Blog: Pavan Muzumdar & Neal Fairbanks

Pavan:  I have got to say that I really enjoyed blogging for Concentrate's sister publication, Metromode, a couple of times and jumped at the opportunity when I was invited again.  Yours truly is also happy to report that I did get some nice comments from folks who took the time to read the posts.

But Tanya suggested I should do things a little differently this time.  She asked if I could do a co-blog with someone else who would have a different perspective than mine.  I readily agreed, and it was a no-brainer to ask Neal whom I respect very much.
    
You'll read about him in his bio, but what isn't necessarily obvious is that Neal is one of the sharpest technical dudes out there with a bunch of patents in his name to boot.  He will give us the entrepreneur's point of view, while I thought I would look at things from that of the investor.

We decided to talk about something that's been discussed on and off in the past few years – the dynamics of venture capital in Michigan and the Great Lakes Region. We also thought it would be nice to do this as a conversation between us.  What's cool is that we were surprised by a few things that we uncovered ourselves.  We hope you enjoy our banter!

So one of the questions I get asked sometimes is, "why does venture capital gravitate towards high-tech?".  The sub-text is, we have a lot of other kinds of technologies, but why does the money seem to disproportionately go to IT and software ventures?

I think the answer lies in the dynamics of how the technology is developed and commercialized.  When you produce a widget, it takes a lot more effort to design, prototype, and market the product.  Tangible products need to perform in the real world and have to be safe and reliable.  They also have to be moved from the place of manufacture to the place of use. 

Compare that with an IT product. Today, it can be designed, programmed, and deployed all over the Internet without any moving parts so to speak.  The marginal cost of serving an additional user is close to zero. 

The financial dynamics of an investment in the manufacturing space is that the increased complexity leads to increased operating costs, capital requirements, and longer timeframes – even if the product is successful.  That leads to a lower IRR (Internal Rate of Return) on the investment which is what venture capitalists use to measure the success of an investment.

For example, let's say we had a 10x return on an investment – nice by any assessment.  If that return takes 5 years to generate, the IRR is 58%.  But if it takes 8 years, the IRR drops to 33%.  Not to mention that the investor has 3 less years to enjoy the money.

Neal:  That's interesting.  I do agree that for most high-tech applications, we can probably set something up really quickly and see if the results make sense.  It doesn't take as much money as it would, to develop a manufactured product.  But then, that raises another question.  In my experience I have seen that Michigan has a large number of very qualified IT people.  Why then do we not attract large amounts of venture capital in this area?


Next: The State of High-Tech in Michigan
 

Neal:  So we closed earlier asking why we don't see venture capital beating a path down to Michigan.  I'm going to take a crack at answering that today. 

First of all, I think Ann Arbor is pretty much the capital of high-tech in Michigan.  There's no doubt in my mind of that.  I think it's because it's a great package.  The school (Michigan) and the town are perfectly put together.  While we have other great schools in the state, it's just not quite like Ann Arbor.   I get the same feel in Ann Arbor that I get when I visit Boston or New York.

Even so, if I were in Nebraska and I had one shot at doing something in high-tech, my first choice would be Silicon Valley or Boston. Unless I had connections here, it would not be Ann Arbor.  Most likely I would not have heard of it.   So while we have a lot of cool stuff going on here, it's just a well kept secret.

I remember when I moved here from Connecticut, I was impressed by the amount of stuff going on around here.  The number of corporate headquarters I drove by, the technology I saw, the people I met; all of that was beyond my wildest expectations.  But I had no idea of it living in CT.  I've got to say that moving to Michigan was one of the smartest things I did.  But it would be nice to have others think the same way as well…

Pavan:  Wow, Pure Michigan!  You bring up an interesting situation.

I think that one of the reasons that Michigan's high-tech capabilities are such a well-kept secret is that the national media looks at Michigan as the auto-capital of the world.  I think it's hard for them – and no criticism here, just an observation – to fathom one area being good at more than one thing.  For example New York is the financial capital, Connecticut is the insurance capital, Southern California is the entertainment capital, etc. 

I also think that there's another dynamic at play.

If we see the history of high-tech, venture capital followed the path from inside to outside the computer.  The foundational technologies were developed and as those became stable, the dollars flowed to the cutting edge stuff.  And that's always where the Silicon Valley guys have played. 

So what got funded first was hardware followed by the operating systems, and then applications, networking, networked enterprise applications, and finally networked consumer applications to social networking platforms today.

Here in Michigan however, high-tech professionals working on automotive systems, enterprise software, and end-user applications are involved in all areas of technology and not necessarily the cutting-edge stuff.  So while you're still working in high-tech, it's not the sexy sizzling stuff that gets the attention.

But that's not a bad thing however.  The way I see it, it's the steak that feeds, not the sizzle.  It's just that our deals may not necessarily be appropriate for venture capital.  However, there are other types of capital such as later stage private equity investors and corporate investors that would find these kinds of opportunities interesting.

Neal:  I think there are a couple of other things that make Michigan different also.

Next:  What's Different about Michigan…

Neal:  I said before that there were a couple of other things different about Michigan.

Let me explain:

Michigan has been making cars for the longest time and a car has to be safe and reliable.  Engineers here, even the high-tech ones, are very particular in how things are made. I notice a sense of independence and wanting to have control over how the entire product is made.   I don't think this is being a perfectionist, as much as wanting to be one hundred percent sure in understanding how the product is built.  The stuff that comes out of here is usually solid and works really well.  

But that also has a drawback.

I don't see much collaboration here.   For example, I rarely see someone who I consider a strong networker from a collaboration perspective.  I don't mean someone who networks for sales and business development opportunities. We have lots of those kinds of people.  What I mean is someone who develops an enabling technology and then looks for other similar minded people to partner with to complete the solution and quickly take it to market.

Generally this means that products take too long to market.  More likely than not, however, they don't even get developed.

At the same time though, I think it's amazing what does come out of here.  The fact that the auto-industry has come back as strong as it has is pretty incredible.  I get the sense though the shock was so strong that people are still a little cagey about where it's all going.

Pavan:  I agree.  

Silicon Valley does have an incredibly collaborative culture.  It's like collaboration is ingrained in their DNA.  The other thing about Silicon Valley is its tolerance for failure.  Just the other day I read an interesting study indicating that the CEO of a failed venture is more likely to get capital from the same venture firm than a successful entrepreneur!

But we are also starting to get better at this.  In fact, just yesterday we had the ACE (Annual Collaboration for Entrepreneurship) Event.  I have enjoyed attending, participating, and volunteering for it for around 10 years, including this one.

What started humbly as a gathering of lonely entrepreneurs in 2001 has become a veritable celebration of entrepreneurship with the event in 2011 attracting almost a thousand entrepreneurs, accountants, attorneys, consultants, marketers, academics, techies, and pretty much anyone wanting to drink the Kool Aid.

The Great Lakes Entrepreneurs Quest (GLEQ), a statewide business plan competition, has seen consistent growth in the number and quality of entries for several years now.  Yours truly has volunteered as a coach and I am happy to report that not only are these cool companies, but some of the technologies that they have is truly world-changing stuff.

Our focus on reliable products may be leading to our conservative approach in other areas as well.  But that's not necessarily a bad thing.

It reminds me of the joke that was going around a few years ago comparing a car to a computer.   It said that if technological advances of the car had kept up with the computer, you would be able to shrink it down to the size of match-box and carry it around in your pocket.  

To which the automotive engineer responded, "Yes, but it would shut down randomly in the middle of the highway and for some reason you would accept this as perfectly normal behavior.  Oh, and to start it again, you would have to put one finger on the door lock and another on the radio switch while you turned the ignition key."

Next:  Where do we go from here…

Pavan: We did have fun with this blog and while we enjoyed the discussion, we thought it wouldn't be complete with some ideas and recommendations on what we should be doing as a region.

The first thing we need to do as a region is to focus on our strengths.  Being the automotive capital is an enviable position.  Let's capitalize on that.  No other area in the world can claim this.  The executives of Daimler saw the value of establishing a presence here when they purchased Chrysler several years ago.  Fiat has seen the same value recently.  There is an incredibly strong network and ecosystem of engineering in multiple disciplines that go into making the modern automobile.

We need to encourage investments of all kinds here.  While venture capital is definitely glamorous, there are many other sources of capital that are perhaps more appropriate for our region.  We also need to encourage keeping the ecosystem strong by making it attractive to all automotive companies to do business here.  Not just the domestic ones.

Neal:  Agreed.

From my perspective, we need to encourage collaboration between high-tech people.  Bring together people with the ideas along with the people who can commercialize them effectively.  I am imagining a big convention in a hotel where people can take ten to fifteen minutes to talk about their ideas and products and connect with others who can help them.

I also see that the state is doing some good things relative to funding through Automation Alley, the smart zones, etc.  But I don't know why they don't spread the word outside Michigan.  They should offer these incentives to people in other states.  I would like to see that guy in Nebraska heading to Silicon Valley take a turn and end up in Michigan because of a state incentive.

The state did a nice job of attracting the movie industry with tax incentives.  But we know that they will leave and go somewhere else if the incentives go away.  It's not that easy to move a business, especially if there is no reason to leave and plenty of reasons to stay.

I also think that we need to stop apologizing for who we are.  

Last year we had that gritty commercial from Chrysler with Eminem.  It was great at the time and we needed it.  But why are we doing the same thing again?  Move on to the shiny cool stuff now.  We are back from the dead.  Let's all act that way!

Soapbox out!

Pavan: Nice!

It reminds me of one of the scenes from the movie Moneyball. Peter Brand (Jonah Hill) the economist for the Oakland Athletics is showing Billy Beane (Brad Pitt) the general manager, a video clip of a pudgy baseball player.  

The batter in question is clumsy and can't move very fast and is apparently embarrassed at barely getting to first base after he hits the ball. The crowd goes wild and he thinks that they are making fun of him.   What he doesn't realize is that he has just hit a home run.