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Business lobby wants Arizona to create program supporting venture capital investment

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Wednesday, Nov. 14, 2012
By Tian Chen
Cronkite News

PHOENIX — Arizona’s economy would benefit if elected officials followed the lead of states including Utah and New Mexico that have established government-supported programs promoting venture capital investment, two business groups contend.

The Arizona Technology Council, a trade association for technology and science companies, and the Arizona Growth Foundation, an online community for small businesses, are proposing a quasi-public Arizona Fund of Funds to generate more venture capital investment in startups here.

The fund would use the promise of state tax credits to attract money from private investors that in turn would be invested in venture capital firms interested in working with Arizona companies.

The program would attract out-of-state capital and prevent local entrepreneurs from leaving for California and New York, where funding is more readily available, said John Kowalski, founder of the Arizona Growth Foundation.

“If we are able to provide a funding source here, we can keep those companies and those jobs here in Arizona,” he said.

According to the U.S. Department of the Treasury, at least 37 other states had state-run venture capital funds as of last May.

The Arizona Fund of Funds is modeled on a Utah program, launched in 2006, that proponents say has invested $304 million in 55 firms and creating nearly 5,000 jobs.

Steven Zylstra, president and CEO of the Arizona Technology Council, said Arizona business leaders have pushed unsuccessfully for a state-supported venture capital fund over the past 20 years, but he said he’s cautiously optimistic that lawmakers will embrace the idea now.

“We think we’ve done all the right things in terms of educating legislators and helping people understand that this is a failure in the marketplace that needs to be addressed,” Zylstra said.

The groups’ goal for the Arizona Fund of Funds is raising $100 million from the private sector sources such as investment banks and pension funds and investing the money in venture capital funds across the country. The venture capital firms are expected but not obliged to invest back in Arizona companies.

If the Fund of Funds loses money, the state would issue contingent tax credits to the fund’s financiers to make up for the loss. This lowers the risks for the financiers and makes it easier for the Fund of Funds to raise money, said Mark Lewis, assistant director of the Arizona Growth Foundation.

Private-sector money managers, rather than government officials, would make investment decisions for the Fund of Funds.

Lewis said the Fund of Funds also would encourage out-of-state investment by offering mentorship to companies that receive venture capital.

“We will babysit the companies and make the venture funds’ investments worth it,” he said.

Robert Hisrich, director of the Walker Center for Global Entrepreneurship at Thunderbird School of Global Management in Glendale, said the government should be a player in the venture capital funds community because state-run programs are usually dedicated to investing locally.

Hisrich said such investment creates more startups, which pay sales tax and hire workers. Those workers, in turn, pay income taxes and spend on goods and services, stimulating the economy.

“It’s an incredible snowball effect,” he said.

Jeremy Neilson, who directed the Utah Fund of Funds for its first six years, said the program has succeeded in part because a geographically diversified portfolio of underlying funds reduces the chance that the state will have to compensate investors with tax credits.

“It’s one of the models that is shown to decrease the risk to the state, and the state gets the benefit upfront,” Neilson said.

Since its Fund of Funds launched in 2006, Utah has yet to grant any contingent tax credits to investors, Neilson said.

Lewis said the Arizona Fund of Funds might hire Neilson as one of its directors if lawmakers approve of the program.

Kowalski said that although in some years the state may have to issue contingent tax credits at a cost to taxpayers, the money would be worth spending.

“You have to look at the effects of the overall fund on the economy,” Kowalski said. “Even if the state has to pay out something in the year eight or 12, it’ll be dwarfed by the return in the economic gains the state has realized over those years.”