capital should weather the financial crisis.

Author: Tom Still, Wisconsin Technology Council

MADISON – The shock waves emanating from the meltdown of the global financial industry are being felt in sectors large and small, but angel and venture capital may stand up to the crushing economic currents better than most.

The investors who manage Wisconsin’s angel networks, early-stage funds and venture capital funds are understandably cautious these days, but they’re not panicking over troubles in parts of the financial industry that dove into subprime mortgages like they were a swimming pool filled with money.

There are good reasons to believe angel and venture capital investing in Wisconsin won’t collapse – and may even emerge as a solid counter-cyclical alternative to traditional investments. If so, start-up businesses in Wisconsin’s technology and high-growth business sectors could find themselves better positioned than companies that are more dependent on conventional credit and loans. Here’s why:

• Money that flees distressed sectors often looks for another place to land. While much wealth will be lost forever, some investors have pulled out of holdings where liquidity allowed them to do so. They won’t stuff that money into a mattress. They will reinvest in a portfolio that spreads the risk, and it may include private equity deals involving angel investors (basically, high net-worth individuals) and venture capitalists.
• Angel and venture capital tends to be patient capital. While investments in start-up companies always come with specific performance milestones for those companies, no one invests in such deals expecting quarterly dividend checks. They know the company may not produce any revenues at all for a while, but because they own a share of the company, they expect a much larger payoff down the road. Often, that’s a wait of three to five years – but it is rewarded with payoffs 20 or more times the investment.
• Angel and venture capital deals are generally among the best-vetted deals going. The geniuses who thought it was a good idea to blow up longstanding down payment requirements for mortgages and sell them to people who basically didn’t have the means to pay are not the folks running the angel and venture community. Instead, they are opportunity driven business people with an eye for the bottom line and a nose for excessive risk. The average venture or angel deal is reviewed by teams of experienced investors and technologists who understand what the market wants – and how to get it there before the next big idea.
• The major-party candidates for president may not agree on much, but they’re both on the record as supporting America’s “innovation” economy. Whether it’s health care, information technology, advanced manufacturing, nanotechnology or “cleantech,” the nation has an edge when it comes to injecting innovative products and services into the marketplace. Who finances those innovations? Angel investors and venture capitalists.

None of this is to suggest there won’t be some tough times and some spectacular failures. Because most angel and venture investors put money into a number of deals, they may choose to reserve money to protect and enhance existing investments before getting into new deals. Many venture capitalists are worried about the effects of a prolonged recession and are asking their portfolio companies to cut back cash expenditures now. Finally, it will be harder for venture capital companies to raise new funds if the financial crisis extends well into 2009. If older investments don’t result in company mergers, acquisitions or initial public offerings (when a company sells public stock for the first time), new dollars won’t replenish the pipeline.

Good deals will continue to get done, however. Next month’s Wisconsin Early Stage Symposium in Madison will feature about 40 start-up companies from across the state and beyond, and a sizable contingent of angel and venture investors will be there to take a look. The state’s innovation economy is maturing, which means more young companies are rising to take the places of those that pass from the scene. This financial crisis is so big that no sector will go unscathed, but angel and venture capital investments in the right companies will help lead the way out of the trough.

Tom Still is president of the Wisconsin Technology Council.