SBIR Gateway VC Discussion Group
(Archived May 2004)
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The question is: Should the rules be changed to allow small businesses that are majority owned and controlled by large VC organizations to compete with other small businesses for SBIR Funding?

  99 messages
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10/15/03
  16:45:41
Fred Patterson Austin, TX
Msg 1 of 99
One of the great aspects of the SBIR Program is that there is a level playing field for the competition for awards.

This proposed change would give the newly qualifying companies distinct economic and strategic resource advantage over the typical applicant, and that's just not fair.

This change serves the interests of large VC and Biotech organizations who desire to control a piece of the SBIR action for which they have heretofore not qualified.

This proposed change certainly should not be discussed in a rush, and, in my opinion, should not be approved.

I plan to say just that to my congressional representatives in both the House and Senate.

Fred Patterson
The SBIR Coach

Vote:   NO 
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10/15/03
  21:37:08
Eugene (Gene) Watson Laramie, WY
Msg 2 of 99
Subject: VC Welfare

Dear ZYN:

Thank you for providing this forum for the legitimate small business community to counter an organized and well-financed assault on the integrity of the SBA's long-established size eligibility rules.

This attempt by the VC/BIO community to establish corporate welfare in its purest form ("VC welfare") must be defeated. If the VC position prevails, legitimate small businesses will be crowded out of the SBIR competition by the large financial organizations whose huge investments are funneled through VC entities. How can it be rationalized that organizations that are otherwise ineligible for SBIR funding can become eligible simply by making their investments through the VC conduit? If allowed, what is there to prevent large organizations from creating captive VC entities to circumvent the eligibility rules? The "camels nose under the tent" metaphor comes to mind.

Pasted in below are excerpts from my recent communication to cognizant congressional and administration staff.

"1. Contrary to the impression created (by the VC and BIO communities), the current SBIR eligibility rules do not exclude <50% VC-backed (as opposed to VC-owned and controlled) small businesses. These rules do, however, properly exclude those businesses that are majority owned and controlled by entities other than individuals, VC's included.

2. VC organizations are conduits for the investment of hundreds of billions of dollars on behalf of large institutional investors such as pension funds. It is unfair and unwarranted for small businesses owned by individuals to have to compete with these huge financial organizations for limited SBIR funds. SBA rules governing SBIR eligibility correctly anticipate and prohibit such an eventuality.

3. BIO's assertion that "...SBIR awards (for their industry) are even more important because of the scarcity of capital." is brought into question by their revelation that VC investments in the biotechnology and medical device industry totaled $4.7 billion in 2002. This is 3 times the entire 2002 SBIR budget for R&D in all areas of technology, not just bio-tech. Their assertion is also called into question by a September 29 Business Week article stating that the VC industry currently has a near record $84 billion in uncommitted funds.

4. The SBIR program requires that 10 federal agencies set aside 2.5% of their annual extramural R&D budgets to be accessed exclusively by individually owned and controlled small businesses. VC owned and controlled businesses are not precluded from accessing the other 97.5% of the extramural R&D funding from those agencies, 39 times the SBIR funding. This $62+ billion of federal extra-mural R&D funding is the appropriate resource for those, including VC owned ventures, who are not SBIR eligible."

Again, thank you for this opportunity to express my resolute opposition to this attempt to establish a VC welfare program. Greed is a terrible thing.

Sincerely,

Eugene (Gene) Watson
307-742-7162
ewatson@wyoming.com

Vote:   NO 
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10/16/03
  10:57:58
Dr. Chris Busch Ronan, MT
Msg 3 of 99
NO ON SBIR ELIGIBILITY FOR VC OWNED/CONTROLLED BUSINESSES

This note conveys my strong opposition to allowing businesses to be eligible for SBIR competition that are owned or controlled by venture capital (VC) firms. Based on discussions with my associates, the vast majority of small businesses and their representatives agree with me.

Enforcement of the SBA SBIR Policy Directive provisions on the definition of a small business concern (SBC) and eligibility for SBIR competition has generated a flurry of negative comment primarily from affected small businesses and the VC community. Representatives of these organizations are pushing to change the rules so that businesses owned and/or controlled by VC firms would be eligible for SBIR competition.

Such a rule change would be damaging to the SBIR Program, and harmful to the vast majority of SBIR competitors. Allowing VC firms to own and/or control SBIR eligible businesses is counter to the spirit of the SBIR Program. As Gene Watson (Wyoming) has said, once VCs assume ownership/control of a small business, they should also assume responsibility for providing necessary funding for it.

Channeling government funds (especially SBIR funds) to businesses controlled by VCs would go counter to the very concept of VCs - investing for profit in promising new ventures. Such a practice would be providing government welfare to the VC community at the expense of legitimate small businesses.

Largely lost in the recent discussion on the subject is the fact that VC firms CAN own a significant stake in eligible SBCs. The only restriction is that it owns 49% or less of the SBC, and does not control the SBC through Board of Director positions.

Based on my information from SBA, it is anticipated that a rule change will be in place soon that will allow subsidiaries of SBIR eligible parents to themselves be SBIR eligible. Under this new rule, a VC firm that itself qualifies as an SBIR eligible SBC (per the SBIR Policy Directive) could own a majority and controlling interest in a subsidiary that would be SBIR eligible (as long as the VC and the aggregates of its affiliates do not exceed 500 employees.).

So, there are significant opportunities under the present rules for VC firms to participate in ownership of SBIR eligible small businesses.

The 29 Sep 2003 issue of Business Week magazine carried an article on the VC industry entitled: "All Cashed Up with No Place to Go - VCs have $84 billion to invest and an aversion to risky startups." And VC owned/controlled businesses want part of the "small" (<$2 billion) SBIR Program??? We can't let it happen!!!

Thanks for facilitating this discussion that is vital to the long-term integrity of the SBIR Program!!!

Chris Busch

Vote:   NO 
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10/16/03
  18:48:54
Tim Grogan La Grange, KY
Msg 4 of 99
This change would be in direct conflict with the spirit of the SBIR (that's "SB" for SMALL BUSINESS) program. I would like to see VC organizations change business models to fit the current SBIR program rather than change the SBIR program to fit the VC model.
Vote:   NO 
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10/17/03
  19:48:30
Bernice Graven Cleveland, OH
Msg 5 of 99
I vote NO on changing the rules.

Large VC organizations should not be allowed to compete with other small businesses for SBIR funding.

If an exception is made for Biotechs and VCs, why stop there?? Soon exceptions will be made for other large concerns such as General Motors, Microsoft, and Archer Daniels Midland!

If the article in Business Week is correct, and the large VCs have over $80 billion dollars in uncommitted funds, why aren't they committing some of that money to the projects they claim can't be done without the help of a $750,000 SBIR grant??? WHAT A SCAM. Wake up Congress. Small Business is the name of the game in SBIR.

Small businesses that are not owned by these large wealthy concerns need access to SBIR funding much more than any of those fat cats that are whining.

Vote:   NO 
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10/17/03
  07:12:31
Clyde Engert Towanda, KS
Msg 6 of 99
In my opinion the rules for meeting the small business entity to participate in the the SBIR program should remain intact. If a VC wishes to invest in a small business that has won an SBIR they are free to do so without any legal changes. If the rule were changed the VC's would be getting taxpayer money that does not require payback while operating as a large entity and this is totally unfair.
Vote:   NO 
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10/17/03
  08:00:04
Pat Dillon Minneapolis, MN
Msg 7 of 99
The essence of the SBIR program is to support innovation and the strong entrepreneurial spirit in our nation. SBIR offers high tech companies much needed government investment in cutting-edge research and development projects, where no other investment (venture capital) is available. To change the playing field to allow venture capital firms with controlling interest in small companies to compete in SBIR is not a good use of the taxpayer's money. The majority of small companies that compete and win in the SBIR program are not venture capital capable. It is simply not part of their business path. To change the SBIR eligibility rules for the small biotech sector at the detriment of the entire high tech economy is neither prudent nor recommended. Itís just not the right thing to do!

If venture capital backed firms desire to compete in the SBIR program, they must change their ownership structure to comply with the rules and regulations in the SBIR program. It has been done!

Vote no!

Vote:   NO 
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10/17/03
  10:44:13
Name withheld by request Houston, TX
Msg 8 of 99
I vote no to changing the rules to allow small business controlled by VC organizations to compete with other small businesses for SBIR funding. This will make the playing field very unfair. We are talking about giving businesses that are controlled by VC organizations a 99% chance over any small business that is not controlled by these organizations. If a small business is controlled by VC organizations, they not only have jumped ahead of the game with resources, but the identity of the VC will help them if they need additional capital to pay consultants to write grants and get away with crafting the grant to look perfect.

I don't understand the logic from a VC perspective. VC organizations exist to take risks and if they own or support a small business, then they should continue to fund that business or shut it down. VC organizations should continue to fund efforts and let small businesses that don't have the resources (contacts, clout, credible vendor sources, etc...) continue to pursue SBIR funding to get their innovations in shape to approach VC organizations. I think congress needs to review the vision of VC organizations before making any decision towards this rule. After a review, I think it will become apparent that VC organizations are now trying to control more government funding allocations and options, which is the same thing that happened with the dotcom shakedown. Too much focus on returns and not viable products. I know alot of VCs and a lot about them and they are in the business to make money and realize that if they do lose on some businesses, that is part of their risks. If this rule does pass I won't plan on wasting my time submitting any more SBIR proposals because I can't compete.

Vote:   NO 
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10/17/03
  13:13:30
Name withheld by request Medford, MA
Msg 9 of 99

Vote:   NO 
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10/17/03
  13:21:09
Name withheld by request Ann Arbor, MI
Msg 10 of 99
The definition of 'control' is unclear. Where one signs that they are in 'compliance' on the grant application is unclear; for example, with the NIH format, one checks a box that they are a 'small business' and signs on the face page stating that they certify that "The statements herein are true, complete and accurate to the best of my knowledge, and accept the obligation to comply with Public Health Services terms and conditions if a grant is awarded as a results of this application." When a grant is awarded, certain 'assurances' are filed (for a first-time awardee). None of the 'assurances' ask for a stock-holder's listing (private or public).

We encounter many scenarios in our SBIR training programs, i.e.,

1. A small (2 person) consulting firm (co. A) owns 90% of an STTR winning company (co. B) - 10% equity distributed to CSO. This changes the definition of 'wholly' owned by another company that is owned by 'individuals'. By distributing 10% equity to 'key personnel', co. B is no longer eligible (even though we're talking about a total of 3 owners and 2 employees. 2. Many small publicly held companies receive SBIR grants. How does one determine 'equity ownership' on the day of award? If board seats are held by VC's who collectively own 'less' than 51% of the stock, is the company 'controlled' by insitutions, even though the stock is held by individuals (at least on that particular day)? 3. If co. A is ineligible (for any reason - rational or not), can they set up an 'arms-length' co. B with equity ownership held by an 'individual', but with a pre-arranged royalty-free license back to co. A for technology developed in co. B?

Our best advise (until this administrative rule is clarified) is to provide full disclosure if there is any possibility that your company may be 'at risk'. The worst mistake will be to ignore this at this point in time. The second mistake one can make is to be passive and not respond to the SBA if this rule has a negative effect on your company.

Vote:   YES 
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