More than 130 startups sought capital this year from a state-backed fund, far exceeding expectations and serving as another example of the need for funding at the earliest stages of the capital continuum.
Startups in need of funding today have many more options available to them for investment capital compared to years ago. But despite the growth in venture capital, angel investing and other funding sources over the last decade, an “absolute gap” persists in what Fred Molnar of the Michigan Economic Development Corp. calls the “very, very early” stage.
“There are more good companies to invest in than capital to invest. There are a lot of great ideas in the state and there’s not enough capital to fulfill and to help with those ideas,” said Molnar, the MEDC’s vice president of entrepreneurship and innovation. “You’re always going to be that way. You could flood the market with money and you’re always going to have more ideas than money. You’re always going to have people saying ‘I have the best idea, I need some money.’”
The MEDC this year sought to address the situation with the creation of two funds: the Proof of Concept Fund, which awards up to $40,000 to university researchers to commercialize an innovation; and the First Capital Fund, which provides startups up to $150,000 to move them along the commercialization pathway.
Administered by Invest Detroit Ventures, the $3.2 million, two-year First Capital Fund so far has awarded 14 companies a collective $1.4 million.
The number of applications to the fund — backed with $2 million from the MEDC and $1.2 million in private capital — far exceeded expectations, Molnar said. He intends to include another $2 million in the MEDC’s budget proposal for the 2019 fiscal year.
Of the 14 companies awarded funding so far, only one was from West Michigan: Portage-based Micro-LAM Technologies Inc., which manufactures high-tech laser-assisted machining tools.
“Unfortunately, we have not received many applications from that side of the state, and one of our goals in early 2018 is to work with partners out there to get additional word out to early stage companies in that region,” Martin Dober, managing director of Invest Detroit Ventures, wrote in an email to MiBiz. “We’d love to see more applications from Grand Rapids and the west side of the state.”
The high demand for funding from the First Capital Fund is indicative of one of a pair of glaring gaps in the capital continuum in the state. On the other end of the spectrum, later-stage companies that need large capital investments of $60 million or more still need to go outside of Michigan, according to Molnar and others.
‘LIGHT YEARS AHEAD’
Even with those two gaps, Michigan companies have far more access to capital today than they have had at any time in the past. For instance, at the beginning of 2017, the 10 Michigan-based angel investment groups that invest in startups had more than 340 active members combined, up more than 60 percent from six years earlier.
Those angel groups are more sophisticated in how they operate and often collaborate with one another on deals, said Tim Parker, president of Holland-based Grand Angels LLC and the Grand Angels Venture Fund.
“We are light years ahead,” he said. “We’re more organized and we coordinate between groups — the venture capital funds and the angel groups — and that’s been very positive. The state is becoming more professional in the early stages of business investment, and I think the deals are going more smoothly as we negotiate them and implement them. We’re realizing the importance of working with our portfolio companies to help them grow along the way rather than just investing and waiting for a return.”
Grand Angels to date has invested a little more than $2 million in eight deals, six of which were follow-on investments in existing portfolio companies. Five of the deals were syndicated with other angel or venture capital investors in the state that put in another $2 million, Parker said.
This summer, Grand Angels formed an affiliate in Kalamazoo and wants to identify opportunities to create affiliates in other markets around the state.
VC INVESTMENT INCREASES
Across Michigan, venture capital investing also has been growing steadily for years.
Between 2011 and 2016, the number of active Michigan companies backed by venture capital grew 48 percent to 141 and the number of venture professionals working and investing in the state increased 41 percent, according to the Michigan Venture Capital Association’s annual research report.
The number of venture capital firms based in the state grew 25 percent during the same period, total capital under management increased 60 percent, and startups receiving funding grew 42 percent. Available capital for new investments increased 55 percent to $568 million in 2016 compared to 2011, according to the MVCA.
The MVCA’s 2017 annual report noted that venture capital firms had about $424 million available for follow-on investments in existing portfolio companies in Michigan. That’s up 10 percent from a year earlier, but short of the estimated $504 million demand in the next few years.
Another report issued last spring by MiQuest and the Small Business Association of Michigan noted that Michigan ranked 16th in the U.S. for seed capital and early-stage venture capital, up from 33rd a decade earlier. The state was 27th for second- and third-stage VC in 2015, down three positions from 2005 and an indication of the capital gap at the latter stages.
“All things considered, we’re in a pretty good position (for access to capital) and we’ll see where it goes from there,” Molnar said. “The early rounds of venture capital, I think, are covered really well. Where we’re having (gaps) from a state perspective is almost both ends of the spectrum, the very early stage (pre-VC) and then the later stage venture capital.”
‘IN PRETTY GOOD SHAPE’
Despite the progress of the past several years, Michigan continues to rank in the middle among the 50 states for access to capital, particularly as other states continue to advance.
An annual report issued this month from the Business Leaders for Michigan ranked Michigan 26th in the U.S. for venture capital investments per $100,000 of gross domestic product, which was trending downward compared to other states.
Michigan does far better than peer states in VC investments, but is “substantially lower” than the top 10 states, according to the benchmarking report.
Even with the continued push to build the VC industry in Michigan, BLM CEO Doug Rothwell doubts the state can ever rival the top states such as California and Massachusetts for investments.
“Most of the entrepreneurship metrics are around middle of the pack, and that’s a big step up from where we were maybe a decade ago. Even on venture capital, we’re probably average to slightly above average,” Rothwell said. “But it’s hard to believe that we’ll ever come up much further because there’s such a huge increase you’d have to get to be like a California or Massachusetts.
“I think actually we don’t have a lot of work to do. I think we’re probably in pretty good shape.”
MiBiz Staff Writer Nick Manes contributed to this report.