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State venture-capital incentive gains traction in Gen. Assembly
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Reagan Farr
Revenue Commissioner

A House subcommittee voted earlier this week to support increasing venture-capital investment in Tennessee businesses.

On Tuesday, after a series of pointed questions from an apparently skeptical Republican within its ranks, the House Commerce subcommittee on Small Business sent the proposed "Tennessee Small Business Investment Company (SBIC) Tax Credit Act" to its parent committee, where the bill faces further review, May 5.

The bill would allow new certified capital companies (CAPCOs) to pool capital obtained from insurance companies, with state tax credits as an inducement. By one estimate, total state premium taxes are nearly $400 million annually, and rising at $20 million or more, each year. The legislation would authorize $100 million in tax credits for the program.

In the current economic environment, many factors will help shape the fate of the proposal. Among the most important factors: State Revenue Commissioner Reagan Farr is making a fresh study of the potential costs and benefits of the legislation, and will soon publicly report his findings.

In addition, this morning in a conference room in the State Capitol, the State Funding Board will hear from experts on the state's economic and revenue outlook. The meeting is likely to produce data and headlines that will tighten fiscal constraints on lawmakers.

Against this backdrop, CAPCO advocates are applying pressure. Three venture capital firms from New York, Missouri and Ohio have retained Nashville-based Johnson Poss Government Relations Inc. to advance the CAPCO legislation, with Nathan Poss in the lead. The client firms are Advantage Capital Partners, St. Louis; Enhanced Capital Partners, New York City; and, Stonehenge Capital Company, Columbus, Ohio.

The lobbyists are displaying a sense of realism: Bo Johnson told VNC that CAPCO proponents are "kind of following [the Bredesen Administration's] lead right now, because, frankly, it's the kind of bill that if the Administration thinks it's a good thing for Tennessee" it will pass - otherwise, it will fail.

For their part, executives from Advantage and Enhanced insist their CAPCO model is much-improved from earlier years and they're prepared to collaborate with local venture capital firms, if any want to play.

Local venture-capital executives' updated comments on the current legislative proposal are available here.

Advantage Managing Partner Ryan Brennan (right) told VNC in a recent interview that while economically crippled states cannot afford to support new programs within state budgets or through state bond-financing capacity, the CAPCO model can be quickly mobilized to ensure targeted investment within the State of Tennessee, by leveraging "huge reserves of capital" held by insurance companies.

Ryan also argued that other forms of capital-pooling are much more susceptible to political influence and often drift off their intended sectoral or geographic targets.

Enhanced Capital President and CEO Michael Korengold (left) told VNC many VC firms find the regulatory oversight that comes with shouldering a CAPCO role too burdensome. Others view the lengthy program commitment as too long, and the rewards too small to warrant participation. Korengold explained that his own firm has been in the field long enough to know the challenges and to cope with them.

As previously reported by VNC, Tennessee Technology Development Corporation staff and members of the TTDC Tennessee Capital Formation Board, populated by venture capitalists and private-equity investors, are pressing for extensive changes in the current bill, arguing that it generates too little in-state investment, as well as excessive fees for participating venture-capital firms.

TTDC had long planned to introduce legislation to achieve similar ends during the 2010 session of the 106th General Assembly. In responding to the bill, TTDC has recently outlined capital-pooling approaches it argues are more effective in generating risk-capital investment, and less costly in terms of state revenue given up in tax credits.

At the same time, TTDC President and CEO Eric Cromwell (at right) and others have signalled that they recognize considerable political energy has been marshalled behind the CAPCO legislation, and they seek to join in supporting small business, while arguing that any new program's design must produce the greatest possible return for the State.

Simultaneously, Cromwell and TTDC board members, including Chairman Bill Evans, who is CEO of St. Jude's Children's Hospital in Memphis, have said they want to be careful TTDC does not overplay its hand, despite its interest in securing its role as "trusted advisor" for the state in such matters.

For the moment, the trusted-advisor mantle seems to belong to Revenue's Farr, whose authority and credibility - burnished by his role in helping Gov. Phil Bredesen and his Cabinet devise affordable incentives to lure Volkswagen, Hemlock Semiconductor and Wacker Chemie to the state - afford him standing to administer the cost-benefit litmus test to all state incentive proposals.

Farr told the House subcommittee Tuesday that while the CAPCO bill and the tax-credit vehicle, itself, could "potentially" contribute to state economic development, further analysis is required to ensure the legislature has a chance to "get it into a shape and form that it fits the matrix" of cost-benefit criteria established by the Bredesen Administration in recruiting investment.

Farr said the primary sponsors of the CAPCO bill - State Rep. Charles Sargent (R-Franklin) and State Sen. Doug Overbey (R-Maryville) - have invited him to participate in resolving lingering issues, and that Gov. Phil Bredesen has authorized him and Economic & Community Development Commissioner Matt Kisber to get more deeply involved in the matter. Both Sargent and Overbey have previously told VNC they consider their bill a "starting point" for refinement.

In committee Tuesday, Farr made clear that he feels the projected costs associated with the bill need further scrutiny and that adjustments in the original bill are needed. Ultimately, Farr's comments on the bill's fiscal impact could provide the bill a tailwind - or a sharp downdraft.

Farr has agreed that capital-pooling legislation could net economic gains, and noted that the state's recent success with its Rural Opportunity Fund (ROF) suggests that such programs can, indeed, produce net gains, which the state needs, if it is to strengthen its venture-capital community and retain promising new or expanding companies in Tennessee, rather than losing them to other states.

Farr has on several recent occasions mentioned that in furtherance of capital-pooling and investment goals, the ROF could be expanded to manage a new capital initiative. The ROF is managed by Southeast Community Capital, headquartered at MetroCenter in Nashville.

On Tuesday, Farr was asked by Rep. Susan Lynn (left) why the state wouldn't give existing Tennessee venture-capital funds tax incentives directly, rather than creating new infrastructure. Farr replied that "the reason we don't do that is we have absolutely no leverage" over venture-capitalists who make investment decisions regardless of whether the venture is a Tennessee business, and who are accountable to their limited-partner investors, rather than to state government.

Lynn, a Republican from Mt. Juliet, repeatedly raised questions during Tuesday's meeting that indicated she wanted more time to study the bill and its projected costs, before voting it out of committee, unchanged. However, a majority of her colleagues ensured the bill moved out, untouched. Lynn has not yet returned calls placed to her Capitol office by VNC.

House sponsor Sargent took a moment Tuesday to tell fellow legislators that while he is a State Farm Insurance agent, State Farm "doesn't know anything about this bill," insofar as he has been able to determine thus far, but that he was still trying to validate that understanding.

A VNC call placed to State Farm public affairs representative Shawn Johnson, based in Murfreesboro, has not yet been returned.

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Tags: Advantage Capital Partners, Bill Evans, Bo Johnson, CAPCOs, Charles Sargent, Doug Overbey, economic development, Enhanced Capital Partners, Johnson Poss Government Relations, Michael Korngold, Nathan Poss, Phil Bredesen, Reagan Farr, Rural Opportunity Fund, Ryan Brennan, SBIC, Southeast Community Capital, St. Jude's Children's Hospital, Stonehenge Capital Company, Susan Lynn, Tennessee Capital Formation Board, Tennessee Technology Development Corporation, TNInvestco, TTDC, venture capital

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