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Capital Conference: Franzini

U.S. 1 Staff

February 18, 1998

Creative Cash

Regulatory Training

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Capital Conference: Franzini

These articles by Barbara Fox were published

Government can work in amazing ways. It can take money

raised by bonds or taxes and let venture capitalists multiply those

funds. And it can take tax dollars it did not collect and let a young

company sell those tax credits to a larger firm.

One of the panels at the New Jersey Capital Conference this Thursday,

February 19, will explain these puzzling opportunities. Jim Millar

of Early Stage Enterprises has organized an 8:30 a.m. panel that

features Caren Franzini of the New Jersey Economic Development

Authority (NJEDA), Jay Brandinger of the New Jersey Commission

on Science and Technology (NJCST), and Don Christianson of the

Small Business Administration.

For registration information for the conference, which runs through

lunch and costs $150 at the door, call the New Jersey Technology

Council

at 609-452-1010.

The NJEDA — which funds itself through bonds and its own

investments

— made the first donation to a venture capitalist when it gave

$2.5 million to the Edison Venture Fund. Last year the NJCST gave

$4 million of its appropriation from the state commerce department

to Early Stage Enterprises for a similar purpose, to make equity

investments

in early stage companies in this region. The results make any taxpayer

breathe more easily.

"We saw there was a need for more venture capital for New Jersey’s

business, and we did not feel we knew best how to make

investments,"

says Franzini. The Edison Venture fund responded to a request for

proposals, and the EDA board approved a $2.5 million investment in

that fund. "We feel it has been a great success," says

Franzini.

"Edison has invested $15 million in seven New Jersey companies,

and our money was leveraged six times."

Millar says that the Edison investment was "a pioneering

effort"

for the EDA, which raises its funds through bond issues. "Some

states shy away from public private partnerships, but we will invest

multitudes more than the $4 million the commission has invested in

us. They get their money back at the same time as the other investors

in our fund get it back." The $4 million has burgeoned into $40

million of capital for investment, says Millar, "because we have

raised additional private capital and are now a licensed SBIC (Small

Business Investment Corporation)."

Early Stage Enterprises has four current investments and two more

on the way, with the typical gestation period (until the IPO) expected

to be five years. Only one of the four ESE companies so far is in

Princeton: NetTech Systems, the Research Park-based firm with wireless

communications software. The others are in New Brunswick, Radnor

Pennsylvania,

and Richmond, Virginia.

Franzini, an urban studies major at the University of Pennsylvania,

Class of 1980 with a Wharton MBA, is expected to announce at the

conference

that EDA may soon act as its own venture capitalist organization (see

story on Franzini on page 46). "We are getting what we feel is

a good return on our investment, so hopefully we can make another

investment, either in a venture capital fund or by establishing our

own investment vehicles for financing high tech companies," says

Franzini. "We have been on the learning curve to understand the

needs of the industry and feel it would be beneficial to finance these

businesses ourselves."

She’s looking at similar programs in Pennsylvania and Utah. Why not

just keep funneling funds to those in the business making venture

capital available? "Because the venture capital community is

servicing

needs of $500,000 and above, and we are sometimes talking about below

that range," says Franzini. "We’d rather partner with existing

organizations, but if there is a gap in the marketplace we want to

fill that gap."

Another way that EDA can fill gaps is by guaranteeing loans. If a

bank does not have enough "comfort level" with a loan, the

EDA can stand behind it, just like the SBA might. But the state EDA

can be more flexible than the federal agency.

"One of our star examples is Sensar," says Franzini, referring

to the Sarnoff spinoff that is now based in Moorestown. "The bank

was willing to provide financing but they felt uncomfortable with

the startup nature of the company, and we provided a guarantee. We

are always trying to get the private sector involved, and we provide

the comfort level."

About those tax credits that can be bought and sold: It’s hard to

explain, but here goes. It’s as if a minimum wage earner who pays

no income tax could sell her deductions to someone in a high tax

bracket.

By state law, technology companies can take research and development

tax credits. But young companies are so poor they aren’t paying the

nine percent corporate tax, so these credits aren’t helpful.

Under a law passed last month (Senate Bill 446), the young and poor

firm can sell the tax credit to the more profitable firm. The bigger

company pays at least 75 percent of the value of the credit. The small

company can use the proceeds mostly for fixed assets but also for

salaries and working capital.

In a similar way, the deductions for a net operating loss can go

unused,

be carried over, and sold. It’s called the Corporation Business Tax

Benefit Certificate Transfer Program (Senate Bill 447). "With

this legislation, New Jersey is demonstrating its desire to be the

home of the exploding hi-tech industry," said State Senator Robert

Singer, the bill’s sponsor (732-901-0702).

Just who will broker these tax credits and how much those credits

will be worth is yet to be determined. For a detailed guide to EDA

programs, "The Power to Help New Jersey Business Grow," call

609-292-1800 or write to NJEDA, Box 990, Trenton 08625, or go to

http://www.njeda.com.

The site has a clickable map locating EDA projects by county and a

questionnaire that helps companies figure out what programs might

work in their business.

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Creative Cash

Your firm can’t afford to hire expert advice but you

desperately need cash? You may need the services of a "financial

intermediary" such as Dan Conley of Funds for Business +

Leasing. Conley can work on a flat fee or a retainer but he can also

help you raise money on a percentage basis.

He will discuss alternative financing and debt capital instruments,

particularly loans for credit, working capital loans, term loans,

and other project financing at the New Jersey Capital Conference on

Thursday, February 19, at 9:30 a.m. at the Marriott. For registration

information ($150 at the door) call the New Jersey Technology Council

at 609-452-1010.

Your company must smell of success before Conley will take you as

a client. Companies that succeed are likely, he says, to have gone

through the usual channels: going to the Small Business Development

Center counseling, settling into incubator space, attending venture

capital association luncheons, exhibiting at the venture fair (itself

a Good Housekeeping Seal), and winning an award at the venture fair,

an honor that comes to less than 10 percent of the prospects.

Even then, the odds against attracting venture capital are high.

"Venture

capitalists look at 1,000 business plans a year but invest in three

to five," says Conley. "Many thousands more could have

qualified.

How do we help those companies? Maybe we have to revisit the business

plan, get private investment, restructure so banks and the SBA can

invest in them."

Financing technology companies takes imagination, and the debt capital

buffet has many dishes, says Conley. To choose the right one you need

expert help. "For 12 years I have been providing capital for

business

owners," says Conley. "I can broker loans and help facilitate

project financing and help a business owner get credit. If a firm

has weak credit I can find a source of funds at a price and structure

that meets their business needs."

He operates, in essence, as an on-call chief financial officer (or

as an assistant to the CFO) in raising capital. "Business owners

don’t want to go into the bank alone; they need an expert fiduciary

to help navigate those rough waters," he says. "I get my money

from dozens of different sources. I represent them in the debt capital

marketplace and find the structure and the cost that fits their needs

and their philosophy."

Sometimes his task is project oriented, to finance $2 million worth

of machinery or smaller ticket items such as a computer system for

$40,000 in hardware and $100,000 in software and training services.

In former times, banks would never fork over a loan for software,

but that is changing. "The banking industry," says Conley,

"has finally got its head out of the sand in recognizing that

software can be used as a tangible asset and be looked at as

collateral."

A company starts out bootstrapping — borrowing money from family

and friends who expect to get paid back in either cash or equity.

The next stage, says Conley, is when there is a proven prototype or

market margin. At this point the company may qualify for Small

Business

Administration loans or loans from local banks or the Economic

Development

Authority.

When the business is "up and running" then Conley can help

with some creative alternatives. "I cannot compete with the

bank,"

he says, "but I am there for an additional line of credit or an

additional line of capital."

By this time the money is being loaned "for all the right

reasons"

and the company has something which will enable them to pay their

debts. The bank might lend money at prime plus one (prime rate of

interest plus one percent), but the bank also probably charges

additional

fees. Conley says his sources can finance projects at a rate of

anywhere

from below prime to twice prime, but without any extra fees.

If, for example, a company has $3.5 million and is going hunting for

$10 million of venture capital — but also needs a bridge loan

of $2 million until the $10 million comes through — that’s where

Conley can help.

Or if a company has a willing customer who is a late payer, Conley

can draw up a trade acceptance draft that involves approving the

customers’

credit. If the customer is buying $20,000 worth of merchandise but

can pay only after six months, the customer issues some post-dated

checks and Conley’s source fronts the money to the company.

Sometimes he charges a flat fee or a retainer but his percentage fee,

based on the Lehman formula, is roughly five percent of the first

million, four percent of the second, down to one percent of the fifth

million raised, and then 1/2 percent for each additional million.

Sometimes he also charges for the "due diligence" process,

"to find out about the skeletons in their closet before the banker

finds out."

As a funding intermediary Conley’s work depends totally on reputation.

"People can be tossed out on their ear if they are doing the wrong

thing. We have to watch out for charlatans," says Conley, "and

you’ve got to be in it for a very long time. It’s a very patient

process.

He began doing this 12 years ago. He grew up in Belmont,

Massachusetts,

near Boston, where his father was a technical sales engineer. He would

have been in the Class of 1980 at the University of Massachusetts,

except that he joined the Marine Corps and spent 10 years getting

his degree. Meanwhile he worked at Wang and Apollo as a security

guard.

"I saw how they were doing all this really neat stuff with

computers

and understood that companies were growing by using high technology

equipment."

Conley started out in the leasing business and was recruited by G.E.

Credit to help build a $100 million portfolio. Then he joined a Boston

firm (his new wife was at MIT) to package syndicated transaction.

He hung out his shingle as a solo practitioner in 1991.

So where is all this non-bank money coming from? Private placements

or angels. "Angel investing is a huge arena, and it is not

organized,"

says Conley. "People that have this kind of disposable money don’t

want to have to jump through hoops. Some are philanthropists and they

get psychic income, besides financial income, backing neat stuff that

is good for humanity. Others are trying to secure their own future

through another pension investment vehicle."

Conley insists that not everyone who offers cash will be allowed to

invest in a particular project. "If there is high return, it means

there will be a high risk, and this is only available to accredited

investors." The firm needs to be sure your investment is

financially

comfortable so it doesn’t get into legal trouble if it goes public.

An "accredited investor" should have a net worth of at least

$1 million and usually annual compensation of more than $250,000.

Conley has his own stable of angels. Actually he calls it a garden

— the Silicon Garden Angels Investors Network. "It’s a quiet

group, off the radar, and they only want to be talking to highly

qualified

entrepreneurs with `skin in the game’ so they can’t walk away

comfortably."

It’s a virtual group, and he convenes it when he invites an

entrepreneurial

company to present its business plan. Don’t everyone knock, because

the gate is high. "My job is to carefully to screen in the

qualified

companies and screen in the qualified investors. There is a certain

amount of due diligence, and each side needs to feel there is a

`win/win,’

and feel there is a long term trust," says Conley. "It’s all

going to be in writing with clear expectations."

At the New Jersey Capital Conference, John Martinson of Edison

Venture Fund gives the welcome and keynote address followed by

side-by-side

workshops. At 8:30 a.m.: "Private Equity Sources for Intermediate

Stage Companies," with Jim Gunton of Edison Venture Fund,

Dick Robbins of Arthur Andersen, Gerard DiFiore of Reed

Smith Shaw McClay, and Geoffrey Stengel of BT Alex Brown. Also

at that time, "State and Federal Backed Financing," with

Caren

Franzini of New Jersey Economic Development Authority, Jay

Brandinger

of the New Jersey Commission on Science & Technology, Jim Millar

of Early Stage Enterprises, and Don Christianson of the Small

Business Administration.

"Growing Your Company through Mergers, Acquisitions, and

Recapitalizations"

at 9:30 a.m. features Tim Scott of Price Waterhouse and James

Roberts of PNC Bank. "Debt Capital Sources & Solutions,"

also at 9:30, has Nat Prentice of BT/Alex Brown, Dan

Conley

of Funds for Business + Leasing, Arthur Birenbaum of Jefferson

Bank, and June C. George of BT Alex Brown.

At 10:45 a.m.: "How to Finance Roll-Ups," Brian Hughes

of Arthur Andersen and Jim Hunter of Janney Montgomery Scott,

or "Joint Ventures/Strategic Partnering" with Bill Thomas

of Buchanan Ingersoll and Steve Socolof of Lucent

Technologies.

David Sorin of Buchanan Ingersoll and David Proctor of

Janney Montgomery Scott present the outlook for IPOs at 11:45 a.m.,

followed by lunch with Nelson as the featured speaker. At 2 p.m. CFOs

and financial executives will have their own roundtable on the IPO

experience.

High tech can’t get too much attention for Conley, who coined the

state nickname Silicon Garden (a deliberate reference to the Valley,