Texas Venture Capital Market “Weak,” But Still Shows Promise

[Corrected 5/24/13, 8:23 am. See below.] Blair Garrou came to Houston in 1996, intending to stay four years while his wife completed her degree in veterinary medicine at Texas A&M University in nearby College Station. He was working in the banking industry, focusing on energy, but as the price of oil fell to $10 a barrel in the late 1990s, Garrou began to seek out opportunities in technology, a sector he specialized in during his time at Deloitte & Touche in Washington, DC.

In 1999, Garrou, an Xconomist, became one of the first employees at the Houston Technology Center, a startup accelerator, and soon rose to become its director of operations. He was also one of the founders of the Houston Angel Network. [An earlier version of this paragraph stated that Garrou became chairman of the group. We regret the error.] Today, he is a managing director at Mercury Fund, a venture capital firm founded in 2005. Garrou, unsurprisingly, now considers the city home. “Houston has been incredibly open about allowing me take on different roles and really create my career here,” he says. “I have a vested stake here to see”  these fledgling investments—and Houston—succeed.

I sat down with Garrou last week at a Spanish café in Houston’s Rice Village, just down the street from the Texas Medical Center, to speak about Texas’ startup community, challenges to growing a VC community in the state, and why some Texas investors feel more comfortable investing in a wildcatter than a tech startup. Below is an edited transcript of that conversation.

Xconomy: How would you describe the Texas VC market right now?

Blair Garrou: Really weak. Weakest it’s been since the early ’90s. In the mid-’90s, we saw the rise of companies in Austin, semiconductors, software was big. We had successful funds like Austin Ventures and, because of that, Austin was the third city. You had the Valley and San Francisco, Boston, and Austin. But a lot of funds that were raised during ’95 to 2000, virtually none of those funds have survived. They had a couple of funds into a great era, and almost none of them survived the dotcom bust.

Fast forward to what we got in 2005, and we’re left with a state where there’s really only 5 or 6 of us doing a couple of deals a quarter. In Houston, Mercury was the only active tech venture fund. There are a few others here that are focused specifically on the energy niche. What Texas really needs is a couple of more funds that entrepreneurs can count on as being active. Texas set up the Emerging Technology Fund instead of working with VCs to invest in companies. They decided the state should directly invest in companies and this did not attract venture capital into the state. A lot of states, especially in the Midwest—Wisconsin, Pennsylvania, Ohio–have been much more progressive about putting state money together for attracting capital, for attracting venture capital to come in and take a look at what’s going on in their states.

X: What are those states doing differently? Why not directly give to companies?

BG: If you look at a 10- to 15-year period, when the state (of Texas) was setting up all these committees to decide where investment would go, those committees, it’s not their job is to do venture capital. It’s more than just giving out money to entrepreneurs. It’s about building a network of other investors to leverage capital and find other investments for second-stage rounds. If a similar fund would have been set up to give to VCs to attract them here from out of state and to expand their networks outward, we would’ve seen much more success.

X: What are the main differences between the metro markets here in terms of robust pipelines, healthy investments, and sectors?

BG: Austin is the dominant market with a much more robust tech economy. It’s strong across software verticals, as well as semiconductor and hardware. Dallas was just telecom; that just went away. You’ll have a deal here or there in software or in the Internet realm, but there just isn’t critical mass. It’s really sad. Houston has strength in energy. There is the BMC [Software] network. Other software companies here are much more around energy and industrial manufacturing. There are VCs from out-of-state who will come in and invest in Austin companies, and we are seeing interesting opportunities  spinning out of Bazaarvoice and HomeAway. There’s a burgeoning e-commerce platform community in Austin with shopping cart companies like Bigcommerce. Ebay has as interesting presence there with the X.commerce team. In San Antonio, Rackspace dominates with its open-cloud initiative. We hope to see lot of interesting things there. There is lots of activity coming out of seed accelerators. There is Tech Wildcatters in Dallas, Austin has Dreamit Ventures and now TechStars Austin. These accelerators aggregate mentor talent, entrepreneurs and deal flow. It’s a big plus.

X: Where does Texas stand in relation to the two coasts regarding a VC community and available investments?

BG: We see way too many deals that need funding that we don’t have the capacity for. We’re too small a fund. We average between 4 to 6 deals a year. Austin Ventures will do 6 to 8. Silverton Partners is like us in terms of deal velocity. We see three or four deals a quarter that are high quality that we don’t have the capital resources to put to work. It’s not a matter that the deals aren’t out there. Lack of capital is partially it. When an outside VC comes in, it has a signaling effect. They wonder why one of us hasn’t invested and they just don’t buy the fact that we’re busy.

X: But there’s lots of money in Texas. Why the lack of capital?

BG: There is a lot of money in Texas. Much of the private equity capital is invested in oil and gas and real estate. Many individual angel investors are more comfortable with these types of investments than in startup technology and life science companies. Building entrepreneurial teams around technology and innovation is difficult. It’s not what they do. It’s harder to raise seed capital here for technology projects; it’s easier for energy. People here will put money into a wildcatting operation but not an Internet startup. Many individual angel investors are more comfortable with these types of investments then in startup technology and life science companies. Much of this is due to dealflow access and sector knowledge.

X: It used to be that startups, once successful, would have to relocate to either Silicon Valley or Boston because that’s where the critical mass was. Is that still true? How is Texas doing in creating its own startup ecosystem?

BG: It’s starting to change. We’ve seen a number of talented executives who have been educated on the coast—working, not just schooling—who now have a family and are looking to come back to Texas. We take calls every week from executives from LA, San Francisco, Boston. What they want to know is, is there capital? Are there interesting ideas?

Workforce is another issue. There are consumer Internet companies being formed in Houston all the time. But if you actually become successful, where are you going to pull that talent from? Having Facebook, Google, Amazon in your backyard makes a difference. We don’t have Big Pharma producing capable executive-level managers here. We’re interested in big data platforms within healthcare and within energy, and leveraging some of the regional-industry ecosystem strengths. If groups like [Houston accelerator] Surge are successful in building more manager-ready individuals, hopefully the out-of-state movement will change.

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