Competing Visions

Sen. Ernest "Fritz" Hollings (D-S.D.) is a gruff, sometimes crude populist prone to using personal invective and ethnic slurs to make his points. On the floor of the Senate he once referred to Sen. Howard Metzenbaum (D-Ohio), who is Jewish, as "the distinguished senator from B'nai B'rith." In 1993, he suggested, presumably in jest, that we launch a nuclear attack against Tokyo to show the Japanese the power of American-made goods. And, to barely a peep of public outcry, he recently mocked African diplomats as cannibals.

Hollings may be a buffoon and a bigot, but he is a powerful man in Congress. As chairman of the Senate Commerce Committee, he has ambitions that stretch beyond Capitol Hill to the labs, factories, and offices of America's high-tech companies. His National Competitiveness Act, a bill that combines high-tech pork and industrial policy with a dash of political correctness, passed the Senate in mid-March and is now in conference committee. A final bill is supposed to emerge in June or July.

The competitiveness bill would further extend the political process into the rough and tumble of entrepreneurship. As Hollings expressed its underlying philosophy in a floor speech, "We [elected officials] legislate the [nation's] fine standard of living." After all, he noted (as his Southern Democrat ancestors spun in their graves), "We built this industrial empire with protectionism."

The bill pitted two of the Senate's most disparate personalities against one another: Hollings and Republican Jack Danforth, the patrician Episcopalian minister from Missouri. Even though the bill passed by a 59-40 vote, Danforth and most Republicans were able to filibuster and to delay the final vote by three days. The debate became so nasty that Sen. Arlen Specter (R-Pa.) threatened to cite Hollings with a rules violation for insulting Danforth on the floor.

Anticipating a new source of federal funding, such industry heavyweights as Motorola, Intel, AT&T, and Honeywell backed the bill. Opposing it were academic economists and the National Venture Capital Association, a small trade group whose industry is threatened by the bill's subsidies.

Indeed, the most controversial and most troubling provision of the competitiveness bill got the least funding: a two-year, $100-million "pilot" program that makes Uncle Sam a venture capitalist. The venture-capital program authorizes the Commerce Department's under-secretary of technology to grant licenses to "civilian technology companies"--existing or newly formed venture-capital firms that invest in businesses developing either "critical" or "advanced" technologies as defined by law.

Venture capitalists invest in new businesses that are too risky to get funding from banks or other financial institutions. Instead of loaning money and requiring the fledgling entrepreneur to start repaying the loan immediately, venture capitalists trade up-front cash for part ownership in new companies; venture firms make their money if and when the embryonic businesses go public or sell out to larger companies. Although they have backed pizza-delivery chains and retailers such as Staples, venture capitalists are best known for supporting high-technology companies with high growth potential.

And venture capitalists worry that the government money will distort their high-risk, high-return business by pulling scarce private dollars out of promising start-ups and well-run venture-capital funds and into less-commercial companies and subsidized but less expert venture-capital funds. They also fear that the regulation that comes with subsidies will spill over into their whole industry. Says Mark Heesen, director of legislative and entrepreneurial affairs at the National Venture Capital Association, "Venture capital, by its very entrepreneurial essence, is an industry which requires freedom from regulation in order to maintain its creative, risk-taking spirit."

Despite their odd designation as "technology companies," the federal licensees won't be manufacturers but financiers, using government money or loan guarantees to invest in businesses developing high-tech products. The bill authorizes $100 million in grants and up to $600 million in low-interest loans to the licensed venture capitalists.

To get a license, venture capitalists may face tough regulations and social engineering. The House version of the bill instructs the Commerce Department to target funding to "economically depressed areas" and businesses owned by "socially or economically disadvantaged individuals." The undersecretary can also limit "the aggregate amount of shares in any [venture-capital] licensee which may be owned by any stockholder." This provision, says Heesen, "lets political appointees [in the Commerce Department] and their bosses regulate financial markets."

The program's fans argue that entry-level, high-tech entrepreneurs--the next generation of Bill Gateses--can't find money to bring their innovations to market. "The venture-capital market has dried up in the last several years," argues Sen. Jay Rockefeller (D-W.Va.), a principal supporter of the bill. "If Thomas Edison wanted to invent a light bulb these days, he would have to bring in Shea Stadium in his arms with all the lights on to convince venture capital that the light bulb is an idea which might be useful."

Rockefeller is wrong. The formal venture-capital market hasn't "dried up." New investments in funds went from $1.4 billion in 1991 to $2.6 billion in 1992. As the recession ended, reports Harvard Business School professor William Sahlman, "a significant increase in early-stage investing has taken place." And venture capitalists have also been willing to back long shots--witness their support for biotechnology companies with nothing more solid than a good idea.

Changes in taxes and regulations, trends in the greater economy, and the inherent riskiness of the types of firms venture capitalists back lead to dramatic fluctuations in venture-capital funding. New investments by formal venture-capital funds varied from $1.4 billion in 1982 to $3.4 billion in 1983; from $3.3 billion in 1986 to $4.2 billion in 1987 to $2.9 billion in 1988.

But formal venture-capital funds actually provide a tiny percentage of financing for new firms. In Financing Entrepreneurs, a 1993 book she edited, American Enterprise Institute technology policy analyst Cynthia Beltz reports that institutional venture capitalists finance only about 2,000 of the approximately 700,000 businesses that are incorporated each year. Carnegie Mellon University management professor Richard Florida says formal venture funds assist around 10 percent of high-tech start-ups.

New businesses get money from lots of informal sources--family members, second mortgages, business "angels" (such outside investors as Ross Perot or Lotus's Mitch Kapor), other companies. A Harvard Business School study shows that 75 of the 100 fastest-growing companies between 1982 and 1989 were self-financed from savings, credit cards, or other forms of personal debt.