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MVCA Report Reveals Strengths, Weaknesses of MI’s Capital Community

Xconomy Detroit/Ann Arbor — 

The Michigan Venture Capital Association (MVCA) hosted a town hall meeting in downtown Detroit Tuesday to discuss the contents of its annual report, which takes a deep dive into the state’s venture investing ecosystem to get a sense of the current landscape and how it compares not only to past years, but the rest of the country.

The good news is that local VCs now have 15 years of solid data confirming the importance of VC firms, venture-backed startups, and angel investors to Michigan’s economic growth. (The MVCA also reported that 98 percent of members asked to submit data responded, so the numbers are conclusive.) The bad news is that, although Michigan does a better job of including underrepresented groups like women and people of color in the tech startup ecosystem than many other places, the data reveals that investors have a significant confirmation bias that continues to get in the way of underrepresented entrepreneurs finding funding for their companies.

During the town hall meeting, Maureen Miller Brosnan, the MVCA’s executive director, thanked the organization’s board repeatedly for having the “bravery” to examine diversity statistics in the first place. (The MVCA itself is an oasis of diversity, as it is run by three women.)

“We’re one of the first states in the U.S. to look at it this way,” she said in a phone interview before the town hall meeting. “The board made a decision as a matter of policy and practice to look at where we stand. We spent some time last year establishing the baseline, and we’re really excited to do the follow-up work.”

We’ll get back to the diversity issue in a minute. First, let’s look at some of the key findings from this year’s report:

—Despite a national decrease, the number of venture capital firms headquartered in Michigan, their total capital under management, and number of venture capital investments made in the state has doubled and, in some cases, tripled.

—The total amount of capital under management by Michigan-based VC firms continues to grow: It’s now at $2.2 billion, a 47 percent increase in the last five years. There are 36 VC firms headquartered in Michigan, representing a 33 percent increase in the past five years. At the town hall event, Brosnan said Michigan lost two VC firms in 2016, but a new one, Three Leaf Ventures, opened to help offset the loss.

—Out-of-state investors continue to pour money into Michigan startups. Out of the total $5.26 billion in venture capital currently deployed in the state, $3.05 billion comes from investors outside of Michigan. Perhaps the most stunning statistic in the report is that every dollar invested in a Michigan startup by a Michigan VC firm attracts $4.31 from an outstate investor.

—There are currently 141 venture-backed portfolio companies in Michigan, a 48 percent increase in the last five years. Seventy-four companies in Michigan received more than $282 million from Michigan venture capital firms in 2015, a 48 percent increase in the last five years.

—There are now 128 startup companies in Michigan that have received funding from a Michigan angel group, a 42 percent increase in the last five years. With 294 investors across nine angel groups in the state, there has been a 59 percent increase in angel participation in the past five years. Last year, angel groups invested more than $16 million in Michigan startups.

—Michigan life science startups received the most venture capital in 2015, attracting 42 percent of capital deployed, while IT startups were in close second at 38 percent of capital deployed. In comparison, startups in the advanced manufacturing and materials sector scored 8 percent of the capital deployed.

—There were a couple of worrying statistics that revealed Michigan has a few capital gaps. According to the report, local VC firms have reserved about $387 million for follow-on funding for existing portfolio companies based in the Great Lakes State despite those same companies estimating they need $661 million in follow-on funding. In 2015, Michigan VC firms had a fundraising target of $599 million. The total amount raised in 2015 was $389 million, 35 percent less than targeted.

Overall, Brosnan said, the biggest finding is that Michigan is doing well in the realm of venture capital compared to the rest of the nation—and sometimes better than the rest of the nation. “We’re still a relatively young community, but while we see the rest of the nation contracting, we’re seeing Michigan continue to grow,” Brosnan added. “Why? Because we have a combination of research, talent, and ideas, and outstate investors are seeing that their dollars go far here. However, all that money coming in from outside the state should make our Legislature leery that [venture-backed] companies could leave.”

In an attempt to convince legislators that the money it appropriates toward the state’s “fund of funds,” the creation of which kicked off Michigan’s entrepreneurial renaissance about 10 years ago, Brosnan has been making frequent trips to Lansing to plead the MVCA’s case. Just last week, she was there celebrating the adoption of Senate Resolution 0162, introduced by Sen. Rebekah Warren (D-Ann Arbor), which designates April 17-23 as Michigan Venture Capital and Angel Investment Week.

“Folks sometimes don’t understand the size of the industry here—it’s a $2.2 billion industry, which is a 47 percent increase over five years,” Brosnan said. “It’s driving a significant portion of Michigan’s economy.”

Brosnan said that going forward, the MVCA is working to develop a public-private approach to keeping the state’s startup ecosystem supplied with enough cash in a legislative environment that is currently allergic to “picking winners and losers,” which is how some conservative politicians characterize funding for resources that support entrepreneurship. For the first time since it began tracking these numbers, the MVCA experienced a drop in membership in 2016, she said, and that combined with fundraising shortfalls could signal that investors are finding Michigan less hospitable than other parts of the country. If investors begin to pull out of Michigan, it will create a dire access to capital situation, Brosnan noted.

“The uncertainty makes it more difficult,” she said. However, Brosnan is encouraged by the results so far of her trips to Lansing. The more educational outreach the MVCA does with legislators, she said, the more receptive they become.

Where there’s still a bit of a disconnect in the ecosystem itself is in the area of diversity, and who is able to access the opportunities and capital that startups need to succeed. Diversity in tech and VC has become a national conversation in part because of the community’s conviction that it operates as a pure meritocracy, only funding the ideas that are most worthy. Unfortunately, the MVCA’s data reveals that’s not entirely true.

The MVCA collaborated with the University of Michigan’s law school to analyze local diversity data compared other states and the country at large. Of the 128 venture professionals working in Michigan, 28 percent qualify as diverse, which is dramatically higher than the industry’s national diversity rates. Twelve of the state’s 141 venture-backed companies had a minority CEO in 2015, and 14 had a female CEO—figures that also exceed the national benchmarks. The news gets worse from there.

Michigan-based VCs invested $282 million in 74 local companies in 2015, and just $6.8 million of that money—an embarrassingly paltry 2 percent—was invested in portfolio companies led by a woman, person of color, or an LGBTQ person. Eighty-two percent of the state’s venture-backed portfolio companies are led by white men.

One organization trying to address some of the gaps illuminated by the MVCA report is Inforum, an effort backed by the Michigan Economic Development Corporation (MEDC) and the largest professional group of female STEM professionals in Michigan. Rachele Downs, Inforum’s vice president of entrepreneurial strategies, said the organization’s goals include addressing the lack of women in high-tech verticals and helping women who are working in technology to better leverage their networks. It also offers technical assistance programs like Ingage and Master Class to help women understand the process of building a successful startup.

“There’s a benefit to providing gender-specific forums,” Downs explained. “Women might not feel comfortable discussing their ideas in a mixed-gender environment. We get them ready for prime time, and they can get information, connect to the community, and improve their access to subject matter experts.”

With the MVCA’s report confirming a stark level of bias in Michigan’s investing landscape, Downs said a lot of Inforum’s work involves coaching women and helping them hone their pitches to VCs, making sure they have the value proposition down and can tell their startup’s story in a way that highlights the positive momentum investors seek.

One hears this a lot, the idea that women startup founders need to modify what they’re doing to appear more, for lack of a better term, attractive to investors. So I asked Downs and Denise Graves, the MEDC’s director of university relations, who was also on our conference call, if there was ever any discussion among entrepreneurial service providers about teaching investors how to be more open to ideas from people who don’t look like them. (Sensitivity training is not my favorite phrase or concept, but something along those lines.)

After a pause, Downs said, “No.”

“That would just be poking the bear,” Graves added.

Instead, Inforum’s approach is to diversify Michigan’s investor class by teaching women how to get involved with angel investing. “That’s a big focus for 2016,” Downs said, noting that more than half of Inforum’s members are eligible to become accredited investors. “Diversity in Michigan’s venture and angel communities outpaces the nation, but we still have a long way to go. I don’t believe a fund just for women is necessarily the answer. Encouraging more women to get involved in investing will organically change who’s making the decisions and who gets money.”

So far, Downs said, 55 women entrepreneurs have graduated from Inforum programs, founding 27 startups, creating 101 jobs, and raising $15 million in follow-on funding.

“That’s why the work we do [with investors] involves delivering repeated messages on missed opportunities,” Downs said. “You have to frame it as a business issue as opposed to a social justice issue. You have to meet people where they are. There’s a huge opportunity yet to be realized, but there’s no silver bullet.”

“It starts with a change in mindset,” the MVCA’s Brosnan echoed, adding that the National Venture Capital Association recently decided to include diversity data in its annual report. “People don’t recognize that they have a diversity problem. Now that we know the numbers, we have a diversity opportunity.”