Hubba, Hubba, Hubba! Money, Money, Money! Who Do You Trust?

I was reading Sanjay Parekh’s blog yesterday, and it equal parts inspired and scared me. The scary part first: if a guy like Sanjay can’t get down with Georgia’s Angel Tax Credit bill, what’s really going on here (short of him just being contrarian)? I’ll leave the mathematical debates to Sanjay and Ben Dyer as I’m convinced the numbers could be twisted to tell whatever story you want. Where I’ll absolutely agree is in questioning the funding sources. If the theory of an Angel Tax Credit that pays dividends to rich people in 2013 takes resources away from someone in need today, that’s disgusting. Even if it’s only $52…

On the other hand, you’ve got Knox Massey who’s been part of a team working tirelessly for 5+ years who believe this tax credit will be a tipping point to get more investment in the state of Georgia. So the logical question is: Who you gonna trust?

I’ll take the latter first: will the legislation create more funding events? Absolutely not. Great startup ideas and confident angels will make deals happen. Put yourself in an angel investor’s shoes: would you stroke a $150,000 check and invest your time and personal network in a management team based on a tax event three years in the future? Hell no. Angel investing is an art – it’s a state of mind. There’s no Smith Barney wealth management guy who’s going to endorse risk like that. In fact, if you’re negotiating with potential investors and they seem overly fixated on the Angel Tax credit, I offer this advice: RUN! You couldn’t have a less strategic partner for what could be the most important thing you’ll create in your life (with the clear exception of your children). What it will do is add a point or so more profit to the angel investor who took the risk – a nice bonus, but not exactly key decision criteria.

As to Sanjay’s concern about returns, I’d drop that at the feet of entrepreneurs – ourselves included. Why can’t an angel-funded business turn a significant return in three years? The answer is right in front of us all: mediocre startups. This town’s bastardization of the ‘cluster’ theory continues to dominate thinking, which creates a litany of me-too, small-ball companies. The ideas don’t excite anyone and the exit potential doesn’t inspire confidence there will be a large enough multiplier. Ask yourself the tough question: is your startup swinging for the fences? How the hell could anyone expect a $50,000 tax credit to solve that?

Let me quote the caustic words of Grayson Daughters: “Honestly, I'd throw money at the poorest of the poor first ... given some of the ‘entrepreneur’ types I've met over the years in Atlanta. I wouldn't trust some of 'em to walk my dog down the street, let alone do not-so-great things with someone else's money.” The truth stings.

So take a good long look in the mirror. Is your startup making the moves necessary to draw serious investors – regardless of a tax credit? And if you’re an angel investor, are you really doing deals or are you just showing up for the food? You do know your title requires you to put seed money into startups, right?

On it’s best day, the Angel Tax Credit is step one on a path to moving Georgia toward equal footing with its neighbors. And it certainly creates a positive perception of Georgia as a good place to start tech businesses, which is precisely why California and Massachusetts don’t need them – they’re already king and queen of the prom. At the same time, let’s not kid ourselves into viewing it as some magical elixir. I echo Paul Freet’s thought that the job is only half done – unless of course we all band together to develop true business rationale to invest in Georgia’s tech startups. If we can’t figure out how to do that as a community, I’m squarely in favor of Darwinism over continued government intervention.

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0 # Justin Dawkins 2010-06-16 05:56
Very good article, asking all the right questions.

The area that concerns me the most, is innovation. It appears that many start-up founders are at a lost for creating real value in their start-ups which leads me to my concern. Does the anxiety about the lack of innovation (particularly in Atlanta) cause some founders to over-think their concepts? Basically they "dream" themselves right out of the possibility of creating a valuable company and a candidate to receive the funding they needed to grow. If so, how do entrepreneurs reduce their own anxiety while pushing through to still create?
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0 # GFRRTDEFF 2010-06-16 06:15
You're spot-on that innovation is the issue. I'd contend entrepreneurs have spent too much time right-sizing their ideas for the Atlanta funding community – and punking themselves in the process. If you're not SaaS or B2B, that reduces your investor pool by ~80%, which could be perceived as a badge of honor :-) I'd cite StarPound as an exception to the rule: unique industry, big money behind it and building a rockstar company around an open source set of APIs. We need more of that kinda innovation. We sure as hell don't need another metrics/trending API mashup. And my theory is the money feels exactly the same about those two ideas...
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0 # pfreet 2010-06-16 12:14
Dave, another great post as usual. I do want to say that it might be a bit unfair to point Atlanta with such broad strokes. When you look at the 321 (and counting) ATDC Member companies, you see an astonishing array of technologies and technology-depth. Yes there are some web services/analytics companies. But there are also startups doing semiconductor, enterprise software, sensors, telecommunicati ons equipment, video production and much more. Not to mention all of the biotech startups coming out of Emory and Ga Tech.
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0 # GFRRTDEFF 2010-06-16 12:48
Agreed there's great diversity in the startups, but to me the intent of the Angel Tax Credit was tip the scales toward investment in the case of a close call. Big biotech plays (like CardioMEMs at the high end) will draw big funding regardless of some piddly $50K tax credit. Jay Yadav told me his clinical trial cost $30M alone! It's also true there are tons of deals that aren't angel-ready, and therefore aren't affected. It's not like we just created an economic development fund that does direct investments – yet... :-)
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0 # pfreet 2010-06-16 12:54
Here's the poster child for what you seem to be suggesting we want more of:

Terrific team. Good technology. Great market focus. And angel funded.

These companies already exist in Atlanta. They sort of fly below the radar. Are focused on execution, not self-promotion.
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0 # GFRRTDEFF 2010-06-16 13:36
Absolutely. Awesome that Sentrinsic is angel-backed and super focused, and I can greatly appreciate companies who are doing it versus talking about it. They're killing their category, but my argument is we need more categories – including larger consumer plays built around this town's huge Fortune 500 players. It's this type of "swing for the fences" mentality that will attract new investment dollars to Georgia.
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0 # Feb0zdou1 2010-06-16 21:35
Look what the Entertainment Tax Credit for Georgia has done for the gaming industry here.
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0 # Sanjay Parekh 2010-06-16 12:21
Thanks for the hat tip but one important note. Returns from these investments don't need to be 6.5% - they need to be 6.5 times the original investment or 650% in order for the state of Georgia to break even. Two orders of magnitude will make a HUGE difference in this being net neutral to the taxpayers who are funding this initiative.
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0 # GFRRTDEFF 2010-06-16 13:12
As I said, I'll leave the numbers debate to you finance guys – IRRs and cash-on-cash multiples ain't my strong suit. But isn't it overly optimistic to think the program would be net neutral to taxpayers? My hard-earned dollars get used for all kinds of absurd things that will *never* pay for themselves, like a $200K study on growing better blueberries in GA, or a $88K repaving of Ralph David Abernathy Blvd in my old neighborhood (which was paved two years ago). In the grand scheme of things, throwing a chunk of dollars at something like an Angel Tax Credit has more of a chance of breaking even than most other things. But to your point I agree with most: where does that pound of flesh come from? Let's not ignore the needs of people who really need help versus funding a really great European vacation for an angel investor.
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0 # Ben Dyer 2010-06-16 13:19
This post and its comments beg one overarching question about government involvement with the technology community. We have traditionally gone about our businesses without heavy interaction with government entities (except as customers), but in the new order of things there is more intrusion in every aspect of running a business. Consider the effects of health care reform, the proposed change in taxation of VC general partners (a big negative for capital formation), or even the ever tightened state funding of important agencies like the ATDC. I think we have to become more proactive in grabbing our share of the pie as the years roll forward. And, unfortunately, until there's some real growth, for every winner in this game there will be a loser -- it's zero sum politics.
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0 # Feb0zdou1 2010-06-16 21:12
Let me state for the record the views of my good friend and business partner, Dave Walters, do not necessarily represent the views of TechDrawl. I disagree with Dave completely.

I will defer to Knox Massey and Mike Eckert on the details since they've worked on the bill for 4 years, but I think this is a huge step in the right direction for the state of Georgia. If Knox, Mike, Gordon Rogers, Lance Weatherby and Tino Mantella agree, I'm not worried, I don't think Dave has been privy to the conversation about Georgia and the pension funds and some of the disadvantages for investors in early stage companies here vs in the rest of the U.S. and maybe he will come around.

While I am sorry to see $52 in tax credit taken from individuals making $20k or less, I think there are many existing taxpayer-funded programs targeting this sector already. I personally believe the potential for job creation and tax revenue in Georgia far, far outweighs that cost. I know Sanjay disagrees, but I'd rather "teach how to fish" than give fish.
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0 # Feb0zdou1 2010-06-17 15:22
Clarification: The views in this post do not represent the views of Celia Dyer, founder and partner in TechDrawl.

I fully support the right to express any views by any partner in TechDrawl whether I agree with those views or not.

My apologies to Dave Walters.
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0 # Ben Dyer 2010-06-16 13:31
Sanjay is correct that by his measure the returns need to be 6.5X cash-on-cash. That has no relation to a 6.5% IRR; the % in the main body of the post should have been omitted.

I would argue that all forms of returns to the state should be counted, including payroll taxes from jobs created, and not just the taxes paid by the angel investors. But, I respect Sanjay's apples-to-apples viewpoint.
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0 # startupangel 2010-06-16 17:41
I think Ben's last point is probably the most critical, yet most overlooked in this debate. The returns to the state's coffers will come in the form of taxes paid by employees hired by the start-ups, who generally pay considerably higher than minimum wage. The multiplier effect of more people working in well paid jobs needs to be factored in to the calculations.
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0 # GFRRTDEFF 2010-06-16 17:47
I've modified the % reference as suggested. While 6.5x seems high in comparison, shouldn't we all be gunning for at least 10x exits? I know that's where investors want to be, so bring on the great ideas.
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0 # Ben Dyer 2010-06-16 18:59
I was with an early-stage investor at a GT board meeting this past weekend, and he is justifiably proud of the fact that he did pretty well during the past decade with doubles, singles, and even a few bunts. That was the decade when so many angels have told me they ended below where they started. From purely an investing viewpoint, the long-term returns may be better in Atlanta by not swinging for the fences. That's not to argue against the call for serious attempts at big-time company creation, but a 10X hurdle may just not work in this region.
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0 # Heath Wilkes 2010-06-17 17:33
Lions, tigers and bears... Oh my! This debate is chasing all types of hypothetical dangers and a few real ones. First, the Angel Tax Credit is great for Georgia. Kudos to all who helped get this important first step in legislation passed. Bills like this absolutely work because they create the perception of a positive investor environment. Debating the math at the end of the cycle misses the point.

Think of the Angel Tax Credit as an aphrodisiac. All things equal (and if the mood is right), these types of credits help seal the deal for someone who is actively looking to invest their money in tech startups. See North Carolina. And as Celia pointed out, look to the good our own Entertainment Tax Credit has done to lure more movies and video game companies to GA if you require local proof. To suggest a tax credit will not help lure more business opportunities to our community rings hollow to me.

While I agree it's unfortunate how these bills get grouped in the legislative process, that does not mean the Angel Tax Credit is robbing the poor to pay for the rich. It's the nature of the beast. If it's that upsetting, be sure to use your next vote to blame the sausage-makers for lumping things like a $52 tax credit for people making under $20K with a tax credit designed to spur angel investments. In the end, this bill will help create jobs and add revenue inside Georgia. The good outweighs the bad.

I do have one beef and a wish for the Angel Tax Credit. The beef is this bill may have an unfortunate side-effect for the remainder of 2010. Some potential investors may decide to wait until the bill is enacted in January 2011. Yikes!

My wish is this bill gets revisited on a regular basis as we are still a few congressional moves away from matching similar programs in other states. But as a first step, good job GA!

All that said, I echo Dave's position that we all need to come together as a community to create more angel funding for our best and brightest companies, which includes his challenge to each entrepreneur to be the best and brightest in your category. With that, all cylinders will be firing in the same, right direction. Let's get it done!
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