How has the State's moves on ACT 221/ SB199 already affected your company?

Comment

Comment by Bill Dash on July 27, 2009 at 9:04am

Dan... Leighton is right on. The best model for doing this is the original Grove Street Partners (www.grovestreetpartners.com) that was created by the State of California Employee Retirement System ( CALPERS) to invest in emerging and new professional venture capital funds. Grove Street has been successful and now manages money for other states and institutions. The original Grove Street is the best way to build a sustainable, quality, ethical high tech community in Hawaii. This model means professional due diligence, good corporate governance, and accountability. These are foreign concepts to the Act221 supporters. It is not too late to try this approach but it probably won't happen.

Comment by Peter Kay on July 27, 2009 at 8:51am

Dan, the SPIF proposal actually did get passed but interestingly didn't get funded.

Leighton, thanks for encapsulating 221's key problem so eloquently. While one can clearly see that 221 created an explosion of tech startups, I'd love to see a statistic that compares what kind of ROI the $1.2B gave investors vs. the industry average of what $1.2B in un-tax-advantaged investments in startups returned over the same period.

Finally, Bruce, I agree with all you said. I'm curious if you have a model company in Hawaii, though.

Comment by Daniel Leuck on July 27, 2009 at 8:44am

Leighton K. Chong: In this model, the State raises an investment fund from taxpayers (principal) thru revenue bonds, and the State's fund manager (agent) invests the funds in professional venture capital firms that have credibility for making good investment decisions and providing a return on investment.

In principle I like the idea of due diligence for these investments being done by professional venture capital firms. How would these firms be selected? Ideally it would be firms with 10+ years of solid performance. For maximum effectiveness we would also need a good mix of firms specializing in different stages and vertically specialized in our primary technology sectors. I assume you are talking about the state bringing in mainland VCs, correct?

Just out of curiosity, why didn't the SPIF proposal go anywhere the first time around?

Comment by Leighton K. Chong on July 27, 2009 at 7:11am

Further to Bruce's "throwing money" comment and Lawrence Lee's earlier about the Governor not being the real problem, I think the main issue with Act 221 all along has been what political economists call the "principal-agent problem", that is, the difficulty with obtaining equitable and efficient outcomes for the principal when the agent has a different interest.

In the case of investor tax credits, the "principal" is really the State (taxpayers) footing the bill and expecting a decent return on long-term investments in tech companies, whereas the agent are the investors whose interest is in getting 200% of their money back at the taxpayers' expense. The whole problem with Act 221 is the difficulty of reconciling this difference of interest. Even though Act 221 did indeed bring in money from local and Mainland investors for tech companies, those investors profited at our expense, the taxpayers. The question of whether the taxpayers got a decent return for the $1.2 billion in tax credits has not been or perhaps cannot be satisfactorily answered.

On the next go-round, I favor reviving the earlier SPIF proposal for funding startup tech companies. In this model, the State raises an investment fund from taxpayers (principal) thru revenue bonds, and the State's fund manager (agent) invests the funds in professional venture capital firms that have credibility for making good investment decisions and providing a return on investment. The venture capital firms then raise a larger amount of additional funds from private investors (principal) using the leverage of the State's initial funds. The venture capital firms (agent) then invest the funds in tech companies based on conventional business principles of credibility, risk management, and potential for earning a satisfactory return on investment. Thus, at each stage, the agent remains aligned with the principal's interest.

Comment by Bruce M. Bird on July 27, 2009 at 5:59am

Hi, Peter. Thanks for the compliment. Some companies start out in one activity and end up gravitating towards another. Some companies acquire other companies. Some act on a core belief that resonates with others.

Some examples (from outside Hawaii): Several decades ago, U.S. Steel acquired Marathon Oil (in part to smooth out its business cycle). Pool Corporation consolidated the highly fragmented pool supply business by acquiring many of its rivals. Chick-fil-a, a privately-held --and incredibly well run-- fast food chain of restaurants, is closed on Sundays so that its employees can go to church and be with family.

I think we can agree that companies often take different paths to success.

When it comes to small early-growth stage individual companies, state and local governments aren't that great at "picking" future winners and losers. Unfortunately, this notion is often "lost" on many of those working for state and federal governments.

Please note that throwing money at something that's trendy (but that exists primarily because of multiple subsidies) is not a particularly well-thought out path to success, either. In today's Honolulu Advertiser, the federal government announced that it will be paying 3.7 million to purchase solar water heaters for 420 low-income households in Hawaii. Good times.

Comment by Peter Kay on July 26, 2009 at 7:33pm

Bruce, you have an exceptionally analytical point of view. That's awesome and in fact this dialog has helped me refine the position. Thanks.

By "model", I mean a company whose path to success is one worth replicating and encouraging.

Comment by Bruce M. Bird on July 26, 2009 at 5:33pm

Hi, Peter.

Please note that I was responding to your comment "...unless something else comes in to replace the 221 vacuum, bye bye to the Sprouts & Hokus". With or without Act 221, Hoku might not be around in the foreseeable future. In other words, regardless of the recent changes to Act 221, there still would be language in the SEC filings about the auditor's doubt as to Hoku's ability to function as a going concern. (Also, Hoku has largely said "bye-bye" to Hawaii to the extent it has moved much of its operations to Idaho).

All in all, your post is quite insightful.

You mentioned that Act 221 helped Hoku get to where it could become a publicly-traded company. Good point. (So, maybe you meant "...unless something else comes in to replace the 221 vacuum, bye bye to the Sprouts & Hokus [of the future]").

Also, you wrote: "Dustin Shindo and his extended circle of influence is clearly a net positive for Hawaii". Another good point. Having a company become publicly-traded --at least in part due to Act 221-- is a real "plus" for Hawaii. (Lots of publicly-traded companies --especially ones with small capitalizations like Hoku-- face issues regarding profitability, liquidity and/or solvency. In my opinion, Hoku simply bit off a bit more than it could chew).

You asked: "What in your mind is a model non-221 Hawaii company?". That's an interesting question. I'll have to think about it.

I'm not 100% sure what you mean by the word "model". Do you mean a company that is well-run as measured by various financial ratios? Or "model" as in "prototype"? Are you looking for the name of a technology-related company in Hawaii that does not receive --or whose investors do not receive-- Act 221 incentives? Or is a non-technology company also a possibility?

Comment by Peter Kay on July 26, 2009 at 12:45pm

Bruce, good discussion here and yes there's a little more nuance to what I'm saying. As far as Hoku, yes, that Hoku. The one that would have never even started without 221 assistance, went public, and gave investors a good return on their money.

It's fair game to question their operations, and I think despite that, Dustin Shindo and his extended circle of influence is clearly a net positive for Hawaii.

What in your mind is a model non-221 Hawaii company?

Comment by Bruce M. Bird on July 26, 2009 at 9:38am

Hi, Peter.

You wrote: "I maintain that while certainly Hawaii tech service sector (e.g. web developers and system integrators, i.e. 80s & 90s) has been the beneficiary of tech's growth, the silicon valley-like startups that have blossomed here (mostly from act 221 money) will be all but gone."

That is a much more nuanced statement. You make an interesting point. I agree with you that the recent changes to Act 221 will result in fewer start-up companies forming in Hawaii. However, your referring to them as "Silicon Valley-like start-ups" seems to ignore the fact that a lot of them are also very "un-like" Silicon Valley start-ups.

You also wrote: "...unless something else comes in to replace the 221 vacuum, bye bye to the Sprouts & Hokus".

Hoku? As in the publicly-traded company that started in Hawaii, received federal grant money in Hawaii, and state refundable R&D credit money from Hawaii? The company that gravitated away from fuel cell research, and gravitated towards Pocatello, Idaho, where it received various tax incentives there to build a solar cell plant? The company whose auditors recently expressed doubt about it existing as a "going concern"? (Please note that SAS 59 states that the auditor has a responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern for a period not to exceed one year from the date of the financial statements being audited). That Hoku?

Comment by Peter Kay on July 26, 2009 at 1:28am

Thanks for the explain, Bruce. Wish we connected @ the TechHui conference today to discuss this. We disagree. You seem to imply that Hawaii's tech industry growth was a result of the rising tide of tech worldwide. I maintain that while certainly Hawaii tech service sector (e.g. web developers and system integrators, i.e. 80s & 90s) has been the beneficiary of tech's growth, the silicon valley-like startups that have blossomed here (mostly from act 221 money) will be all but gone.

So we'll go back to what things were like pre-221, which is a nice collection of little tech companies primarily servicing clients in Hawaii with some offering prof svcs to clients off-island. But unless something else comes in to replace the 221 vacuum, bye bye to the Sprouts & Hokus.

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