innovate arkansas

The $6.6 million for-profit Fund for Arkansas’ Future LLC began operations on Jan. 1 to make investments in startup companies.

It announced its first investment this month: $650,000 in four Virtual Incubation Co. portfolio companies at Fayetteville. The four companies are NanoMech, Vegrandis, BioDetection Instruments and SFC Fluidics. Another investment is to be announced very soon, said Jeff Stinson, executive director and FAF’s only paid person.

FAF is an early stage investment fund capitalized by accredited investors known as angels. Angel investors are individuals who invest in businesses, normally seed or startup companies, and are looking for a higher return than they would see from more traditional investments because of the higher risk involved.

Many of the 57 involved in the Fund for Arkansas’ Future are successful entrepreneurs themselves who want to help other entrepreneurs get their business off the ground.

But James Hendren, one of the five managers of the fund, put it this way: “The goals of the fund are to do some good, have some fun and make some money.”

Hendren is the former chairman of Arkansas Systems Inc. (ArkSys), one of the state’s early high-tech companies. He also serves on the Arkansas Economic Development Commission and on the board of the Arkansas Science & Technology Authority. He also headed the Task Force for the Creation of Knowledge-based Jobs.

The other fund managers are Mary Good, dean of the Donaghey College of Information Science at the University of Arkansas at Little Rock; Bill Clark, chairman and CEO of CDI Contractors; Mike Coulson, president of Coulson Oil Co. and 2004 president of the Little Rock Regional Chamber of Commerce; and John Steuri, retired chairman and CEO of the former Alltel Information Systems.

It was Steuri who developed the concept of forming a fund to capitalize startup companies in the state, said Stinson, who along with some others spent all of 2004 scouring the state for investors. Most of the 57 are from central Arkansas.

“The primary reason for starting the fund,” Stinson said, “was the realization by many of our investors that a capital ‘gap’ existed in Arkansas and that before our efforts, there was literally no organized source of capital for startup companies in the state.

“Once companies get to a certain size and some of the risk is reduced, venture capital and even bank financing is available. But startups have substantially more risk, and the lack of capital for them has been one impediment to the growth of technology-based companies in Arkansas.

“Thus, we recognized that gap and saw not only an investment opportunity (after all, there’s no other competition for what we’re doing), but also an opportunity to stimulate economic development through the growth of high-wage jobs,” Stinson said.

Predecessor to FAF

The predecessor to the Fund for Arkansas’ Future was Venture Capital Investors LLC, although Stinson said the name was a misnomer. It was simply a group of investors who made their own investment decisions and couldn’t get sufficient capital.

VCI was founded in 1999 by William H. “Bill” Bowen, the retired lawyer and former chairman and CEO of First Commercial Corp., to invest in companies engaged in “technology-intensive enterprises” with significant potential for capital appreciation in three to five years. While the company never had a great impact, those involved saw the need for angel investors, Stinson said, and they had a vision of what the state needed.

The Fund for Arkansas’ Future solves much of what was lacking in VCI.

Rather than an angel doing it on his own, there’s a pool of money and an organization that will give investors the needed due diligence as well as some diversity for safety. There’s been a national trend for a few years of angel investors moving from investing as individuals to forming groups.

“We could see the need for startup technology companies, but they need capital,” Hendren said. “So we asked ourselves, ‘How can we make this happen?’ VCI couldn’t generate the capital needed, but the Fund has cash on hand to invest.”

Minimum investment in the angel fund was $100,000. All are accredited investors with a minimum net worth of $1 million or a minimum annual salary of $200,000.

The FAF is regulated by the state Securities Department but is exempt from Securities & Exchange Commis-sion oversight under Regulation D for accredited investors since all the investors are equity owners.

It is a member of the Angel Capital Association, a nonprofit trade association of some 200 angel organizations in North America whose goal is to raise the public’s awareness of angel investing, encourage the growth of angle groups and aid the angel group in making better investing decisions.

Who exactly are angel investors? Normally they are high-net-worth individuals who invest in early-stage entrepreneurial companies. The why is obvious.

Historically, investment in seed-stage companies has seen a 34 percent return — the old higher the risk, the higher the return concept.

In Arkansas, angels fill the gap that exists after the startup operations have exhausted their own funds — as well as tapping friends and family — but haven’t reached a solid foundation that will draw venture capital investors.

As an angel group, Fund for Arkansas’ Future’s investors increase their access to investment opportunities; being part of the angel group also provides a way to hedge their risk.

Source of Capital

Angels are the largest source of seed and startup capital. In the first half of 2005, the angel investor market posted total investments of $11 billion. A total of 26,000 entrepreneurial ventures received angel funding the first half of the year. The number of active investors in the first two quarters was 126,000 individuals. An average of four to five investors joined forces to fund entrepreneurial ventures. Angel funding for startups grew 20 percent in 2004 and helped create 141,200 new jobs. The total investment by angel investors rose to $22.5 billion last year, compared with $18.1 billion in 2003.

One big incentive for angel investing in Arkansas, Stinson said, is the 33.3 percent state income tax credit through the Arkansas Commerce Capital Development Co. Act that was amended earlier this year, which investors can use to offset up to half of their state income taxes in any one year.

What They Look For

FAF requires a board position for any company it chooses to put its money into. It also requires a minority ownership position, which can vary from 10 percent to 40 percent of the company, depending on where the company is at in its development

The company gets the benefit of mentoring from the investors, which should help its chances for success, Stinson said. Most investors understand business and can help owners anticipate trouble spots and deal with others.

Whereas the national average of angel groups is to look at 20 deals a month, the average at FAF has only been about 4 to 5 a month.

FAF looks at a company’s business plan and management team — and the company has to have an exit plan. It has looked at 37 plans so far, making its initial investment, and Stinson said another investment should be announced shortly.

Most companies are turned down because they have a business model that wouldn’t grow very rapidly, Stinson said, or they may have an idea, but no plan to grow the company.

FAF only invests in Arkansas-based startups that focus on technology or have some intellectual property and provide an opportunity for rapid growth in value. FAF also looks at a startup’s ability to deliver high-quality, high-paying jobs to replace the job losses in the manufacturing sector in recent years.

The FAF will stay with the company until there’s what Stinson called an exit event: a sale, going public or until it is written off. Or company officials could buy FAF out. The FAF plans on a five- to eight-year time frame with the companies. Funds generated by the investments will be deployed back out to the investors.

Stinson said FAF expects half of the companies won’t make it, but it also expects to hit at least a couple of home runs that will provide half the returns the investors hope to make.

Hendren said he hopes the FAF not only expands investment in Arkansas-based companies but will encourage more people to be willing to invest.

• Click here for a list of investors in the Fund for Arkansas' Future.