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South Carolina seeks boost for venture capital

"In a knowledge-based economy, which is where the world is headed, the big companies of tomorrow are going to be home-grown," Harrell said. "The states that encourage the creation of those companies with their tax codes will be the states with the biggest gains years from now."

"If South Carolina doesn’t do something in the next three to five years, we’re going to be a second-tier state for the next 35 years," Ritchie said. "We have a small window of opportunity to become competitive."

South Carolina lawmakers are looking at ways to kick-start investments in small, high-risk companies they hope will blossom into profitable, home-grown businesses.

By:
Joe Guy Collier
The State

Within a month, bills in the House and Senate are expected to be introduced that would use state tax credits to encourage as much as $100 million in venture capital.

Venture capital firms invest in start-up businesses that show signs of tremendous growth. Venture capital has become a staple of fast-rising technology firms, fueling companies like Dell Computer Corp. and Federal Express.

The programs could be significant because South Carolina — unlike neighboring Georgia and North Carolina — attracts little venture capital.

South Carolina needs more venture capital to build state-based companies with high-paying jobs, said state Sen. Jim Ritchie, R-Spartanburg, who’s working on a Senate venture capital bill.

"If South Carolina doesn’t do something in the next three to five years, we’re going to be a second-tier state for the next 35 years," Ritchie said. "We have a small window of opportunity to become competitive."

But attempts by South Carolina and other states to encourage venture capital have produced mixed results. In some states, venture programs have cost millions of dollars and shown no results.

"Time and care needs to be taken," said David Barkley, a Clemson University professor who’s studied state venture programs. "The likelihood of developing a successful program will be directly related to the time and care the state takes in setting up the programs."

FUELING GROWTH

The venture capital industry is a large behind-the-scenes part of the U.S. economy. Wealthy individuals and large institutional investors, such as pension funds, put money in venture capital firms in hopes of large payoffs.

Professional venture capital money managers cull business plans, looking to invest in what they hope will be the next breakthrough company.

Although recession has hit the industry, venture capital investments still accounted for more than $21 billion in 2002, according to a survey by PricewaterhouseCoopers, Venture Economics and the National Venture Capital Association.

California’s Silicon Valley attracted more than a third of the nation’s investments, but some Southern states also are becoming centers for investments.

Since 1995, Texas has led the South with more than $16 billion in venture capital investments. Georgia and North Carolina have landed about $6 billion and $5 billion, respectively.

South Carolina ranks near the bottom, with $625 million invested since 1995.

The lack of venture capital has been a nagging problem for years in South Carolina, said Tom Persons, president and chief executive of the S.C. Technology Alliance, a nonprofit group that works with technology firms.

Technology companies, in particular, need venture capital to develop, he said.

Entrepreneurs with ideas for new companies are likely to founder or move if they’re not given financial backing, Persons said. Venture capital provides the money and connections to help those companies succeed, he said.

"In order to help those new ideas flourish, you’re going to have to have some kind of cash infusion," Persons said.

NO GUARANTEES

State government attempts to develop venture capital, however, have not always worked.

In 1994, Mississippi lawmakers created a venture fund through the sale of a $20 million state-backed bond. Four years later, the state seized control of the fund from its managers after nearly $6 million in losses, according to a state review.

In Louisiana, a program using tax credits cost the state $600 million over two decades. A 1999 report by state officials called the program "expensive and inefficient."

In 1988, South Carolina lawmakers created the Palmetto Seed Capital Corp., a privately managed, $15 million fund that gave investors $5 million in tax credits. After 13 years, Palmetto Seed has broken even.

State Sen. Ritchie says his proposal will be similar to a program Oklahoma created in 1991. That state uses tax credits as a guarantee for building a pool of money for venture capital.

Banks, which typically look for safe investments, put money in the venture capital pool with the guarantee that they’ll be paid back either in cash or tax credits.

An investment board then puts the money into privately managed venture capital firms, who in turn invest in start-up companies in Oklahoma.

If the investments make money, the banks are paid back and no tax credits are used. If the investments lose money overall, the banks can deduct the losses from their state taxes.

In the first decade of the program, more than $84 million has been invested without using any of the $100 million in tax credits authorized by the state.

"We don’t plan on ever exercising a tax credit," said Devon Sauzek, president of Edge Capital, which manages the Oklahoma program. "The plan is that it won’t cost the state a dime."

State Rep. Bobby Harrell, R-Charleston and chairman of the House Ways and Means Committee, is working with Ritchie on a House bill that mirrors Oklahoma’s program.

Last year, Harrell opposed a proposal that would have created a program similar to Louisiana’s. The Louisiana program would have given away $100 million in tax credits to help private money-management firms land investments.

Unlike Louisiana’s program, the Oklahoma program can work because it doesn’t give away tax credits, Harrell said.

The tax credits guarantee a minimum payback, but the venture firms are encouraged to beat that payback by making money on their investments, he said.

"The risk is tremendously minimized," Harrell said. "We’re saying we’ll protect companies with tax credits if it (the program) loses money in the aggregate."

The plan also is being backed by Larry Wilson, managing partner of Columbia-based Trelys Venture Partners, the state’s only active venture firm.

Wilson, former head of Blythewood software firm Policy Management Systems Corp., raised $20 million from investors for Trelys. A state venture program could help him raise money for another fund, but it also could attract competitors.

Ritchie and Harrell’s proposal makes sense because it lets private money managers make investments, Wilson said.

"Venture capital has to be approached as a businesslike endeavor," Wilson said. "Venture capital funds have to be there to make money."

KEEP POLITICS OUT

Clemson’s Barkley said Oklahoma’s model shows promise. Regardless of what program is used, though, the most important element is getting the money in the right people’s hands, Barkley said.

Political influences can lead to bad investments, he said.

"One thing you would need to do is insulate the program from political influence," Barkley said. "That’s usually a serious flaw with these publicly assisted programs."

Ritchie and Harrell say they believe the program they’re working on would separate politics from the process.

Although politicians would select a board to manage the larger pool of money, professional venture firms would decide on individual investments, they said.

The details of the program are still being worked out, but Ritchie said S.C. lawmakers have an obligation to look at ways to encourage venture capital.

South Carolina will pay if it doesn’t address its lack of venture capital, Harrell said.

"In a knowledge-based economy, which is where the world is headed, the big companies of tomorrow are going to be home-grown," Harrell said. "The states that encourage the creation of those companies with their tax codes will be the states with the biggest gains years from now."

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