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Enhancing Venture Capital to Drive Innovation

To create the new jobs needed in our nation, and make sure our world-leading creativity and innovation ends up creating new businesses, we need deeper pools of venture and early stage capital.

Nowhere are jobs needed more than in the Midwest manufacturing belt. A recent Brookings Metropolitan Policy Program report authored by Cleveland’s Frank Samuel suggests how we might better link new technology discovery going on in the ‘Rust Belt” to new firm creation. It turns out the industrial heartland reaching from Minneapolis, Milwaukee, and St. Louis in the west to Cleveland, Pittsburgh and Buffalo in the east produces on metrics associated with innovation: 33 percent of all national R&D, 35 percent of all nationally competitive National Institute of Health (NIH) grants; 30 percent of all U.S. patents awarded; and educating 36 percent of all U.S. scientists and engineers.

However only 12 percent of the nation’s venture capital gets invested in the region to convert technology discovery to new firms and jobs Even more disturbingly, the Rust Belt’s deep pockets in terms of sizable state and local pension funds that do put money into VC, are essentially sending it to the coasts. Fully 47 percent of the nation’s public pension fund venture money comes from the Rust Belt--but only 13 percent of that money is reinvested in Great Lakes region commercialization.

This dearth of early stage capital is not just a regional problem--but one of national significance--and a threat to the U.S. position as the world’s innovation engine.

Where once our nation’s corporations funded new products from research and concept--all the way through to commercialization and sales -- they increasingly “farm out” this work--looking to venture and early stage investors (angel groups) to make the bets--and then buy the companies and products once proven successful. In the tight investment climate of recent years VC firms are focusing more on sure bets, ideas in later stages of development, and early stage capital is increasingly scarce. And what early capital is being spent, is being spent in a few places on the coasts where the best established and bigger VC firms are--missing both the need and opportunity to translate the research and innovation coming out of the Midwest and the rest of our country--into new firms, new jobs and ultimately new manufacturing opportunities (that are now being seized by China). 

The nation needs a more aggressive federal policy to aid early stage capital, if we are to aid small business growth with smart, market-oriented solutions.

A way forward is shown by these same Midwestern metro communities, who helped by state governments and philanthropy, aren’t standing still: In St. Louis, the Danforth and McDonnell Foundations have formed two life sciences funds, Vectis I and II, raising hundreds of million dollars. Wisconsin has spent over $200 million for venture investments, and has recently catalyzed a network of angel investors to support early stage capital. In Ohio BioEnterprise-Cleveland--backed by the region’s philanthropies--has raised $880 million to support 90 medical device and health care companies in since 2002. Independent evaluation by SRI Strategies of Ohio’s Third Frontier Initiative, a state-wide VC-building effort, reports for every $1 of state funding, $43 was invested by private investors, delivering 41,000 new jobs and $6.6 billion of new economic activity. In Pittsburgh, InnovationWorks, one of the four regional catalytic enterprises supported by the Pennsylvania’s Ben Franklin program, invested $37 million in 107 technology startups from 1999-2006 and attracted follow-on investments of $440 million. 

In my home state of Michigan--desperate to diversify from its auto base--VC firms are growing. Arboretum Ventures just closed on a second $75 million fund to commercialize new medical products; Ann Arbor-based RPM Ventures raised $60 million for promising information technologies emerging from the Michigan research base.

And as Michigan-based Jeff Bocan, managing director of Beringea, reports, “There is a lot more to do to show the national investment community the good deals in the Midwest, the emerging quality of local VC firms, and to create more opportunity for “talent” like me, coming from the coasts, to locate and manage money in the region.”

The Brookings report lays out what states, metros, and the private sector can do to grow this critical mass of venture capital, including building a $2 billion-plus region-wide fund of funds, expanding state government venture capital funds and tax credits; supporting the work of metro-level “catalytic organizations” that use private market discipline to help venture investors from around the country spot good deals emerging from their research base whether in San Diego or Buffalo, Palo Alto or Ann Arbor.

Solving this innovation challenge is important to maintain America’s role as the creative economy hot-house. If the nation and its hardest hit communities are going to keep our innovation edge--and ensure innovation translates into new firms, and also leads to new production opportunities and jobs in the U.S.--we have to get serious about filling in the early stage capital continuum.