Venture-Backed Start-Ups Seek Stimulus

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Venture capitalists are increasingly focused on a fresh funding source: Washington, D.C.

Venture-capital investors see Washington's economic stimulus program as a potential financial boost for the hard-hit technology firms and other start-ups they own. Of particular interest is more than $60 billion earmarked for four sectors widely invested in by venture-capital firms: environmentally clean technology, rural Internet broadband, cyber security and health-care information technology.

In addition to slack demand for their products amid a recession, small start-ups are finding it difficult to secure the cash infusions many need to stay in business during their early years. Stimulus funds could address such challenges by creating markets for their products and giving them cash injections. For some start-ups, venture investors say, money from the Obama administration could be the difference between survival and failure.

Not long after the $787 billion stimulus package was unveiled earlier this year, Tom Scholl, a partner at venture firm Novak Biddle Venture Partners in Bethesda, Md., directed one start-up company he invested in to draw up its own "stimulus plan" -- a blueprint for getting a piece of the funding.

Mr. Scholl then canvassed Washington law firms for information on how to apply for funds. He also suggested that executives of the firm, wireless start-up DigitalBridge Communications Corp. in Ashburn, Va., prepare dummy applications for quick filing to the government."We wanted DigitalBridge to be first in line" for stimulus cash, Mr. Scholl says. "Washington has become a new bank."

Venture capitalists like Mr. Scholl, who put money into young companies and help nurture them with the aim of profiting later when the firms go public or are sold, are turning to Washington to boost the prospects for their investments, not unlike ailing banks and auto makers.

Many venture-capital firms are hiring law firms and attending seminars to help their start-ups snare a slice of the stimulus pie. Some venture capitalists are investigating how the stimulus program might open new investment areas.

An embrace of bureaucratic Washington is a change for the venture industry, which has traditionally prided itself on keeping the government at arm's length. Venture-capital firms have previously tapped government opportunities, notably when the departments of Homeland Security and Defense showed a burst of enthusiasm for security technology following the September 2001 terrorist attacks. Otherwise, many venture-backed companies preferred to limit government funding to research grants and Small Business Administration loans.

Now, though, government funds might be critical as venture capitalists risk running out of cash to pump into their stable of start-ups. Venture firms raised just $2.4 billion in the first quarter, down 64% from $6.6 billion a year earlier, according to research firm VentureSource.

Stimulus dollars "can be the difference between a young company making it through this time or not," says Chuck McDermott, a general partner at RockPort Capital Partners, which has offices in Menlo Park, Calif., and Boston.In March, one RockPort investment, solar-panel maker Solyndra Inc., received a $535 million loan guarantee from the Department of Energy. While the guarantee wasn't connected to the stimulus, the support it gave to the start-up helped boost its financial profile and underscored the influence of official backing.

For Miox Corp., the prospects of stimulus money prompted it to adjust strategy. The Albuquerque, N.M., maker of water systems had been trying to drum up business in the private sector. But after learning that stimulus money would flow to public water infrastructure, several of Miox's venture investors encouraged the company to seek government-backed water projects.

"The stimulus caused us to pause and put more focus back on the public sector, especially since the private sector is more reticent to invest," says Carlos Perea, Miox's chief executive. He forecasts the stimulus package will lead to a tripling of spending on public water infrastructure to $3.9 billion over the next six to 24 months.

Kim Sanchez Real, a venture capitalist at Flywheel Ventures and an investor in Miox, says stimulus dollars could allow the company to secure new investment without diluting the equity held by investors like her firm.

So far, Miox's refocus hasn't paid off. Many states and municipalities are still waiting to receive stimulus money, Mr. Perea says. Miox, which is unprofitable, has raised $35 million in venture capital.

Venture backers of four-year-old DigitalBridge say its business of providing wireless networks to smaller towns fits with the stimulus package's goal to extend rural broadband networks. DigitalBridge is in the process of applying for $40 million to $50 million of stimulus money that would be used to deploy wireless networks in localities with fewer than 5,000 residents, says Chairman Bill Wallace.

Partly because of expectations DigitalBridge will get stimulus funds, Mr. Wallace says, more venture capitalists are now competing to invest in the company, which has independently raised $40 million and remains unprofitable. DigitalBridge hopes to close on pledges for $8 million to $10 million in venture financing by late July.