Thursday, November 1, 2012

Merrette Moore on Startup Investment

The following piece is an opinion piece published originally at CED Content Partner WRAL Tech Wire. It is authored by Merrette Moore of Lookout Capital. Moore also serves as an advising consultant for Rex Health Ventures, a CED Member. 

Startup Investment Landscape is Changing - For Better and Worse

Merrette Moore
Merrette Moore

As any of my business colleagues will tell you, I’m not a “see and be seen” guy. People who like to see and be seen go to networking events. People who like to produce concentrate on getting things done. I like to get things done.
That being said, I understand that some networking is a part of the gig, so I have put in some public appearances lately at events like the CED Tech Venture Conference and the Cherokee Challenge graduate showcase. I’ve also made some rounds in the community to keep tabs on what’s going on with the startup scene.
In making the rounds, I have seen some interesting trends, particularly as they pertain to the early stage funding landscape in the RTP area. These trends, in my humble opinion, will have significant effects on the local entrepreneurial community.
Here are five observations about the RTP area early stage funding landscape and what they may mean:

(1) Local Early Stage Institutional Funds Are An Endangered Species

At the CED Tech Venture Conference, I was a part of a conversation that included three people from local early stage funds. All three said that they were not out raising new money. Not because they didn’t want or need to, but because they couldn’t.
Institutional investors—even local ones—don’t want to put money into small, early stage venture funds based in the Southeast. They want to put it into large, more established venture funds out on the West Coast. This trend is several years in the making and shows no sign of reversing any time soon.
As a result, I think the writing is on the wall for local early stage funds. Unless their fundraising prospects improve or they otherwise find new sources of investment capital, they seem to be headed the way of the dodo bird.

(2) Local Angel Groups Are In For Hard Times Too

A cottage industry of angel investor groups has popped up on the local scene over the past 2-3 years or so. While additional seed and early stage capital is theoretically a welcome prospect, most of these groups will burn out and fade away. There are two main reasons for this.
First, the angel model of investing, as it is commonly practiced, doesn’t work well: simply put, there are too many chiefs and almost always no indians. The due diligence performed is not nearly rigorous enough and the deals that capture the fancy of the investor collective usually end up being of the flashy, style-over-substance sort.
Second, the amount of capital these groups are putting into companies often isn’t enough to get them somewhere meaningful. Sure, it is cheaper than ever to start a company. But $100K to $300K—where most of these local groups play—is not enough to get startups to sufficient customer traction and revenue or other milestones that create significant value.

(3) Incubators and Accelerators Aren’t Moving The Long Term Needle

Incubators and accelerators are all the rage in our community right now. It seems like every week there’s a new company launch-related program or initiative. The platform or program specifics differ somewhat, but the overall goal is the same: Get promising ventures and entrepreneurs into the market in the hopes that at least some will be successful.
While this a noble ambition, I don’t think these efforts are really moving the needle of long-term entrepreneurial success. By and large, these programs fail to give startups the necessary financial, strategic, operational, governing, management, sales and marketing support. Many of these programs or organizations are actually counterproductive in giving entrepreneurs and ventures bad advice or counsel, often setting them on an opposite path of success.
I’m hopeful that there will be some partnering and consolidation among these launch organizations so that their overall efforts will be more efficiently and effectively conducted. Until then, I’m not expecting much in the way of meaningful long-term benefit to the community.

(4) New Value Add Investment Models and Niches Are Emerging

While my first three observations seemingly portend gloom and doom for the startup scene, there is hope, mainly via the relatively recent emergence of new, value add investment models and niches which will fill the void of the more traditional funding sources.
One promising model I’m seeing an increasing amount of is what I call the hands-on or “money plus” model, where an investor or group of investors takes on an active governance (such as executive chairman), operating or consulting role with the portfolio company. The company can benefit by the experiences, capabilities, or connections these investors bring to the table.
Another promising model is one where the investor mines a certain niche in doing deals, usually pertaining to a sector (ag-bio, renewable energy) or philosophical theme (sustainable jobs, bring back manufacturing). This model promotes discipline by ensuring investors stick to what they know or believe.

(5) Strategic and Corporate Investors Will Be Big Players

Corporations are flush with cash these days. Most aren’t spending as much on R&D as they used to. There are only so many safe havens to park all that dough. Put these things together and it makes sense that some of these funds are trickling down to early stage companies.
I’m seeing more mid-size and large corporate players participating in deals in our market. Their participation often falls under the radar, because, for the most part, they like it that way. But make no mistake, they are tossing chips on the table and those chips are piling up.
Most of these bets being placed by corporate folks are strategic in nature. Whether if it’s filling an R&D gap, keeping tabs on the cutting edge of tech, or generally protecting their innovation flanks, more often that not there is some sort of investment thesis beyond mere financial gain.

What These Observations Mean

So what do these observations, if true, mean for the community? Well, for one thing, the rotation of investment players is simply part of the natural evolution of early stage investing in the area. The firms and individuals who were part of the local investment landscape when I first broke in back in the late-90s are almost all gone. Many of the players who emerged last decade are fading out and most of the ones who are coming on the scene now will be long gone by the next one.
Beyond the natural evolution concept, I think the changing landscape will result in fewer startups receiving meaningful funding, but stronger companies being built over time. The value-add that the emerging types of investors discussed above can provide will be a significant benefit as the startups try to become real businesses. And our community could certainly use some more real startup businesses.

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