OVERVIEW: Beacon-managed Business Development Companies – BDCs
Beacon Makes It Possible for Entrepreneurs to Go Public Through BDCs
Raising Early-stage Capital Through Public Stock Offerings
“Going public” has, heretofore, been a dream well beyond reach, even for those entrepreneurs who have succeeded in the early years of their business plan. This advantageous, but seldom accessible, strategy is now within reach of entrepreneurs in the United States under a pioneering financing procedure developed by Beacon Investment Partners, LLC (Beacon, BIP) after a two-year long exploration with business leaders, regulators and entrepreneurs.
Beacon Investment Partners is dedicated to public financing of early-stage companies. Beacon will augment the asset management and mentoring ¹ resources of Business Development Companies (BDCs), which invest in early-stage companies.
Through Beacon, early-stage entrepreneurs can reach their dreams of going public…
Beacon Investment Partners, LLC (BIP) was formed in 2009 to advise Business Development Companies (BDCs) on how to optimize yields for long term investors seeking a Margin of Safety in the BDC’s public shares, via:
- Value oriented lending and asset management for a strong balance sheet +
- Growth from investing in common stock of seed, start-up and early stage ventures.
A BDC is a publicly traded closed-end fund that is based in the USA, regulated by the US Investment Act of 1940 and listed on the NASDAQ or New York Stock Exchange.¹¹ Today’s BDCs make loans. However, so far as small business finance is concerned, any BDC choosing Beacon Investment Partners to manage their portfolio, will be electing to invest a portion of the portfolio ¹¹¹ in common stocks of scalable, high tech companies together with loans to help sustain the growth of those clients. Clients can look to ‘Beacon’ as a lead investor and one that will typically finance a high tech venture in amounts ranging from $70 thousand to $7 million in the first year.
Value + Growth = Margin of Safety
“Margin of safety” is the term coined by value investing legend Benjamin Graham, for the concept of buying shares of stock below intrinsic value – “the 50-cent dollar.” An article by Mr. Sham Gad on the Yahoo/Finance web site and entitled, “Want Safety? Look for Growth and Value Together” describes long-term Margin of Safety as also having a growth aspect and then recommended a BDC stock as a timely example:
“The first element of safety you should seek out in a business is indeed the balance sheet. Without a quality balance sheet, the most profitable of businesses can crumble under a temporary period of economic distress. Remember Lehman, Bear Stearns and Countrywide?
But once you have that first moat around a possible investment, focus on the earnings power of the business. While a quality balance sheet may prevent the stock price from going down precipitously, without earnings growth, the stock price may never go up. So the growth component of a business also becomes a very crucial margin of safety, but only when considered alongside a sound financial position. Businesses with these two attributes provide the most compelling margin of safety over the long run. Couple that safety with an attractive stock price, and you are likely to be satisfied with your long-term investment performance.”
Value-Focused Asset Management
In the “safe yield” category, Beacon BDCs will compete with a variety of Exchange Traded Funds (ETF index funds), bonds, money market investments and such managed funds as open and closed-end mutual funds, including the BDCs.
Current BDCs must expend a great deal of effort each quarter estimating their net asset value (NAV). Under the Company Act, 70% of a BDC’s portfolio must be in the services of “small business” – re-interpreted by the SEC in 2006 generally to mean firms not listed on any (U.S.) stock exchange. Subsequently, a portfolio of loans to unlisted US-based companies with sales above $100 million is the asset management policy typifying today’s BDCs. The loans, being subordinate to banks, are usually accompanied by warrants for unlisted shares. Were a client’s shares to become listed on a U.S. exchange, the client ceases to be “eligible” to be counted in the requisite 70% basket.
At the pleasure of the BDC Board of Directors, Beacon Investment Partners, LLC (BIP) will serve as the “external asset manager”. The Board will have highly effective Risk Management tools at its disposal. Martin G. Hurwitz will direct this operation at BIP. Mr. Hurwitz was Managing Director Corporate at US Bancorp Asset Management where he managed the First American Small Cap Growth and Mid Cap Growth Funds and earned US Bank’s “Top Achiever” award.
Prior to that, Hurwitz managed growth portfolios totaling $3 billion in assets and received the “Stock Pick of the Year Award” as Corporate Vice President and Senior Portfolio Manager at American Express Financial Advisors from 1991 – 1999
Growth for the Beacon BDC’s Margin of Safety
Unlike Beacon, Rand Capital and the Harris & Harris Group (Nasdaq: TINY) no other BDC specializes in investing in the common equity of unlisted (hard-to-value) seed, startup or early stage ventures. Even if their quarterly distributions were high and yield could one-day be amazing, long term “value investors” have sought a sound rational for valuations of NAV — often with great difficulty and the risk of being defrauded. Now, the unique Beacon Model© lets public finance actually achieve for small venture finance that which Congress originally intended in 1980 when it amended the Company Act to permit BDCs. The public will participate in Beacon BDC investments from start to exit.
Competing with hundreds of private Venture Capital Limited Partnerships
In the “growth category” the Beacon group’s competition will come from private Venture Capital firms (VCs) and Business Angel networks. However, BDCs have the advantage of “permanency” which stems from being publicly traded corporations.
Although both the public BDC/RIC and the private VC Limited Partnership enjoy tax-advantaged status, the ‘Beacon’ Method’s differentiation from any private Venture Capital partnership is striking — far more attractive to inventors, entrepreneurs, state and local BDCs and Chambers of Commerce, associations of Patent Attorneys in the USA and abroad, university Technology Licensing offices, the SBA, merchant banks, raw materials suppliers and targets for acquisition.
The unique ‘Beacon Method’ provides for the BDC’s client ventures to be listed and typically to trade on the Toronto Stock Exchange – Venture (TSX-V) in less than nine months following Beacon’s initial investment — well before inter-listing on the NYSE or NASDAQ via a full-blown form S-1 IPO in the US.
By way of contrast, the standard VC practice of a series of dilutive private investments of limited partners’ money, postpones the entrepreneur’s access to public finance for 6 to 8 years as a rule. Given that VCs must close out their funds at the end of 10 years, this lack of permanency can impact Return On Invested Capital (ROIC) if the “IPO window” happens to be closed as it has been in 2008 and 2009. In the first three quarters of 2007, National Venture Capital Association members exited via the IPO route 55 times, but the window for US IPOs has been closed ever since. In the first three quarters of 2008 there were only six IPOs. In the first three quarters of 2009, there have been eight venture-backed IPOs vs. 62 merger/acquisition liquidity events.
The 420 members of the National Venture Capital Association industry trade group typically hope to attract “companies that can be $100 million in annual revenues in three to five years,” according to John Martinson. In today’s market, that usually means technology companies.
‘Beacon’ regulated, quarterly-dividend-paying public finance alternatives, will be competing for those same opportunities simply because the “exit” which promises a deal its highest Return On Invested Capital (ROIC) is a full blown S-1 public offering and a NYSE listing with a market capitalization of $300 million or more, i.e., a sufficient market cap to enjoy an analyst following in the USA.
We believe the unique ‘Beacon Method’ will attract companies in the concept/seed stage seeking to participate in the not-for-profit affiliate incubators and educational programs for entrepreneurs. In this context, Beacon will work closely with patent attorneys, universities, the Kauffman Foundation, distance learning services, Angels and community economic development groups.
This special appeal bodes very well for Beacon’s “deal flow”. Deal flow is king. Our ace is a strong attraction for entrepreneurs bringing the crème de la crème of venture opportunities.
Another unique attraction of the Beacon Method is the “equal opportunity IPO” feature. Ground-floor investors in Beacon-backed ventures can no longer be denied participation (allocation of IPO shares) in the first day’s trading should there subsequently be a full-blown (form S-1) Initial Public Offering (IPO) on the NASDAQ or NYSE. J. Ritter’s 2002 study of over 6,200 IPO’s first-day trading showed that, on average, share prices soared 18.8 percent that day. BBDC investors may participate from start to exit.
Yet another unique attraction relates to the needs of inventors and entrepreneurs who are not US citizens — people like Google co-founder Sergey Brin, Yahoo co-founder Jerry Yang and Intel co-founder Andy Grove. Non-citizens need to invest $1 million USD of their personal fortunes in the business to qualify for an EB-5 permanent visa and the option, after 5 years, be eligible to become US citizens. The Beacon Method provides these foreign nationals with that million dollar personal net worth in a matter of a few months so they can invest $1 million in their own new venture. Roughly 30% of the most successful high tech ventures have had a foreign national among the key founders.
Advantage of Beacon Being Based in the USA
A 2007 Deloitte survey reveals that Venture Capital firms around the planet are eager to do business in the USA. However, Federal tax on the GP’s 20% “carried interest” incentive compensation may rise from 25% (capital gains) to 39% for 2011. This might also apply to the external advisors of BDCs (like BIP). In any event, investors in the BDC and its clients would not be subject to this tax change.
Entrepreneurs Rate Most VCs as Poor at Mentoring / Execution Assistance
By contrast with traditional VCs, as the external investment advisor of a BDC, Beacon Investment Partners will have a legal obligation to mentor candidate companies. BIP will be paid for this mentoring and related management assistance to clients by a yearly fee; typically 2% of the assets (including borrowings) that BIP manages for a BDC.
At theFunded.com Web site, the VC partnership Kleiner, Perkins has been rated to date by 37 CEO entrepreneurs while 96 CEOs have rated Sequoia Capital. On a scale of 1 to 5 (tops) for “Execution Assistance” [EA], Kleiner, Perkins’ average rating is 2.9 and Sequoia’s rating is 3.6. Barely a handful of the Web site’s most rated VCs topped 4.0 on EA (mentoring and networking).
Beacon affiliates such as BEST (Beacon Executive Service Task-force) will sponsor not-for-profit educational entities and incubators in New York, Silicon Valley, Hong Kong and the Middle East as a means of optimizing the performance of new client ventures. Consequently, the Beacon group will also find itself and a supporting cast of Angels, positioned to seed concepts in return for “cheap” stock.
Cost/Benefits Of Going Public
Entrepreneurs know that the high out-of-pocket costs of going public (often exceeding $2 million) make it necessary to have the backing of one of the top 5% of venture capital companies. Even if they have made it from concept to start up and on to early-stage commercialization, they are unlikely to get to a public offering. The Beacon Method of employing a publicly funded Business Development Company (BBC) to underwrite the Initial Public Offering can save $1 million or more, and change the odds of success dramatically.
For entrepreneurs, inventors, their friends, families and Business Angel investors alike, the advantages of going public as early as possible are many — acquisitions using stock instead of cash only, easy company valuations (market capitalization), increased visibility and prestige, greater access to additional capital, the ability to attract world-class management thanks to the liquidity of employee stock options and liquidity for shareholders including the BDC.
“Angels are still financing deals, but at lower valuations… They have grown more picky and less tolerant of risk… a real flight to quality… Angels are looking for companies with more modest capital requirements… quicker paths to profitability and proven management teams… In the old days, Angels invested with the idea that they would finance the company at an early stage, then venture capitalists would step in with a large injection of cash that allowed it to blast off on a hockey stick growth trajectory. Now we’re prepared to give up the immediate hockey stick… valuations have fallen sharply — as much as 40%… the exit market has changed drastically because of the decline in mergers, acquisitions and initial public offerings. As a result, venture capital firms are increasingly concentrating on their existing portfolios… ”
The needs of Business Angel’s are well aligned with those of entrepreneurs, friends and family and the shareholders of the BDC. The novel Beacon Method and BEST (Beacon Executive Service Task-force) are custom tailored to Angel’s increasingly urgent needs.
About the Authors
Vincent A. Fulmer is a co-founder of the M.I.T. Enterprise Forum and a member of its Executive Board. He is a nationally recognized advocate of entrepreneurship.
George W. Beard is Managing Member of Beacon Investment Partners, LLC (Delaware, USA) and founder and CEO of KeepTrack USA. KeepTrack is a development-stage physical cargo security and supply chain IT firm. KeepTrack features a portable Katie Bar® internal locking platform for containers which securely incorporates patented sensing and imaging while offering every innovator an “open” standard, “plug-and-play” bus and an open application programming interface (API).
I Sponsoring BEST, not-for-profit Beacon Executive Service Taskforce© for Entrepreneurs
ii Shedding New Light on Business Development Companies, The Investment Lawyer, Vol. 11, No. 10 • October 2004 Aspen Publishers, by Steven B. Boehm, Cynthia M. Krus, Harry S. Pangas and Lisa A. Morgan, all at Sutherland Asbill…http://www.akingump.com/docs/publication/677.pdf Private Equity Goes Public, Akin Gump…
iii While 30% of any BDC’s portfolio may be invested in a wide diversity of opportunities anywhere in the world, 70% must be devoted to either cash equivalents or financial support (equity and/or loans) to “eligible” US-based companies, i.e., clients of any size — as long as they are not ‘listed’ on a US stock exchange and don’t have a market capitalization in excess of $500 million. Current BDCs cease to support their client entrepreneur’s financial needs once the client “goes public” by becoming listed and trading on a NYSE or NASDAQ with market cap > $500 million. Uniquely, on the other hand, any ‘Beacon group’ BDC wouldn’t need to abandon clients, i.e., exit from deals prematurely. Instead, eligible Beacon’ clients will promptly list / trade globally on exchanges in Toronto (TSX-V or TSX) and/or London (AIM) instead.
iv http://finance.yahoo.com/news/Want-Safety-Look-for-Growth-tsmp-3380082090.html?x=0&.v=1 Want Safety? Look for Growth and
Value Together, November 3, 2009. Sham Gad is the managing partner of Gad Capital Management, a value-focused investment firm based
in Athens, Ga.
v BDCs are regulated by the U.S. SEC under amendments to the Investment Company Act of 1940
vi The “small business” bar has been lowered to include listed companies with market equity capitalization < $500 million.
vii 75% or 4 of the BDC’s 5 Directors must be independent. Of course, Sarbanes Oxley also applies.
How Does One Audit a Fund Manager’s Risk Management? Market Movers, Portfolio.com, Jan 14 2009 by Felix Salmon http://nakedshorts.typepad.com/files/madoff.pdf Madoff tops charts; skeptics ask how, MAR/Hedge (RIP) Page 1, No. 89 May 2001, by Michael Ocrant http://icf.som.yale.edu/pdf/incentives.pdf Offsetting the Incentives: Risk Shifting, and Benefits of Benchmarking in Money Management, by Suleyman Basak. Anna Pavlova. London Business School and CEPR
ix Unlike “private equity” firms also, since they’re not a source of capital for early-stage companies.
x Start-up Companies Return 91.2% in Year , (Jan 5, 2000 Boston Globe by Jerry Ackerman, Globe Staff)
Venture Capital funds that put money into start-up companies at their earliest stages of investment reaped a stunning 91.2% return during the 12 months to Sep 30, 2000 according to National Venture Capital Association and Venture Economics. “Returns this high for such a short period of time have not been seen since the early 1980s, when the introduction of desktop and personal computers coincided with the beginning stages of the biotechnology industry”, according to analyst Tom Kusner of Venture Economics, a subsidiary of Thompson Financial Securities Data of Boston. Overall, including money put into their portfolio companies at later stages of development, venture funds saw an average one-year return of 62% during the 12-month period .
xi “Angels that back such ventures can earn impressive long-term returns — one study cites a rate of return of about 27%, on average, or 2.6 times the investment in 3.5 years.” [Chris Farrell, Business Week, Apr 28, 2008]
xii http://www.marketwatch.com/story/story/print?guid=A511E514-592F-4919-B5EE-62302ADC0228 Scott Austin’s The Week in Venture Capital, Feb. 21, 2008
Finding riches in entrepreneurs’ woes
Commentary: Specialists see opportunity as more start-ups fold their tents
xiii The Beacon BDC (BBDC) can and will elect to be regulated as a tax free RIC (Registered Investment Company) so that gains are not subject to U.S. Federal tax prior to quarterly distribution to the BDC’s public shareholders.
xvi Readers who sign a non-disclosure agreement may request a detailed “Beacon Method” flowchart.
xv Based upon BIP’s in depth interviews.
xvi The American Intellectual Property Law Association, AIPLA, among other associations of Patent Lawyers worldwide.
161 VC partnerships raised $19.7 billion in 1998 as both a “go-go era” and a precipitous decline in the US Balance of Payments began in earnest. That year, members of the U.S. National Venture Capital Association (NVCA) made 3,652 investments valued at $20 billion dollars. Nearly $6 billion of that was invested in Silicon Valley. In 1999, VC profits reached astronomical heights and 209 partnerships raised $38.2 billion. In 2000, 228 VC partnerships raised another $69.7 billion of other people’s money (OPM) as the “new economy” bubble further expanded.
Ten years will soon have passed and those partnerships soon must liquidate their investments bankrupting thousands of hapless client ventures in the process. In sharp contrast, Beacon BDCs will have permanency, and furthermore, our clients and the stock options that vest will be liquid on the Toronto exchange as clients grow and mature. Unlike current BDC methods, the Beacon Method provides for continuity of support post-listing. These advantages, plus the 2% support budget deriving from the sheer size of assets under management, plus the expected reputation for world class due diligence, will make the Beacon imprimatur a unique badge of honor in the eyes of both clients and their prospective investors.
xix The Truth About Venture Capital Myth: Getting venture capital is impossible. Reality: It’s not easy, but it can be done. We show you how. By Paul DeCeglie, Business Start-Ups magazine – February 2000 http://www.entrepreneur.com/magazine/businessstartupsmagazine/2000/february/18894.html
xxi Enjoyment that stems from meriting analyst coverage is tempered by Wall Street’s demand that, from that day forward, management consistently outperform manufactured quarterly earnings forecasts.
xxii That US threshold ($300 million market cap.) is roughly ten times what it takes before analysts will follow the company on the TSX, so inter-listing will provide any Beacon-backed venture a workaround.
http://bear.cba.ufl.edu/ritter/publ_papers/ritterwelch.pdf A Review of IPO Activity, Pricing and Allocations, by JAY R. RITTER and IVO WELCH, Journal of Finance, Aug. 2002
xxiv http://www.slate.com/toolbar.aspx?action=print&id=2228258 Give Me Your Tired, Your Poor, Your Startup Founders
America can’t be the world’s tech leader without immigration reform. Slate.com, Posted Monday, Sept. 14, 2009, by Farhad Manjoo
xxv http://www.slideshare.net/bwatson/global-trends-in-venture-capital-2007-survey Global Trends in Venture Capital, 2007 Survey, U.S. Report sponsored by Deloitte & Touche USA LLP in association with the National Venture Capital Association (NVCA)
http://www.mayfield.com/news/articles/2006-10-27_Kapoor_NYT_onVC.html The New York Times, 27 October 2006, Raj Kapoor Speaks Out on State of VC Industry, Not the Best of Timing For the Industry’s Obituary, By MIGUEL HELFT
Xxvi Venture Capital partnerships are subject instead to Section 3C-1 or Section 3C-7 of the Code.
xxvii Venture Capital at the Crossroads by William D. Bygrave and Jeffrey A. Timmons has a chapter entitled: Venture Capital: More Than Money. They studied relationships between entrepreneurs and venture capitalists and noted, “We found a wide fluctuation in terms of the intensity and extent of involvement on the part of venture capitalists. The quality of the relationship is key.” The book quotes an entrepreneur in Boulder Colorado whom they interviewed as saying: “It is far more important whose money you get than how much you get or how much you pay for it.” Bygrave and Timmons’s concluded this important chapter with: “What is clear from our investigations is that the successful development of the business can be critically affected by the relationship between the venture capitalist and a management team. The talents and savvy of the investors and entrepreneurs count for much more than money. And when they are in sync, the results are often stunning.”
The New Rules of Angel Investing by Kermit Pattison, The New York Times, October 29, 2009; quoting David S. Rose, chairman of New York Angels.