Venture Capitalizing

How deep is the venture capital pool for Phoenix (and Arizona) businesses?
by RaeAnne Marsh

Not so many years ago, the lament in and about the local business community was lack of access to investment money. 

“It has emphatically changed within the last 10 years, but, most notably, the last three years. Capital has become democratized and much more mobile, so no longer is it so heavily concentrated in New York and San Francisco,” says Chris Camacho, CEO of the Greater Phoenix Economic Council. “For Greater Phoenix specifically, we’ve come out of a recession, have had significant business growth over the last five years, and have increased liquidity, which makes more capital available for corporate investment arms to invest in young companies. I would argue that the hyper-level of venture capitalist and corporate investment over the last three years, because of the health of the national economy and Greater Phoenix economy, has really changed the availability of capital for companies here.”

That increased business growth includes, notably, the high-profile successes of Infusionsoft and WebPT. As Zach Ferres, CEO of Coplex and our Guest Editor for this January edition, notes in his editor’s letter (page 9), “Each big tech success story spawns greater interest and capital for the local tech ecosystem.”

In fact, Brion Crum, VP of wealth development with Caliber Companies, credits Infusionsoft and WebPT as primary companies that really started putting Phoenix on the map with respect to venture capital investment. “When they started receiving those VC investments from, like, Battery Ventures and the larger well-known ones, it started getting other VCs to take a look at Phoenix,” he says.

Galvanize’s move into Phoenix in 2016 also made an impact. Observes Crum, “Synergies were created by the fact that Galvanize has a big presence in San Francisco, which gave them a lot of visibility to investors. And by the nature of the business and ecosystem being similar, when those companies expand to Arizona, it brings more awareness of other people, including investors.”

Mention of San Francisco brings up another point in our favor. Referencing the high cost of doing business in West Coast cities, Crum notes that Phoenix is one of the first places that founders, companies and investors start looking outside of San Francisco. “The economic development groups did a really good job getting the word out about the affordability, the amount of technical talent that is here and is being developed, which are important when someone is making an angel- or VC-type investment. 

“There have been a lot of concerted efforts with groups like YesPHX; a lot of visibility has been brought to Phoenix by groups that are affiliated with ASU; Galvanize coming here was great because that brought new VCs that were making investments into California to look at the same types of companies that were getting started here.”

Says Camacho, “In Greater Phoenix, capital is much more mobile. Venture capitalists are no longer hardened on the idea of just investing in Silicon Valley or New York. Once the Greater Phoenix market establishes a legacy of bringing out venture capital and having successful outcomes, it spreads so there’s much more confidence in the market. There have been a handful of companies, like Trusona who have received investments from high-profile venture capitalists such as Kleiner Perkins. While that was one isolated investment, it proves the top-tiered venture capitalists are now looking at this market.”

Another factor Camacho points to is the maturity of the management teams, as many venture capitalists now are looking at the man or woman running the enterprise and how they get their product to market and grow operationally efficient. “This is why the Greater Phoenix Economic Council remains heavily focused on the industry ecosystem where these entrepreneurs reside,” he explains. “We’ve created internal councils to support entrepreneurs by providing product feedback and operational feedback, and growing capital ecosystems.”

While success creates synergy in volume of interest begetting more interest, we are also seeing synergy within economic sectors. Notes Crum, “If you look at industries that Arizona seems to develop an expertise in, one of them is related to cybersecurity. Ori Eisen founded The 41st Parameter, which was acquired by one of the big companies, giving him a very successful exit. He used that to start another Internet tech company, Trusona. Those types of successful exits and people starting new businesses in an industry where there’s a lot of other people with an expertise — like cybersecurity — brings more awareness of why Arizona is a good place to start and grow other types of companies in those industries.”

Who’s Here and What Are They Investing In?

Arizona benefits from a lot of venture capitalists who live here and “support local.” In numbers alone, however, California is by far the heaviest hitter in terms of venture capitalists investing in Arizona businesses, tipping the scales at 31 compared to Arizona’s 24 and dwarfing any other state or country.

Most Common non-California Investor Home States 

State Number of VCs
Colorado  6
Massachusetts 6
Washington, D.C./Virginia  9
New York 13
Utah  6

Fun Facts

Total states with VCs investing in Arizona firms

26

Total countries with VCs investing in Arizona firms 3
Total VCs investing in Arizona firms  64
Total funding for rounds from 1/1/17 to 10/31/2018 $314.93 million

Arizona Industries Receiving the Most Investment 

Internet Software & Services 25 39%
Mobile Software & Services 6 9%
Telecom Services 3 5%
Water 3 5%
Medical Devices & Equipment 3 5%
eCommerce 3 5%

Data source: Greater Phoenix Economic Council, November 2018

Who’s Here and Why Phoenix?

Arizona Founders Fund

The Arizona Founders Fund is Arizona’s first-ever dedicated institutional VC fund to invest in and grow the state’s next generation of great technology startups, investing $50,000 to $400,000 at the seed stage in Arizona-based technology companies. “Our mission is to support all of Arizona’s technology founders who want to build gigantic and sustainable companies by providing them with access to capital, mentorship opportunities and new networks. We count some of Arizona’s most successful entrepreneurs and software executives among our biggest champions,” says Molly Iarocci, a senior associate with the Fund.

Asked why Metro Phoenix is a focus for the company, she responded, “Our question is, why not?” 

Explains Iarocci, “There are a few key elements in a local ecosystem that are essential for startup activity and growth, and we believe that Arizona, driven by Metro Phoenix, has all of them in place. First, world-renowned industry founders and institutional companies are necessary for talent, knowledge and resource support. Arizona has been the home of more than 200 publicly traded companies, many from Metro Phoenix, including currently listed GoDaddy, Insight and Carvana, as well as several large privately held companies like Infusionsoft, WebPT and the recently acquired Tuft & Needle. These companies were built by founders who have a voracious appetite for entrepreneurship and know how to seed, train and grow ideas and workforces into thriving businesses. This, along with the presence of large regional locations for several multi-national companies that include Intel, Microchip and On Semiconductor helps to create a skilled and technical labor force like Arizona’s, which now has approximately 168,000 tech jobs, and, ultimately, helps to activate more startup formation. 

“Next, the region’s major research universities, business development centers (BDCs) and accelerators help support the ecosystem with research, talent and commercialization efforts. Arizona State University, alone, earned 100 patents in 2017 (up from 62 in 2016), granted approximately 3,800 degrees from the Ira A. Fulton Schools of Engineering between 2016 and 2017 and has enrolled more than 22,000 students into the Engineering schools in 2018. Across the state, there are more than 50 BDCs and accelerators, including several based in the Metro Phoenix area such as the Center for Entrepreneurial Innovation, Galvanize and Chandler Innovations. 

“Finally, a strong investor network that includes participation from both local and national institutional groups is crucial to the longevity of the ‘virtuous cycle’ nature of this ecosystem. Strong businesses and founders paired with experienced and well-networked investors creates an environment that inherently catalyzes itself, attracting better companies and deals, more well-rounded talent and entrepreneurs, and, ultimately, more sources of capital. Along with more activity from local institutions, companies within the state have attracted investment from several large groups, including Greycroft Partners, Goldman Sachs, Bain Capital and Battery Ventures, among others. This, coupled with the acceleration in VC-backed investment dollars raised for the YTD 2018 period of $202 million (compared to $194 million for 2017 in total), points to an ecosystem that is ripe for growth, returns and reinvestment.”

The Arizona Founders Fund is interested in technology companies that: 1) are based in Arizona, 2) are built by strong founders who have assembled a scrappy team of both industry and technical experts, 3) have commercialized a proven technology that has reached a critical inflection point and is in revenue, and 4) compete in large, multi-billion-dollar-sized markets. 

Arizona Tech Investors

Arizona Tech Investors is a group of 90 men and women who invest their own money in startups. “We’ve invested in 57 companies, 45 of which are in Arizona,” says James Goulka, managing director. “We invest in startups in IT, life sciences and capital-efficient green tech (not wind farms, but the controller technologies, for example).” 

Asked why the interest in Metro Phoenix, Goulka replied, “First off, it’s our community. We all live here, though some members live here part time. Secondly, we have powerful engines of innovation: ASU, Mayo, Dignity, Banner. Thirdly, the huge talent pools in semiconductors, aerospace, and defense include large numbers of trained people who leave to develop their own ideas. And fourthly, we are a forward-looking community that’s willing to try new ideas.”

Goulka describes ATI’s focus: “We seek companies led by entrepreneurs with a demonstrated capability and zeal to making things happen. Execution is key; we’re not interested in slick talk or senses of entitlement. We choose companies that have identified a real problem that needs to be solved, have deep knowledge of who has that problem, and offer a solution with a clear value proposition to customers. And the market has to be big enough.”

Cobre Capital (formerly Tallwave Capital)

As this article was being written, Tallwave Capital rebranded itself to Cobre Capital. Noting that is pronounced “ko-bray,” Nate Mortensen, principal, says, “Inspired by the regions we live and invest in, we selected the Spanish word for copper as the company’s new namesake. This further ties the firm to our roots in the Southwest, and the portfolio companies therein.” Headquartered in Scottsdale, it is an early-stage venture capital firm focused on B2B software and technology companies. 

Asked why Metro Phoenix is a focus for Cobre, Mortensen explains, “As a Metro Phoenix-based VC, we are heavily involved in promoting growth within our local market. While we invest broadly in the Southwest, we firmly believe there are great founders, companies and opportunities that can provide meaningful investment returns here in Arizona. There is growing interest, connectivity and support in startups and we fill a need for early-stage funding.”

Mortensen describes the types of businesses Cobre is interested in: “We focus on B2B software and technology companies at the seed stage. We look for scrappy founders across the Southwest, Mountain West, and West Coast with a working product, market validation and a big vision.”

Mucker Capital

Mucker Capital is an early-stage venture capital fund. “We also run one of the top-ranked startup accelerators in the country, MuckerLab,” says Erik Rannala, the VC’s co-founder and managing partner. 

“Although we spent most of our careers in Silicon Valley, we believe great companies are being founded and built everywhere. We’ve been fortunate to meet great entrepreneurs and companies in Phoenix and look forward to investing more in Phoenix in the future!” says Rannala of Mucker Capital’s interest in Phoenix.

“We invest in software-enabled businesses, whether it’s a software-as-a-service platform used by large enterprises or a consumer service.” 

Opportunity Zones

The Opportunity Zone Program created as part of 2017’s Tax Cuts and Jobs Act is a federal income tax incentive program designed to encourage private capital investment in economically distressed Opportunity Zones. As Mark Schultz explains in his in-depth discussion in the June 2018 edition of In Business Magazine, “The Opportunity Zone Program seeks to attract private capital for investment in projects and businesses located in economically distressed areas by providing significant tax incentives to investors in the form of the long-term deferral of taxable gain, a partial reduction in the amount of such long-term deferred taxable gain, and the exclusion of gain resulting from appreciation in the investor’s capital investment.”

What’s the potential for venture capital investment for businesses in these Opportunity Zones? Caliber’s Brion Crum explains that there is not an easy answer right now as to whether or not Opportunity Fund money can be used to make venture capital-type investment.

A business in an Opportunity Zone that is primarily generating its revenues from the sale of product or services in the local community, such as a coffee shop, would be an eligible investment for an Opportunity Fund. Any brand-new, ground-up development on land in an Opportunity Zone would also meet the qualifications. Another legitimate option is investing into a building that is going to be the expanded new headquarters of a company relocating from out of state, and doing a significant renovation that makes a dollar-for-dollar improvement in the value of the building – involving a substantial investment or change-of-use component. “Those are easy scenarios to understand — that’s what Caliber’s doing with our funds right now because there’s legislative clarity that those will meet the requirements, so that our investors will, in fact, get the tax benefits that go along with this,” Crum says.

“But,” he goes on, using Galvanize as an example, “here’s where it gets tricky. Galvanize is in a building in the Opportunity Zone. Every company that has a corporate headquarters or a significant presence of their business headquartered at Galvanize should be eligible for Opportunity Funds investment. 

“What if they’re using international developers, so half their staff is in the Ukraine or Mexico, or something like that? They’re building a product or software or technology not actually in the Opportunity Zone, but the headquarters of the company is there. There are definitely people working there; there’s a job-creation component, so there is an economic benefit from it. And they’re building software that could be acquired, bought, shipped anywhere in the world, but those revenues are coming back into the United States in the office, the headquarters, that is in the Opportunity Zone.

The question from the Treasury Department that is hindering investment into such companies with profits from other ventures is, “Where are the revenues generated?”

Says Crum, “This is probably the biggest point of discussion that is holding up VC- and angel-type of investments into potentially growing tech companies in an Opportunity Zone. We’re hoping that Treasury comes back in February or late January and makes that clarification.

“Until we get clarification on that, it’s not likely that VCs are going to have enough comfort in the rules to know that they’ll meet the requirements if they invest in a software company that’s generating revenues from other places around the world outside of the Opportunity Zone.”

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