Many countries have gigantic sovereign wealth funds that effectively compete against privately funded investment firms. From Saudi Arabia to Singapore, their government-owned investment firms invest in companies and funds globally. This provides them access to stakes in foreign firms and effective control of those companies. For example, companies like Uber and WeWork — or almost any company backed by Softbank group — are controlled by a foreign nations or firms. Those foreign funds are driven to finance companies worldwide, exert influence and generate profits for their countries. In the United States, nearly all capital is provided by investment firms that are tiny compared to foreign sovereign wealth funds. The coronavirus pandemic is forcing us to think whether America can do more to foster an economic recovery.
We are living in an unprecedented and challenging time which requires American entrepreneurs to get extra but modest support that will produce exponential returns and will benefit America in the long run.
According to Goldman Sachs and the Federal Reserve, we could see 15% to 32% unemployment due to the pandemic. Depending on the recovery time, a higher than usual unemployment rate could last for several years. In order to avoid becoming permanently dependent on government assistance, a significant number of people will attempt to create new enterprises.
Unfortunately, without the support I propose below, they will face almost insurmountable barriers to launching their new enterprises.
On March 27, President Trump signed a historic $2 trillion economic stimulus bill. Of that, small businesses would get $377 billion, or 19% of the total. Another stimulus of $450 billion was subsequently signed. This amount would primarily be provided as loans and relief to small businesses through the Small Business Administration (SBA). While the SBA loans will help many small businesses that have already achieved some scale and some success, a large portion of small one- or two-person startup businesses – which are often the most innovative – will be left out.
However, private investment firms or angel investors alone cannot provide the type or amount of investment capital needed to get “Main Street” businesses started and get them employing people to reverse the decline in employment.
Even during the normal course of operations, the United States does not have institutions that are able to offer support for most of the potential entrepreneurs who want to venture into the business world but lack the startup capital. These entrepreneurs are often looked down upon because they do not have friends and family who are willing or even able to provide the startup capital needed to finance the first stage of investment, popularly known as the “friends and family” round.
Often, entrepreneurs raise a few thousand dollars from their closest family and friends and use that small sum of money to test their ideas by developing products or solutions. Then they reach out to angel investors or venture capital firms. Unfortunately, most startup entrepreneurs do not get any angel or venture capital to get started. The resulting shortage of capital eliminates many potential entrepreneurs from having a chance to achieve their dreams. Most never get an opportunity to launch their business. Many excitedly register their business and attempt to start running it, but soon realize they will not be able to obtain financing. Most of them shut down, becoming another statistic on the list of failed companies.
That excludes a lot of talented and capable people from contributing to our economy. New institutions are needed to meet the need for capital for the emerging entrepreneurs. “Main Street” entrepreneurs that each employ a handful of people yet, when aggregated, provide a solid foundation for our economy. Most of these “Main Street” entrepreneurs are local, and most of them will not be scalable. Their value to society is not that they might become very large nationally recognized companies that employ tens of thousands of people. Their value is that tens of thousands of them can generate some jobs with low six figure salaries and many jobs with decent five figure salaries. Obviously, society needs some way other than angel investors and venture capital to underwrite the capital needs of these businesses.
The United States government does provide some support to various agencies tasked with helping small businesses launch and ultimately thrive. For example, SBA provides funds to small business investment companies (SBICs) that make investments in small businesses.
Unfortunately, the SBICs do not have the amount of capital needed to help the “garage entrepreneurs” who comprise the majority of startup companies. Rather, the SBICs mostly operate as growth equity or debt capital providers for businesses that are well past the seed stage.
Now is the right time for America to support its most overlooked potential entrepreneurs. With all the businesses shuttered and employees laid off due to the “Corona Crisis,” America has never had so great a need to stimulate exponential growth.
What is needed is a new program to fund as yet unknown American entrepreneurs through the first stage of development of their businesses. These first stage investments would be very small, with dollar amounts comparable to what angel investors and “pre-seed” venture capital firms provide, typically ranging from $25K to $250K.
These small checks would help a lot of entrepreneurs get started quickly and help each of them employ a few people right away. In light of the many small businesses that are shuttering at a tragic rate, this program could be titled the “Main Street Capital Fund.” The program could be organized as a completely independent fund directly under the Executive Branch. Like a typical private fund management business, it would have professional investment managers and operate independently.
Operating independently is crucial. The investments that America needs now need to be made quickly and with a less cumbersome process than the process most private investors and professional venture capital firms have to use when considering an investment.
A major difference between the fund and a private venture capital fund would be the expected return. While a venture capital firm typically seeks over a 1,000 percent return, the Main Street Capital Fund could seek a more reasonable and consistently achievable return. In order to do this, the Fund would adopt certain investment criteria that differ from the criteria used by most angel and venture capital investors.
First, the Fund would be nondiscriminatory in choosing the entrepreneur characteristics, and could aggressively endeavor to replace the family background and educational characteristics generally favored by most current investors with characteristics that are merit-based and more likely to correlate with small business success.
Second, the Fund would invest in a much higher percentage of companies than the venture capital industry standard of 2%.
Third, to minimize the delays inherent in large government agencies attempting to review hundreds of thousands of applications, the investment committees could be convened by professionals appointed by the president, who would then invite successful local entrepreneurs and representative citizens from diverse backgrounds to serve on the committees. The program would have no shortage of volunteers, and this local control would provide a wonderful counter example to centralized administrative control.
With $1 billion of committed capital, the Fund can provide early financing of $25,000 each to 40,000 companies. That is a lot of companies.
$1 billion is equivalent to mere 0.05% of the $2 trillion stimulus. Applying typical venture capital return assumptions, if 10% of these companies achieve a 1,000% return, $1 billion would generate $100 billion of gains which could be redeployed in subsequent funds to finance tens of thousands of new entrepreneurs.
If the United States government is willing to take equity stakes in airlines to help the airline industry, the government can certainly take equity stakes in seed stage startups as well. By providing the first round of financing to startups or “garage entrepreneurs,” America can help these entrepreneurs create businesses and employ people. The economic gain from starting a seed funding program will be exponentially higher than the cost of starting or managing the program.
To avoid deterring entrepreneurs who are reluctant to take on debt in a time of great uncertainty, these investments should be structured as equity. Also, to avoid deterring entrepreneurs who would be reluctant to give up control of their businesses and to avoid the risk of government getting involved in the management of a large number of private businesses, these investments should be structured as nonvoting stock, or stock with voting rights limited to exceptional decisions, such as adding private investors or selling the business.
In sum, while the government may not be able to create entrepreneurs, it can create the conditions for potential entrepreneurs to have a chance to get started and thrive.
If it really wants to.
Ash Shrivastav is an investor at a San Francisco based investment firm where he invests in growth stage
companies.
Drexel Sprecher contributed to this article. He is a transpartisan political theorist, leadership educator,
and strategic advisor to mission driven businesses and projects.