Saturday, January 21, 2012

Venture or vulture?

Are venture capitalists vultures? A couple of days ago, WBUR aired a segment debating whether venture capitalists are good or bad for the economy and for employees. Listening made me think with pride of both my parents.

First, said the commentators, it's important to distinguish between venture capital and private equity. Venture capitalists fund start-ups. Private equity funds (like Bain Capital) buy existing companies, often struggling ones, and try to turn them around. Usually, private equity funds borrow a large portion of the money they use to buy the company. The company shoulders that new debt, which means that it must immediately cut costs or start making more money. Debt means the company has to tighten operations, which often means trimming the payroll. On some occasions, the "vultures" buy the company for its tangible assets and not because they expect the company to become profitable. In this case, the buyers may split the company, putting property and equipment in one half of the company which they then sell off, repaying themselves handsomely for their investment. The shell remainder of the company can then be left to fail, and its employees lose their jobs.

Venture capital grew up in the United States between 1957, when my father Robert Noyce and seven colleagues started Fairchild Semiconductor, and 1968, when he and Gordon Moore started Intel. Fairchild Semiconductor had to be started within, and be funded by, another company. By the time Intel started, potential investors beat on the doors asking to be let in on the deal. Venture capital allowed the electronics industry to burst forth as a major employer and engine for national growth in the sixties.

When he had the chance, my father sought to "restock the stream" that had nurtured him. Rather than joining a traditional venture capital firm, he became what's now called an "angel" investor, putting money into very early-stage startups that were often little more than a couple of bright young people with a great technical idea. He was devoted to the companies he invested in. In The Man Behind the Microchip, Leslie Berlin details how when one such company, Caere, came near to closing its doors, my father protested against a shutdown. "We have people," he said. "We need to keep it open. We have a responsibility to the employees and their families." To back up his words, he wrote a blank check and gave it to the CEO. "Don't make it out for more than a million dollars," he said. "That's all I have in that account." CAERE, a maker of barcode readers and later text readers, survived and eventually thrived.

That's good venture capital. But can you imagine the number-crunchers at Bain uttering sentimental words about responsibility to employees and their families? It's not that my father never laid people off to save a company, including Intel. He did. But first he stopped taking a salary himself. Laying people off was always an acutely painful last resort.

After my parents' divorce, my mother suddenly realized that she, too, had money to invest. She didn't become a venture capitalist, because she never shared my father's love of novelty and risk. But she did develop a philosophy that creating or preserving someone's job was the most effective form of philanthropy. At one point, Maine-based Nissen Bakery came up for sale. A decent family-owned business, Nissen badly needed major investment to upgrade its factory in order to stay competitive. Perhaps a private equity firm could have swooped in, borrowing enough to build a new Nissen factory, but such a firm might well have moved the company to some location with cheaper personnel or lower heating or transportation costs. My mother, instead, used her considerable wealth to buy the company outright with no outside financing. She invested enough that Nissen could build a state-of-the-art new factory right in Maine. After my mother died and the bulk of her estate went into the Libra Foundation, Nissen had to be sold. (A charitable corporation can't keep owning a business like that.) But by that time Nissen was thriving enough that the buyer moved more business into, rather than out of, Maine.

It's possible to invest money, take risks, and keep the interests of employees and the community in mind even when working to make a business efficient and profitable. The people who do so are real contributors to our society, and building for the future is what motivates them and makes their work fun. Maybe we should call them "adventure capitalists."


Sol said...

Thanks, for a very thoughtful piece. There is so much heat and so little light in the current political debate that it is easy to lose sight of what makes our country strong and what true patriots have done. Adventure capitalism, indeed.

Penny said...

I forgot to mention that Nissen did make a nice profit by the time the Libra Foundation sold it. Patient capital can pay off.

Modofac said...

Well put! Another little known fact is that the majority of capital provided to venture capital and private equity funds is from university endowments and pension funds. 80% of all the profits generated by venture capital and private equity firms go to support teachers, auto workers, fire fighters, police and other unionized workers.

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