Venture fund short on punch

By Sean Hao
Advertiser Staff Writer

A state-sponsored $36 million venture capital fund aimed at keeping needy technology and traditional businesses from migrating to the Mainland won't be making investments for a year or more.

Lawmakers this year passed a measure to create the State Private Investment Fund, or SPIF, starting in July, and Gov. Linda Lingle is expected to sign the bill. However, now it appears the move was a token gesture to the state's technology industry because even if the bill becomes law, the fund cannot invest money without additional legislative authorization. That authority is unlikely to come until next year's Legislative session at the earliest.

That not only means a delay in getting the fund open and investing, but could also result in higher costs, if interest rates continue to climb, said John Chock, president of the Hawai'i Strategic Development Corp., which would manage the program.

"That's absolutely a very real factor right now," he said. "We've been in a very favorable interest rate environment, and we're all aware interest rates are starting to show signs of heading upward."

Modeled after a similar program started in Oklahoma during the 1990s, SPIF was hailed by proponents as a low-cost way to boost the level of venture capital investment in Hawai'i for local businesses looking to grow. The program's approach would differ from the state's seed capital, or "angel" investment, incentives created under Act 221, which would be extended through 2010 under the bill.

The SPIF program is designed to augment Act 221 by providing local businesses with access to later-stage financing or expansion capital.

Both incentives are meant to fill a projected need for venture capital among Hawai'i companies of $233 million during the next five years, according to an Enterprise Honolulu study.

Lawmakers generally supported SPIF's goals, but felt more study was needed, said state Rep. Brian Schatz, D-25th (Makiki, Tantalus), chairman of the economic development committee. Debate over extending and tightening eligibility requirements for Act 221 technology tax credits sidelined SPIF deliberations, he said.

"Everybody is very supportive of the fund, but there was a feeling that we hadn't done enough due diligence," Schatz said. "The effort of everyone focusing on the Act 221 part of the legislation meant there was very little scrutiny of the SPIF part of the legislation.

"Act 221 was complicated enough, but to add to it this brand-new program was too much to do in a three-month time period."

Without the program, technology industry leaders worry that local companies will be forced to move to the Mainland to find investors — a situation that occurred earlier this year when networking company Firetide Inc. announced its headquarters moved from Honolulu to Los Gatos, Calif. The company maintains research and development operations in Honolulu.

Other promising Hawai'i high-tech companies such as Hoku Scientific Inc. could be faced with a similar decision, if forced to look abroad for investors.

"That's not necessarily good for Hawai'i because the more investors we have outside Hawai'i the greater the likelihood that they'll ask us to move or tell us," said Hoku President Dustin Shindo. "We're at the stage in the business now where something like that could make a significant difference."

Hoku is developing technology to make more efficient fuel cells.

Under the proposed program, the state would borrow up to $36 million. That money would be placed with venture capital funds, which would leverage the money with private capital and invest in start-up companies or established companies looking to expand.

The investments create tax credits, which provide a guarantee on repayment of the state's loan. However, the credits would not immediately drain the state's general fund, because they aren't sold until the fund is terminated — and then only if there is a shortfall after management and interest fees are accounted for.

Historically, such venture capital funds have generated annual returns of 15 percent to 20 percent, Chock said, meaning that the program may not cut into state coffers.

The decision to further debate the merits of SPIF next year shouldn't delay the start of the program because it has typically taken several years to create similar funds in other states, Schatz said.

However, HSDC, which already runs a program that directly invests state money in local companies, had hoped to cut the time needed to create SPIF, Chock said. Without the state's full backing, securing commitments from lenders, purchasers of tax credits and fund managers may be difficult, he said.

"All of them will want to be assured that this is going to happen before they get involved," Chock said. "In essence, as we stand today, we have no formal authorization to do anything except to talk about what's to come."

Given the lack of a track record of the type of venture capital incentive being considered, caution in adopting such a program is warranted, said Paul Zemitzsch, a spokesman for the Growth Capital Alliance, a trade group for the venture capital industry.

Much of the program's support rests on the promise that it could spur millions of dollars in investment for local companies without costing the state a dime. That ignores management fees that can run into millions of dollars, Zemitzsch said. In Oklahoma, the only state where the program has a history, there is no tracking of the number of jobs created.

"It sounds too good to be true and it generally has been," Zemitzsch said.

"There is no free lunch."

Still, SPIF and Act 221 are important building blocks if the state is to attract and retain technology companies, said Anton Krucky, president and chief executive of Tissue Genesis.

"They make for not only good practical additions to building industries but they're also indicators for the state that we want industries to build," he said.

Located in Kaka'ako, Tissue Genesis is developing tissue replacement products to improve survival rates for trauma injuries, cardiovascular diseases, cancer and metabolic diseases.

Bill Richardson, a general partner of local venture capital firm HMS Hawai'i, also supports the creation of the fund.

However, Richardson doubted lawmakers would follow through with the program after balking this year.

"I think it's been needed for 10 years," he said. "I'm not disappointed because I wasn't expecting much.

"Don't get me wrong," said the 49-year-old Richardson. "I think it might happen, just not in my lifetime."

Reach Sean Hao at shao@honoluluadvertiser.com or 525-8093.