December 12, 2005
Fund drive | The Small Enterprise Growth Fund sees a big return on its investment in Portland-based software company Recruiternet
By Douglas Rooks
A decade after its inception as a source of "patient capital" for small but promising Maine businesses, the state-sponsored Small Enterprise Growth Fund's patience is starting to pay off.
The successful sale of the Portland software firm Recruiternet to industry leader First Advantage of St. Petersburg, Fla. produced a seven-fold return for the fund ˆ bringing in $1.75 million ˆ as well as putting a Maine-grown business on a solid financial footing for the future. By the time the sale closed in September, Recruiternet had grown from nine to 44 employees in just five years, and turned $1 million in outside investment into an $18 million company.
Not every investment by SEGF has produced such a spectacular result, but the fund's board and managers hope that the Recruiternet story will help show why the growth fund is an important part of the state's overall economic strategy, and one worthy of continued and expanded public support.
SEGF invests in Maine companies with fewer than 50 employees that have unique products and strong growth potential ˆ but aren't likely to qualify for conventional debt financing. As it happened, Recruiternet attracted investment from both SEGF and CEI Ventures, a Portland-based for-profit venture capital fund launched in 1994 by Coastal Enterprises Inc., which has been promoting small business development for three decades.
Mark Kaplan, a partner at CEI Ventures, fielded the initial inquiry from Bob Neveu, founder and president of Recruiternet, and was impressed. Neveu, he said, "had demonstrated sales ability" as a reseller of software products, and was developing his own product, a human resources tracking software platform, that had even better prospects. "They were offering a sophisticated product that was very low-cost and attracted some big customers right away," said Kaplan.
John Burns, fund manager for SEGF, said the joint investment ˆ CEI Ventures and SEGF each put in $250,000 ˆ is an example of the two funds' mission coinciding. SEGF is charged with helping small companies grow, while CEI has an additional social mission of providing jobs for lower-income Mainers. (Recruiternet later received $500,000 from second-stage investors, including British pension funds.)
"We've probably made four or five joint investments," said Burns. "Sometimes they'll take a look, but say no, and we'll decide to invest. Sometimes it's the opposite. Some people would say we're competitors, but we're really not. It's good to have different perspectives on the risks and the prospects for each company."
Learning curve
According to Burns, Maine had identified a serious gap in the small-company funding market when it decided to launch SEGF in 1995. The then-new King administration convinced the Legislature to include $5 million for a revolving, "evergreen" growth fund in an economic development bond issue. SEGF generally invests $150,000-$350,000 in companies that meet investment objectives, including those in marine sciences, biotechnology, manufacturing, software development, financial services, environmental technology and exporters that bring significant capital to Maine.
While state-sponsored and financed, SEGF has an independent, 10-member board that makes the investment decisions upon recommendation of the manager. The board includes considerable expertise in corporate management and finance. Stephen Smith, the chair, was a venture capitalist and technology analyst on Wall Street for 16 years, while the vice chair, Diane Sammer, is former president and CEO of System/ Link Corp., specializing in software and network services. "I'm amazed at the quality of people we're able to attract for the board," said Burns, "considering that the only pay is lunch at our monthly meetings."
The board's independence from state government involvement is also designed into the program. "I asked about that when I was interviewing in 2000," Burns said. "I didn't want to be put in a position where the relative of some politician was expecting an investment." In fact, he said, he got three calls from Gov. Angus King during his first months as fund manager. "Each time, he had somebody with him who was interested in the fund. I gave him the facts, and each time he thanked me and hung up. That was always the end of it. There was never any pressure."
While the capital crunch that existed in the mid-1990s has eased somewhat, it's still difficult to find equity capital for the firms Maine typically produces, which are smaller or have lower growth rates than those favored by large venture capitalists. "If it didn't exist," Burns said of SEGF, "would there be a huge void?" Perhaps not, he said ˆ but then the fund does a lot more than would be expected of a private venture capital firm.
SEGF's philosophy is that nurturing small companies, and educating them in the ways of the financial world, is as important as providing them with capital. With Recruiternet, for instance, Mark Kaplan suggested forming a board of directors. Burns said that learning how to delegate certain decisions to a board and how to achieve consensus about the direction of the company is often uncharted territory for the entrepreneurs who start new companies.
"They have to understand the ways of the world," Burns said. "If you're going with a big capital firm, for instance, they're going to want a major stake. That's an important, and sometimes difficult, decision for a small business owner."
Even with that guidance, not every investment the fund makes pays off. Like most venture capital funds, SEGF writes off nonperforming investments. According to Burns, of every 10 investments, four to five go belly up (and are written off), three to four "muddle along," earning returns equal to the inflation rate, and one or two succeed spectacularly.
One board member who's appreciated the educational aspects of the experience is Janet Yancey-Wrona, who formerly headed another state-sponsored agency, the Maine Technology Institute, and now directs the Office of Innovation at the Department of Economic and Community Development. As the designee of the DECD commissioner, she's the one state employee on the board.
Although Yancey-Wrona holds a Ph.D., she doesn't have much training in finance, so her time on SEGF's board has helped her understand the growth pattern small companies experience. "A fast-growing company really can't depend on conventional debt financing, despite its success," she said. If a company is growing at 25% a year and starts borrowing to finance its expansion, "by the time you get to years two and three, you can no longer handle the debt service. That's why equity financing ˆ owning a part of the company ˆ is so important," she said.
Yancey-Wrona sees SEGF as a link in economic development chain that begins with MTI, her old agency. "MTI gets companies off the ground, and then SEGF comes along and takes them to the next level," she said. Some of her old MTI clients are now just about ready to attract the kind of investments SEGF offers, she believes.
Combined with state support for business incubators, loan programs, and federal assistance, Maine now has an effective business development effort that ranks high among the states, particularly small ones, according to Yancey-Wrona.
Still, the state could do more. Yancey-Wrona believes, for instance, that SEGF is undercapitalized to achieve its aims of a permanent fund with a real impact on business development. In addition to the initial $5 million bond issue, the Legislature appropriated $3 million in 2000, at a time of budget surpluses, and there's another $1 million in the economic development bond issue approved by voters Nov. 8, for a total of $9 million to date.
Even with those increases, Yancey-Wrona thinks there should have been more; SEGF had recommended $5 million for the latest bond issue. "Most states that have been successful with this are capitalized between $10 [million] and $20 million. So we still have a way to go," she said.
Creating value
As it happens, after the sale of Recruiternet and the exit of another successful company, Portland-based Angela Adams LLC, SEGF is "pretty liquid," John Burns said, though he doesn't disagree with Yancey-Wrona's assessment of its capitalization. Angela Adams, which designs rugs, handbags and other home items, bought back the shares owned by SEGF in June for a positive, but undisclosed, return to the fund. In 2003, investments in Phitex of Portland and Capricorn Products of Scarborough also yielded a positive return.
Part of the strategy of getting the state to invest more will be to gain attention for the fund's growing successes, after the long incubation period necessary to actually make such sales. Showing that SEGF's "graduates" produce faster-than-average job growth, with well-above-average wages, will also be important to making the case, Yancey-Wrona said.
Jobs at Recruiternet, for example, run the gamut from well-trained computer engineers and designers, "some of the brightest people in the business," founder Neveu said, to data-entry personnel who work part-time, and are often contracted by companies buying the software platform.
Neveu said that when he founded Recruiternet in 1999, he saw immediate interest and need by large and medium-sized companies for hiring management systems ˆ a way to track and keep up with the thousands of job applicants and employees who join companies each year. Within two years, he was ready to offer his own product. "Our first big client was CVS Pharmacy, and within a short time we had also signed up Fleet Bank, Daimler/ Chrysler and Dr. Pepper," Neveu said. "I knew we were on to something big."
Neveu spent about nine months shopping for capital investment, and talked to many of the larger venture capital firms out of Boston, Chicago and elsewhere. He never doubted the suitability of Recruiternet for such investment. "We were profitable from the very first year, and our growth was strong from the beginning," he said. Recruiternet had $700,000 in sales in the year of its product launch, 2001. Sales doubled to $1.4 million the following year, and continued upward to $2.4 million in 2003 and $3.6 million in 2004.
Still, "we liked the fit with the Maine funds," Neveu said. The fact that SEGF targeted firms with fewer than 50 employees and that CEI Ventures reflected social as well as financial concerns was appealing. So, in 2001, Neveu worked out a deal with the two firms in which SEGF and CEI Ventures received a minority stake in the company and two seats on the five-member board in return for their $500,000 investment.
Just four years later, the firm's name is being retired ˆ receptionists say, "First Advantage, formerly Recruiternet" at the Portland office ˆ but Neveu is confident that the new owners will not only maintain the Portland location, but invest in growth for its product offerings. "We plan to be hiring a third more people than we have now," he said. Neveu will continue to manage the Portland office, which now occupies two floors of an office building at 129 Middle St., not far from the Portland police station.
Mark Kaplan at CEI Ventures said, "You do worry sometime about what will happen to a company after you sell," even though venture funds like CEI and SEGF are designed to make equity investments, help the company grow and then exit within five to seven years. "You look for a good fit with a buyer, and we seem to have found it here."
While state-sponsored investment funds like SEGF are no longer rare ˆ although most states make public investments in private funds, rather than operating their own funds ˆ they do still offer a service different from that provided by the large venture capital firms. Burns, who spent 15 years in the investment department at Unum before taking the SEGF post, said, "You do your research and look at the financial opportunities ˆ and the risks, just as anyone else does. But there's another step in there as well. When we have to turn someone down, and sometimes we do, I have to remember how personal this is. These are people who've invested their lives into their business. You have to be respectful of the value they've created."
The successful sale of the Portland software firm Recruiternet to industry leader First Advantage of St. Petersburg, Fla. produced a seven-fold return for the fund ˆ bringing in $1.75 million ˆ as well as putting a Maine-grown business on a solid financial footing for the future. By the time the sale closed in September, Recruiternet had grown from nine to 44 employees in just five years, and turned $1 million in outside investment into an $18 million company.
Not every investment by SEGF has produced such a spectacular result, but the fund's board and managers hope that the Recruiternet story will help show why the growth fund is an important part of the state's overall economic strategy, and one worthy of continued and expanded public support.
SEGF invests in Maine companies with fewer than 50 employees that have unique products and strong growth potential ˆ but aren't likely to qualify for conventional debt financing. As it happened, Recruiternet attracted investment from both SEGF and CEI Ventures, a Portland-based for-profit venture capital fund launched in 1994 by Coastal Enterprises Inc., which has been promoting small business development for three decades.
Mark Kaplan, a partner at CEI Ventures, fielded the initial inquiry from Bob Neveu, founder and president of Recruiternet, and was impressed. Neveu, he said, "had demonstrated sales ability" as a reseller of software products, and was developing his own product, a human resources tracking software platform, that had even better prospects. "They were offering a sophisticated product that was very low-cost and attracted some big customers right away," said Kaplan.
John Burns, fund manager for SEGF, said the joint investment ˆ CEI Ventures and SEGF each put in $250,000 ˆ is an example of the two funds' mission coinciding. SEGF is charged with helping small companies grow, while CEI has an additional social mission of providing jobs for lower-income Mainers. (Recruiternet later received $500,000 from second-stage investors, including British pension funds.)
"We've probably made four or five joint investments," said Burns. "Sometimes they'll take a look, but say no, and we'll decide to invest. Sometimes it's the opposite. Some people would say we're competitors, but we're really not. It's good to have different perspectives on the risks and the prospects for each company."
Learning curve
According to Burns, Maine had identified a serious gap in the small-company funding market when it decided to launch SEGF in 1995. The then-new King administration convinced the Legislature to include $5 million for a revolving, "evergreen" growth fund in an economic development bond issue. SEGF generally invests $150,000-$350,000 in companies that meet investment objectives, including those in marine sciences, biotechnology, manufacturing, software development, financial services, environmental technology and exporters that bring significant capital to Maine.
While state-sponsored and financed, SEGF has an independent, 10-member board that makes the investment decisions upon recommendation of the manager. The board includes considerable expertise in corporate management and finance. Stephen Smith, the chair, was a venture capitalist and technology analyst on Wall Street for 16 years, while the vice chair, Diane Sammer, is former president and CEO of System/ Link Corp., specializing in software and network services. "I'm amazed at the quality of people we're able to attract for the board," said Burns, "considering that the only pay is lunch at our monthly meetings."
The board's independence from state government involvement is also designed into the program. "I asked about that when I was interviewing in 2000," Burns said. "I didn't want to be put in a position where the relative of some politician was expecting an investment." In fact, he said, he got three calls from Gov. Angus King during his first months as fund manager. "Each time, he had somebody with him who was interested in the fund. I gave him the facts, and each time he thanked me and hung up. That was always the end of it. There was never any pressure."
While the capital crunch that existed in the mid-1990s has eased somewhat, it's still difficult to find equity capital for the firms Maine typically produces, which are smaller or have lower growth rates than those favored by large venture capitalists. "If it didn't exist," Burns said of SEGF, "would there be a huge void?" Perhaps not, he said ˆ but then the fund does a lot more than would be expected of a private venture capital firm.
SEGF's philosophy is that nurturing small companies, and educating them in the ways of the financial world, is as important as providing them with capital. With Recruiternet, for instance, Mark Kaplan suggested forming a board of directors. Burns said that learning how to delegate certain decisions to a board and how to achieve consensus about the direction of the company is often uncharted territory for the entrepreneurs who start new companies.
"They have to understand the ways of the world," Burns said. "If you're going with a big capital firm, for instance, they're going to want a major stake. That's an important, and sometimes difficult, decision for a small business owner."
Even with that guidance, not every investment the fund makes pays off. Like most venture capital funds, SEGF writes off nonperforming investments. According to Burns, of every 10 investments, four to five go belly up (and are written off), three to four "muddle along," earning returns equal to the inflation rate, and one or two succeed spectacularly.
One board member who's appreciated the educational aspects of the experience is Janet Yancey-Wrona, who formerly headed another state-sponsored agency, the Maine Technology Institute, and now directs the Office of Innovation at the Department of Economic and Community Development. As the designee of the DECD commissioner, she's the one state employee on the board.
Although Yancey-Wrona holds a Ph.D., she doesn't have much training in finance, so her time on SEGF's board has helped her understand the growth pattern small companies experience. "A fast-growing company really can't depend on conventional debt financing, despite its success," she said. If a company is growing at 25% a year and starts borrowing to finance its expansion, "by the time you get to years two and three, you can no longer handle the debt service. That's why equity financing ˆ owning a part of the company ˆ is so important," she said.
Yancey-Wrona sees SEGF as a link in economic development chain that begins with MTI, her old agency. "MTI gets companies off the ground, and then SEGF comes along and takes them to the next level," she said. Some of her old MTI clients are now just about ready to attract the kind of investments SEGF offers, she believes.
Combined with state support for business incubators, loan programs, and federal assistance, Maine now has an effective business development effort that ranks high among the states, particularly small ones, according to Yancey-Wrona.
Still, the state could do more. Yancey-Wrona believes, for instance, that SEGF is undercapitalized to achieve its aims of a permanent fund with a real impact on business development. In addition to the initial $5 million bond issue, the Legislature appropriated $3 million in 2000, at a time of budget surpluses, and there's another $1 million in the economic development bond issue approved by voters Nov. 8, for a total of $9 million to date.
Even with those increases, Yancey-Wrona thinks there should have been more; SEGF had recommended $5 million for the latest bond issue. "Most states that have been successful with this are capitalized between $10 [million] and $20 million. So we still have a way to go," she said.
Creating value
As it happens, after the sale of Recruiternet and the exit of another successful company, Portland-based Angela Adams LLC, SEGF is "pretty liquid," John Burns said, though he doesn't disagree with Yancey-Wrona's assessment of its capitalization. Angela Adams, which designs rugs, handbags and other home items, bought back the shares owned by SEGF in June for a positive, but undisclosed, return to the fund. In 2003, investments in Phitex of Portland and Capricorn Products of Scarborough also yielded a positive return.
Part of the strategy of getting the state to invest more will be to gain attention for the fund's growing successes, after the long incubation period necessary to actually make such sales. Showing that SEGF's "graduates" produce faster-than-average job growth, with well-above-average wages, will also be important to making the case, Yancey-Wrona said.
Jobs at Recruiternet, for example, run the gamut from well-trained computer engineers and designers, "some of the brightest people in the business," founder Neveu said, to data-entry personnel who work part-time, and are often contracted by companies buying the software platform.
Neveu said that when he founded Recruiternet in 1999, he saw immediate interest and need by large and medium-sized companies for hiring management systems ˆ a way to track and keep up with the thousands of job applicants and employees who join companies each year. Within two years, he was ready to offer his own product. "Our first big client was CVS Pharmacy, and within a short time we had also signed up Fleet Bank, Daimler/ Chrysler and Dr. Pepper," Neveu said. "I knew we were on to something big."
Neveu spent about nine months shopping for capital investment, and talked to many of the larger venture capital firms out of Boston, Chicago and elsewhere. He never doubted the suitability of Recruiternet for such investment. "We were profitable from the very first year, and our growth was strong from the beginning," he said. Recruiternet had $700,000 in sales in the year of its product launch, 2001. Sales doubled to $1.4 million the following year, and continued upward to $2.4 million in 2003 and $3.6 million in 2004.
Still, "we liked the fit with the Maine funds," Neveu said. The fact that SEGF targeted firms with fewer than 50 employees and that CEI Ventures reflected social as well as financial concerns was appealing. So, in 2001, Neveu worked out a deal with the two firms in which SEGF and CEI Ventures received a minority stake in the company and two seats on the five-member board in return for their $500,000 investment.
Just four years later, the firm's name is being retired ˆ receptionists say, "First Advantage, formerly Recruiternet" at the Portland office ˆ but Neveu is confident that the new owners will not only maintain the Portland location, but invest in growth for its product offerings. "We plan to be hiring a third more people than we have now," he said. Neveu will continue to manage the Portland office, which now occupies two floors of an office building at 129 Middle St., not far from the Portland police station.
Mark Kaplan at CEI Ventures said, "You do worry sometime about what will happen to a company after you sell," even though venture funds like CEI and SEGF are designed to make equity investments, help the company grow and then exit within five to seven years. "You look for a good fit with a buyer, and we seem to have found it here."
While state-sponsored investment funds like SEGF are no longer rare ˆ although most states make public investments in private funds, rather than operating their own funds ˆ they do still offer a service different from that provided by the large venture capital firms. Burns, who spent 15 years in the investment department at Unum before taking the SEGF post, said, "You do your research and look at the financial opportunities ˆ and the risks, just as anyone else does. But there's another step in there as well. When we have to turn someone down, and sometimes we do, I have to remember how personal this is. These are people who've invested their lives into their business. You have to be respectful of the value they've created."
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