Should VCs Hold the Key to Access Government Money?

Posted by: Jeff Bussgang on July 16

There is a controversy brewing in the world of government grant money to start-ups that is trickling into the VC community. The Small Business Association (SBA) of the US government administers Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) provides grants to small businesses (defined as fewer than 500 employees) to the tune of $2 billion per year. This compares to $20-30 billion per year in VC money that flows to start-ups, a meaningful figure in the entrepreneurial economy.

But the two worlds of VC-backed start-ups and SBIR grants have mixed like oil and water historically due to a key restriction in grant eligibility: start-ups that are 51% or more owned by VCs do not qualify for SBIR or SBTR grants. Thus, a young start-up in a field relevant to the government grant world has a conundrum when it considers taking VC money - it no longer will be eligible to receive non-dilutive government grants.

Many VCs argue this is a ridiculous exclusion that is fostering an adverse selection problem. The economy is awash in VC money and so only the less promising start-ups aren't getting it. Instead, they get taxpayer-funded government money. The most promising start-ups who can get VC money are not eligible for government money. Hence, the government is serving as a funder of last resort to companies who the invisible hand of the market has rejected.

That may sound like an overly harsh view, but it is one that the NVCA (National Venture Capital Association) is arguing as they try to get the Senate and House to agree to loosen the restriction. Mark Hessen of the NVCA points out that "Venture capitalists have funded well over 90% of all the biotech firms in the United States".

It is an interesting debate and the House and Senate are in the midst of it. I confess to being sympathetic to both views. My father was an entrepreneur in the 1960s and 1970s who received government grant money to foster his innovations in the defense electronics community. At the time, though, the VC community was miniscule compared to today. In 1980, the VC industry comprised of under 100 firms with a mere $4 billion under management. Today, there are 700 firms with over $250 billion under management. It's hard to argue that just because a firm is successful in attracting VC money, it is unworthy of government support. The fact that SBIR applications have been dropping sharply in recent years (down 12%, 15% and 21% in FY'05, FY'06, FY'07) is a clear signal that something in the system needs to change.

Reader Comments

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July 16, 2008 11:30 PM

Maybe it's time for a compromise of sorts. If the business creates something of use by a government agency and creates long term jobs, it should qualify for government funding. If the business is fully private and has no aims to sell anything specific to a government agency, it should be allowed to raise only VC capital.

For example, I have an idea for weapon components useful to the military. I can qualify for government support. On the other side of town, my friend is setting up an electronics business to build components that might be useful for MP3 player makers. she doesn't get any government support and should rely on VCs.

Let's make the government a smart shopper and draw direct gain from its investments while letting consumer and business targeted ideas survive in the open marketplace without subsidies.

The only other exception I can think of would be something applicable to national security according to the government agencies responsible for the task of maintaining it.

Thank you for your interest. This blog is no longer active.

 

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Staying Entrepreneurial contributors

Renowned executive coach Marshall Goldsmith, serial entrepreneur Jeff Bussgang, a partner at Flybridge Capital in Boston, and Dr. Steven Berglas, executive coach, management consultant, and expert on "the stress of success," share their tips for staying entrepreneurial in trying times.

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