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Midwest pulls out all stops for start-ups- $500 million in new private and public money has been earmarked for venture investing

At a time when the venture capital industry is in a deep slump, leaders in Midwest states are allocating hundreds of millions of dollars to risky investments with hopes of creating jobs as well as good investment returns.

By Barbara Rose
Chicago Tribune staff reporter

At least $500 million in new private and public money has been earmarked for venture investing over the next several years in Illinois, Indiana, Michigan, Ohio and Wisconsin. That’s a significant amount given that the total poured into these five states by venture capitalists last year was $632 million.

In Illinois, Treasurer Judy Baar Topinka is preparing to invest up to 1 percent of her state’s investment portfolio–$50 million to $60 million–in venture funds that have at least one partner based in Illinois.

Although these initiatives are local, they attract money that will flow freely, without regard to state lines, into a region that has long lagged the coasts in attracting risk capital.

The Midwest garners less than 5 percent of the venture capital invested nationally, while the biggest share–44 percent last year–goes to California.

These initiatives come at a critical time, when venture capitalists are having a hard time raising money. That’s prompting Midwest firms to form networks to share information and deals. At the same time, economic development officials are stepping up their efforts to boost the heartland’s profile.

Yet it’s not clear whether this emerging regionalism will produce results.

"You get the feeling people are groping in this direction without a whole lot of understanding as to what they’re trying to achieve," said Steven Lazarus, founder of Chicago-based Arch Venture Partners, which has offices in Albuquerque, Austin, Seattle and New York.

The recently launched fundraising initiatives reflect a deep concern about the region’s economy at a time when the Midwest continues to lose manufacturing jobs, and those that remain are changing.

"There’s a very strong recognition that we have to retool our economy," said Indianapolis lawyer Ronald Gifford, a lobbyist for high-tech initiatives in his state.

"This isn’t your father’s Oldsmobile anymore, where you have a lot of high-paid people working on assembly lines. You now have highly paid people engaged in robotics and computer-driven technologies," he added.

Venture capital, of course, is only one ingredient in spurring activities that revitalize established companies and create new ones.

But the relative scarcity of risk capital in a region that houses some of the nation’s leading research institutions is one reason the Midwest loses talent and technology to states such as California and Massachusetts, experts agree.

Money flows to the best ideas regardless of geography, but venture capital is an inefficient business with a local bias. Investors in very early stage companies typically stick close to home, often within an hour’s drive.

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Going with where money is

Companies get uprooted to areas where money and experienced management is most plentiful–part of a self-reinforcing pattern.

"They migrate to a technology center of gravity, the West Coast or the East Coast," says Mahendra Ramsinghani, director of venture capital initiatives at the non-profit Michigan Economic Development Corp.

"We don’t get a chance to participate in their success," he added.

Midwest leaders are trying to reverse this trend:

– Michigan, which allocated $1 billion over 20 years to building the state’s life sciences industry, invested in four new venture funds that are raising a total of $100 million in private money for scarce "seed" capital. Seed financing is the first money a start-up gets from professional investors.

– Indiana is poised to close on Indiana’s Future Fund, a $100 million fund of funds managed by Credit Suisse First Boston, raised mainly from corporations and universities to invest in life sciences and early stage companies. A fund of funds invests in venture capital pools rather than investing directly in companies.

– Wisconsin’s investment board for public employees’ pension money has earmarked as much as $100 million for two venture capital firms: Baird Venture Partners, headquartered in Milwaukee, and Frazier Technology Ventures, an affiliate of a national firm based in Seattle.

As a result of the investment, Frazier is opening a new Midwest regional office in Madison.

– Ohio legislators recently authorized the use of state franchise taxes to guarantee bonds to be floated by a private, for-profit authority to raise $100 million to create a fund of funds for venture investing.

"Our belief is that all these initiatives in the Midwest will help ensure [that] there’s sufficient capital in the region [so] that we don’t lose our winners," said Stephen Baker, a vice president at Fort Washington Capital Partners in Cincinnati.

His firm manages the Tri-State Growth Capital Fund, a $40 million fund of funds spearheaded by Procter & Gamble and focused within a 150-mile radius of Cincinnati.

Regional alliances forged

Meanwhile, tough times for venture capitalists have awakened an emerging regionalism, with venture backers forming new alliances to share information and find partners to syndicate deals.

An example is the Mid-America Healthcare Investors Network, which meets quarterly near O’Hare International Airport.

Co-founder Dan Broderick, a managing director at Milwaukee-based Mason Wells, said the group began meeting because "the East and West Coast investors were staying at home, babysitting their troubled companies, and we were finding it hard to attract money."

Tom Churchwell of Arch Development Partners has put 40,000 miles on his van in the last 18 months, hosting entrepreneur forums in the greater Chicago area, Peoria, Kalamazoo, Mich., and Cincinnati. Indianapolis is next.

"Five years ago, people said, `If it’s not happening in this state, we don’t want to hear about it,’" Churchwell said. "Today, people are increasingly seeing the competition as California, Massachusetts, New York and Texas–not Michigan or Wisconsin."

Ramsinghani, the Michigan official, works closely with groups in Indiana and Ohio on events such as regional venture capital conferences.

Others are trying to link the region’s "angel" investors–affluent individuals who provide the first outside funding for a start-up.

"You need sufficient numbers of people investing and taking risks to increase the chances of a [profitable] exit" through a sale or merger, said Lynne Baker, executive director of the Midwest Angel Network Association. "You need success stories throughout the region."

Even institutions that compete are sounding a cooperative theme.

Eight universities and research labs in four states–Illinois, Michigan, Minnesota and Wisconsin–in January formed the Midwest Research University Network to connect money and management talent with technology coming out of their institutions.

"All the states are grappling with the same issues–how to kick-start the new economy," said Allen Dines, a University of Wisconsin official.

Despite these efforts, universities continue to vie for research money and top professors, while economic development officials compete fiercely for promising companies.

"Every one of the states wants to be a biotech leader of the 50 states," Dines said.

Also, despite attempts to build regional networks, the chemistry across distances spanning hundreds of miles is much different from that which occurs in a concentrated district. The ideal is where "you go out and have a beer on a Friday night and there are at least 10 other people from other companies who are working in relatively the same area as you are," said Arch Venture’sLazarus.In addition to money, Lazarus said, the Midwest needs key corporations around which start-ups cluster, such as Dell Computer Corp. in Austin, Tex., and Microsoft Corp. in Seattle.

However, he added, "I’m the eternal optimist. If you keep at it, lightning will strike."

Copyright © 2003, Chicago Tribune

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