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36–107 PDF 2007

FULL COMMITTEE HEARING ON INCREASING

INVESTMENT IN OUR NATION’S SMALL

BUSINESSES

COMMITTEE ON SMALL BUSINESS 

UNITED STATES HOUSE OF 

REPRESENTATIVES

ONE HUNDRED TENTH CONGRESS

FIRST SESSION

JUNE 21, 2007

Serial Number 110-32

Printed for the use of the Committee on Small Business

(

Available via the World Wide Web: http://www.access.gpo.gov/congress/house 

HOUSE COMMITTEE ON SMALL BUSINESS 

NYDIA M. VELA ́ ZQUEZ, New York, Chairwoman 

HEATH SHULER, North Carolina 

CHARLIE GONZA ́ LEZ, Texas 

RICK LARSEN, Washington 

RAUL GRIJALVA, Arizona 

MICHAEL MICHAUD, Maine 

MELISSA BEAN, Illinois 

HENRY CUELLAR, Texas 

DAN LIPINSKI, Illinois 

GWEN MOORE, Wisconsin 

JASON ALTMIRE, Pennsylvania 

BRUCE BRALEY, Iowa 

YVETTE CLARKE, New York 

BRAD ELLSWORTH, Indiana 

HANK JOHNSON, Georgia 

JOE SESTAK, Pennsylvania 

STEVE CHABOT, Ohio, Ranking Member 

ROSCOE BARTLETT, Maryland 

SAM GRAVES, Missouri 

TODD AKIN, Missouri 

BILL SHUSTER, Pennsylvania 

MARILYN MUSGRAVE, Colorado 

STEVE KING, Iowa 

JEFF FORTENBERRY, Nebraska 

LYNN WESTMORELAND, Georgia 

LOUIE GOHMERT, Texas 

DEAN HELLER, Nevada 

DAVID DAVIS, Tennessee 

MARY FALLIN, Oklahoma 

VERN BUCHANAN, Florida 

JIM JORDAN, Ohio

MICHAEL DAY, Majority Staff Director 

ADAM MINEHARDT, Deputy Staff Director 

TIM SLATTERY, Chief Counsel 

KEVIN FITZPATRICK, Minority Staff Director

STANDING SUBCOMMITTEES 

Subcommittee on Finance and Tax

MELISSA BEAN, Illinois, Chairwoman 

RAUL GRIJALVA, Arizona 

MICHAEL MICHAUD, Maine 

BRAD ELLSWORTH, Indiana 

HANK JOHNSON, Georgia 

JOE SESTAK, Pennsylvania 

DEAN HELLER, Nevada, Ranking 

BILL SHUSTER, Pennsylvania 

STEVE KING, Iowa 

VERN BUCHANAN, Florida 

JIM JORDAN, Ohio

Subcommittee on Contracting and Technology

BRUCE BRALEY, IOWA, Chairman 

HENRY CUELLAR, Texas 

GWEN MOORE, Wisconsin 

YVETTE CLARKE, New York 

JOE SESTAK, Pennsylvania 

DAVID DAVIS, Tennessee, Ranking 

ROSCOE BARTLETT, Maryland 

SAM GRAVES, Missouri 

TODD AKIN, Missouri 

MARY FALLIN, Oklahoma

(II) 

Subcommittee on Regulations, Health Care and Trade

CHARLES GONZA ́ LEZ, Texas, Chairman 

RICK LARSEN, Washington 

DAN LIPINSKI, Illinois 

MELISSA BEAN, Illinois 

GWEN MOORE, Wisconsin 

JASON ALTMIRE, Pennsylvania 

JOE SESTAK, Pennsylvania 

LYNN WESTMORELAND, Georgia, Ranking 

BILL SHUSTER, Pennsylvania 

STEVE KING, Iowa 

MARILYN MUSGRAVE, Colorado 

MARY FALLIN, Oklahoma 

VERN BUCHANAN, Florida 

JIM JORDAN, Ohio

Subcommittee on Urban and Rural Entrepreneurship

HEATH SHULER, North Carolina, Chairman 

RICK LARSEN, Washington 

MICHAEL MICHAUD, Maine 

GWEN MOORE, Wisconsin 

YVETTE CLARKE, New York 

BRAD ELLSWORTH, Indiana 

HANK JOHNSON, Georgia 

JEFF FORTENBERRY, Nebraska, Ranking 

ROSCOE BARTLETT, Maryland 

MARILYN MUSGRAVE, Colorado 

DEAN HELLER, Nevada 

DAVID DAVIS, Tennessee

Subcommittee on Investigations and Oversight

JASON ALTMIRE, PENNSYLVANIA, Chairman 

CHARLIE GONZA ́ LEZ, Texas 

RAUL GRIJALVA, Arizona 

LOUIE GOHMERT, Texas, Ranking 

LYNN WESTMORELAND, Georgia

(III) 

C O N T E N T S 

OPENING STATEMENTS 

Page

Vela ́zquez, Hon. Nydia M. ....................................................................................... 1

Chabot, Hon. Steve .................................................................................................. 2

Moore, Hon. Gwen ................................................................................................... 5

WITNESSES

Hager, Michael, U.S. Small Business Administration .......................................... 4

Lerner, Josh, Harvard Business School ................................................................. 7

May, John, Angel Capital Association ................................................................... 9

Vivian, Steve, National Association of Small Business Investment Companies 11

APPENDIX 

Prepared Statements: 

Vela ́zquez, Hon. Nydia M. ....................................................................................... 29

Chabot, Hon. Steve .................................................................................................. 31

Hager, Michael, U.S. Small Business Administration .......................................... 33

Lerner, Josh, Harvard Business School ................................................................. 38

May, John, Angel Capital Association ................................................................... 44

Vivian, Steve, National Association of Small Business Investment Companies 50

(V) 

(1)

FULL COMMITTEE HEARING ON 

INCREASING INVESTMENT IN OUR 

NATION’S SMALL BUSINESSES 

THURSDAY, JUNE 21, 2007

U.S. HOUSE OF REPRESENTATIVES, 

COMMITTEE ON SMALL BUSINESS, 

Washington, DC. 

The Committee met, pursuant to call, at 2:04 p.m., inRoom 2360, 

Rayburn House Office Building, Hon. Nydia Vela ́zquez [Chairwoman of the Committee] presiding. 

Present: Representatives Vela ́zquez, Shuler, Moore, Altmire, 

Clarke, and Chabot. 

OPENING STATEMENT OF CHAIRWOMAN VELA ́ ZQUEZ 

ChairwomanVELA ́ ZQUEZ. I am pleased to call this hearing to 

order. I want to thank all the witnesses for being here today. Today’s hearing will examine the role of venture capital in growing 

and sustaining our Nation’s small businesses. There can be little 

doubt that venture capital remains as important as ever to our Nation’s small businesses. This is particularly true for a key segment 

of the business community, startup and early stage businesses. 

These businesses are the engines that generate new ideas and new 

products. Their contributions to our communities and economy are 

frequently new, invigorating and transformational. Venture capital 

represents the lifeblood for these businesses, and without this vital 

resource, many startup companies will not reach their full potential. 

Yet, despite the obvious importance of venture capital, it remains 

extremely difficult for startup businesses to attract this investment. Over the last 5 years we have seen a steady movement of 

venture capital toward later-stage small businesses. Recent industry studies confirm this trend and show that funding dollars for 

early-stage firms declined 30 percent in the first quarter of 2007 

to only $1.1 billion. 

Today, private venture capital places a substantial focus on laterstage businesses that have an established capacity to generate investment returns immediately. While this focus makes sense for investors, it is leaving many startups without access to the equity 

capital they need to succeed. The result is less innovation, slower 

economic growth and fewer new jobs for our Nation’s small businesses. 

In order to fill these gaps, Congress created the Small Business 

Administration’s investment programs. However, many of these 

2

programs are falling short, for a wide range of reasons, of achieving 

their potential. Some lack support both organizationally and financially, while others do not have a clear purpose. 

Today, we will be begin the process of reviewing these programs 

to better understand how we can address these problems. Foremost 

among the agency’s investment programs is the Small Business Investment Company program which has a proven record of success. 

Together with private investment topping $12 billion, the initiative 

totals over $23 billion in financing resources dedicated to small 

businesses. It has led to the creation of over 228,000 jobs and has 

brought investment to virtually every State and across a wider 

range of industry than has been served by the traditional venture 

capital industry. 

Despite its successes, more must be done to channel investment 

to our Nation’s small companies. 

In 2005 the SBA ceased licensing new investment firms in the 

Participating Securities SBIC program. This initiative was the only 

SBA program focused on providing equity financing to early-stage 

and startup businesses. 

In the 1990s, SBICs made nearly 50 percent of their investments 

in startup small businesses; over the past few years, this number 

has dropped to less than 30 percent and continues to decline. This 

development has been mirrored by the lack of support for the New 

Markets Venture Capital program, a program dedicated to bringing 

investment to small businesses in low-income areas. Together, 

these developments have cast a pall of uncertainty over the SBA’s 

remaining investment programs and have undermined confidence 

in the Administration’s commitment to its investment mandate. 

One way to increase the availability of early-stage capital is to 

draw on new investment strategies. In today’s hearing we will hear 

about one such approach, angel investment, which holds a great 

deal of promise for helping our Nation’s entrepreneurs. It is my 

hope that we can help foster increased angel investment in small 

businesses to fill the void for seed capital that has been created by 

the elimination of the Participating Securities program. 

It is with this goal in mind that I am introducing legislation this 

morning to support increased angel investment. By doing so, we 

can make certain the small firms have the capital they need to 

grow stronger. 

It is important that we are here today to consider the availability 

of venture capital for small firms. Without such investment there 

will be less risk-taking and less innovation in our economy. 

As this country continues to rely on entrepreneurs to spur economic development and create jobs, the need for equity investment 

only continues to grow. I look forward to this hearing and I want 

to thank again all the witnesses for their testimony. 

I now yield to the ranking member, Mr. Chabot, for his opening 

statement. 

OPENING STATEMENT OF MR. CHABOT 

Mr.CHABOT. Thank you very much, Madam Chair. Before I get 

into my opening statement, I would just like to recognize a young 

lady who is in the back of the room—back there. 

Would you stand up? 

3

Tyler Banks is a senior at the School for the Creative and Performing Arts in my district in Cincinnati, Ohio, and she is up here 

with the Congressional Youth Leadership Council’s National Young 

Leaders Conference. She is an excellent student and I am sure that 

we haven’t heard the last. She would like to make a career up here 

and perhaps some day be living right down the street at the White 

House. 

ChairwomanVELA ́ ZQUEZ. Welcome, welcome. 

Mr.CHABOT. Thank you, Tyler. 

I want to thank you, Madam Chair, for holding this hearing here 

this afternoon. It is an important hearing on programs designed to 

increase the equity investment in small businesses. 

Small businesses may finance their operations through debt or 

equity. Debt’s primary benefit is that the owners maintain control 

of the company, but that comes at the cost of increased cash flow 

out of the company to service the debt. Equity investment reduces 

cash needed, especially in the early years of a business, but comes 

at the cost of reduced control by the owners. 

Federal assistance to small businesses has come in the form of 

both debt and equity. Debt programs available through Federal-private partnerships include the 7a guaranteed loan, the microloan, 

and Certified Development Company, or CDC, programs. Equity investment is available through the Small Business Investment Company and New Market Venture Capital programs. 

The committee already has addressed necessary changes in the 

7a and CDC programs. Last week, the committee held a hearing 

on the microloan program, and will be addressing legislation on 

that issue soon. 

It is now time for the committee to turn its attention to the equity programs operated by the Small Business Administration. 

First and foremost, the committee needs to understand the nature 

of equity investment in small businesses; then the committee must 

consider the quality of existing programs that assist small businesses to obtain equity investments. Finally, if those programs are 

inadequate, the committee should consider changes to improve the 

efficacy of existing programs or eliminate them and create more 

cost-effective, new ones. 

For example, if the committee finds that the largest equity investment in small businesses comes from the personal assets of the 

business owner, then Congress must adopt tax policies that ensure 

the business owner keeps those assets rather than returning them 

to the Treasury in the form of taxes. 

On the other hand, if significant equity investment in small businesses derives from investment firms such as small business investment companies, the committee certainly needs to make sure 

that the program meets its objectives without placing undue risk 

on the public treasury. 

The review of equity investment programs also must examine 

where investment is lacking. I know the chairwoman has been to 

my district and seen the need in certain areas to increase investment as a component of economic revitalization. I would like to 

work with all the members of the committee in finding appropriate, 

cost-effective incentives that will raise the amount of equity investment in areas that have sorely lacked such investment. 

4

Finally, I would like to thank the chairwoman for examining the 

angel investment phenomenon. Although angel investors may be an 

appropriate savior for small business, it is difficult for many small 

business owners to find an angel investor. Congress may have the 

opportunity to reduce the cost of raising equity funds from angel 

investors by eliminating burdensome and multiplicative Federal 

and State legislation. 

Again, I would like to thank the chairwoman for holding this 

hearing and look forward to the ideas offered by our distinguished 

panelists here this afternoon. And I yield the balance of my time.

ChairwomanVELA ́ ZQUEZ. Thank you, Mr. Chabot. 

Our first witness is Mr. Michael Hager. Mr. Hager is the Associate Administrator for Capital Access at the United States Small 

Business Administration. The Office of Capital Access manages the 

administration business loan programs and performs lender oversight functions at SBA. 

Welcome, sir.

STATEMENT OF MICHAEL HAGER, ASSOCIATE ADMINISTRATOR FOR CAPITAL ACCESS, U.S. SMALL BUSINESS ADMINISTRATION 

Mr.HAGER. Thank you very much. It is nice to be here, Madam 

Chair. I want to thank you for the opportunity to testify on the status of small business investment company programs at the SBA. 

The past few years have been challenging for the SBIC programs. Performance in the participating security programs, as you 

have indicated, experienced significant financial challenges over 

the last several years. Current estimates continue to project likely 

losses of 2.4 billion on the more than 8.5 billion that we have guaranteed through fiscal year 2006. Again, 2.4 out of 8.5. 

Since the end of fiscal year 2006, the Investment Division has 

taken significant steps and devoted the majority of the management time for the SBIC program to manage the risk of the remaining Participating Securities portfolio. I am happy to report that 

with these solid management steps and the improved economic conditions, the current portfolio of Participating Securities licensees 

has stabilized. While some additional losses are still predicted to 

occur, the majority of liquidations have been recorded. 

In fact, distribution activity among Participating Securities licensees has been robust in the last 8 quarters and the SBA and 

bondholders received distributions of almost 1.5 billion. For example, in December, the SBA issued a revised policy that allows a 

capitally impaired SBIC to emerge from restricted operations to resume normal investment activities. 

In the debenture program the SBA continues to see solid performance from the licensees and is now beginning to see renewed 

interest in the SBIC debenture product. 

In 2006, the SBA guaranteed over 400 million in SBIC debentures, and we anticipate exceeding that level this year. In the debenture program the SBA has been focused on making capital 

available to small business in low- and moderate-income areas 

5

more than ever in the past. Currently, almost 20 percent of debenture funding goes to LMI areas. 

Additionally, in our reference to address underserved markets, 

the New Markets Venture Capital program continues to foster economic development in low-income areas. The program, based on the 

SBIC program, is unique in that the fund managers of the New 

Market Venture Capital companies receive grant funding about 

operational assistance to actual and potential portfolio companies 

to reduce the risk of investing in these nontraditional areas. To date, we have made over $40 million in equity and investments in over 50 portfolio companies, creating over 400 new jobs 

and sustaining some 1,100 jobs. The New Market Venture Capital 

companies also provided over 10 million in no-cost operational assistance to over 170 actual or potential portfolio companies in their 

targeted geographic areas. While these initial results are promising, it would be too premature to judge the success at this early 

stage of investing period. 

The Agency is working diligently to strengthen its relationship 

with the industry. We have reinstituted our quarterly meetings 

with industry leadership to address issues and concerns on an ongoing basis. The SBA is actively seeking industry input on making 

the SBIC program more attractive to both venture fund managers 

and investors. 

We continue to believe that the debenture program can have a 

substantial positive impact on the communities where SBICs invest, and we want to ensure the program is positioned to its maximum potential. 

Chairwoman Vela ́zquez, the SBA has a long history with venture 

capital and still views venture investment as an important source 

of funding for the small business community. The problems we see 

now are mechanisms available for the SBA’s involvement in venture capital efforts and balancing those needs with the need to protect the taxpayers’ investment. 

We look forward to working with you to address these issues. We 

thank you for the opportunity to testify before the committee today. 

We look forward to questions from the committee. 

ChairwomanVELA ́ ZQUEZ. Thank you, Mr. Hager. 

[The statement of Mr. Hager may be found on page 33 of the Appendix.]

ChairwomanVELA ́ ZQUEZ. Before I introduce our next witness, Dr. 

Lerner, I would recognize the gentlelady from Wisconsin, Ms. 

Moore, for an opening statement. 

OPENING STATEMENT OF MS. MOORE 

Ms.MOORE. Thank you so much, Madam Chair. I will try to be 

brief. 

I really did enjoy the testimony of Mr. Hager, and I am glad to 

hear that he still thinks that venture capital is extremely important. No guts, no glory. You really do have to take risks in order 

to spur our economy along. 

I just want to say to the Chair and the ranking member that I 

am so appreciative of your having this hearing today. You guys 

have had great stewardship over this committee. We hear time and 

6

time again people talk about how aspiring entrepreneurs need access to capital in order to fulfill their goals and to stimulate the 

economy and to create new jobs, and it is important to keep those 

things forward in our mind and not try to always balance that off 

with, quote, unquote, ′′protecting the taxpayers’ dollars′′ because I 

think that we are at a growth rate in our country where we have 

got to help our entrepreneurs, who create 97 percent all new jobs, 

our small businesses, and the taxpayers. We definitely need to be 

in the position to help grow our economy for their benefit. 

So many small businesses located in low-income and urban areas 

and rural areas lack this venture capital because they don’t have 

angel investors and they don’t have the three Fs—family, friends 

and fools—to help them get into business. So it really is important 

for us to realize that it is our responsibility to help spur folks that 

are going to constitute the majority of our economy. 

President Clinton was really aware of this when he unveiled the 

New Market Venture Capital program as part of the larger initiative to meet this unmet challenge. I have to give President Bush 

credit because he, in fact, did continue to authorize this program 

for the past 7 years, although he requested no money for this initiative. But it still is on the books, unlike the Participating Securities program, which is virtually shut down. 

What are we going to do with urban and rural areas if we don’t, 

as you know, Mr. Hager, try to figure out ways to make our products, our venture capital products really, really work? In the first—

in 2006, three regions, Silicon Valley, New England, and Los Angeles accounted for approximately 60 percent of all venture capital 

dollars invested and 50 percent of all deals. 

The reason I asked to make an opening statement is because I 

am a really big stakeholder in what we do here. My district of Milwaukee, that the New Market Venture Capital program has not yet 

had time or resources to reach, ranks 48th out of 50th of the largest U.S. cities in terms of venture capital dollars, and we are in the 

midst of the Rust Belt. We need help with venture capital. 

So my question to you, Madam Chairperson, ranking member, 

what is the best way to get equity capital to underserved markets? 

And I believe we ought to look at funding the New Markets program in another round as a potential solution. 

Just briefly, because I realize that my time is waning, we have 

invested more than $13.4 million in this patient capital in 29 companies. They have provided $6 million in operational assistance to 

163 businesses and entrepreneurs, and they have created or maintained 1,500 jobs in low-income communities. The difference between this program and SBIC’s is that New Market Venture Capital specifically targeted low-income communities. 

To build on this initiative, I introduced the Securing Equity for 

Economic Development of Low-Income Areas, the SEED Act, which 

would reauthorize a New Market Venture Capital program. It 

would go further to incorporate small manufacturers into the mission of the program, something that was really important to our 

former chairman, Mr. Manzullo. 

So, Madam Chair, with that, I would yield back. And I thank you 

all for your indulgence.

7

ChairwomanVELA ́ ZQUEZ. Thank you, Ms. Moore. 

I will ask any other member who wishes to open. 

So I would like to introduce Dr. Josh Lerner. Mr. Lerner is the 

Jacob H. Schiff Professor of Investment Banking at Harvard Business School, with a joint appointment in the Finance and Entrepreneurial Management units. Dr. Lerner worked for several years on 

issues related to technological innovation and public policy at the 

Brookings Institution for a public-private task force in Chicago and 

on Capitol Hill before earning a Ph.D. From Harvard’s Economics 

Department. Much of his research focuses on the structure and role 

of venture capital on private equity organizations. 

Dr. Lerner, welcome. You will have 5 minutes to make your presentation. Thank you.

STATEMENT OF JOHN LERNER, JACOB H. SCHIFF PROFESSOR 

OF INVESTMENT BANKING, HARVARD BUSINESS SCHOOL 

Mr.LERNER. Thank you very much for the introduction and the 

invitation to testify today as part of this review of the Small Business Administration’s equity investment programs. 

In my testimony today I will emphasize two points, first, that 

venture capital can play a powerful role in encouraging innovation 

and economic growth; and second, that it is natural to believe that 

government programs can boost venture capital. At the same time, 

however, these efforts must be carefully designed to work with and 

listen to the private venture capital market and its dictates and to 

embody thoughtful evaluation of the programs. 

Financing of young firms is a challenging process. Young companies, particularly those in high technology industries, but also more 

generally, are often characterized by a considerable degree of uncertainty and substantial information gaps. 

We have argued that specialized financial intermediaries such as 

venture capital organizations can address these information problems and these uncertainty problems. By intensively scrutinizing 

firms before they provide capital and then monitoring them afterwards, venture capitalists can alleviate the information gaps and 

reduce the capital constraints that several members of the committee have talked about in their opening statements. 

Venture capital seems to play a very important role in our economy. While it is challenging to figure out exactly how much innovation is caused by venture capital, there have been a variety of studies which have tried to piece together this relationship. 

After looking at a number of considerations, venture capital has 

a very strong positive impact on innovation. While the estimates 

vary somewhat with the techniques used, on average, a dollar of 

venture capital appears to be three to four times more powerful in 

stimulating innovation than a dollar of traditional corporate R&D. 

Since innovation is closely linked to economic growth, rising productivity and increased wages, venture capital is clearly playing a 

vitally important role. 

At the same time, the impact of venture capital on innovation 

does not appear to be uniform. In many instances, the levels of 

venture capital an promising technologies may undershoot the desired levels. In these cases, promising companies may be unable to 

8

get funding no matter how good their ideas. Moreover, as Congresswoman Moore pointed out, venture capital is highly geographically 

concentrated in a few regions in the country. 

Given these patterns, it is natural to view government funding 

as a potential solution. The characteristics of a venture capital 

market lead there to be a natural government role in stimulating 

the evolution. 

Venture capital is a business where there are increasing returns. 

Put another way, it is far easier being a venture capitalist if there 

are 10 other venture capitalists nearby than if one is the first one. 

It is in these types of settings where there are what economists call 

′′externalities′′ that government can often play a very positive role. 

At the same time, however, governments must avoid the common 

pitfalls that befall venture capital initiatives. One common failing 

is to ignore the realities of the venture capital process. For instance, many venture capital initiatives have been abandoned after 

a few years. The programs’ authors have apparently not understood that these initiatives take many years to become successful. 

In other cases, they have added requirements that have proved to 

be counterproductive. 

A closely related problem is the creation of programs that ignore 

the market’s dictates. Far too often government officials have 

sought to encourage funding in industries or geographic regions 

where the private interest is simply not there. As a result, the result has been wasted resources. 

Effective programs, such as the Yozma Program in Israel, address this problem by demanding that credible private sector players provide matching funds. Thus, when encouraging new venture 

funds under the New Markets program it will be important to ensure whether, through matching funds requirements or other 

means, that these new funds are fundamentally viable ones. 

Finally, it is important to have careful evaluation, as well, as 

part of these fund, scrutinizing not only the companies, but also 

the venture groups themselves. 

I want to thank you once again for this chance to testify. 

ChairwomanVELA ́ ZQUEZ. Thank you, Dr. Lerner. I think that we 

could do this in 5 minutes. 

[The statement of Mr. Lerner may be found on page 38 of the Appendix.]

ChairwomanVELA ́ ZQUEZ. Our next witness is Mr. May. Mr. May 

is the Chair of the Angel Capital Association, a peer organization 

of Angel Investing Groups in North America. Mr. May is also the 

managing partner of New Vantage Group, a Virginia firm that mobilizes private equity into early-stage companies and provides advisory services to both firms and private investors. 

Mr. May’s experience in private equity capital spans 15 years 

and ranges from venture capital fund management to angel investing. 

Welcome, sir. 

9

STATEMENT OF JOHN MAY, CHAIRMAN, ANGEL CAPITAL 

ASSOCIATION 

Mr.MAY. Thank you very much. I could do this in 2 minutes, 2 

hours or 2 days, but I appreciate the 5 minutes. 

I really appreciate being able to represent the early-stage venture capital which is angel investors. I am part of a group that has 

just been formed over the last year called the Angel Capital Association, which just shows the maturation of the group of angel investors who try to pool their capital and be a more sophisticated 

resource to all 50 States. 

We have grown to represent groups that have 10 or 12 investors, 

groups that have 270 investors. And there are about 5- or 6,000 

high-net-worth individuals who belong to these groups. 

But my experience has been that the U.S. is struggling with an 

absence of early-stage institutional venture capital. In our written 

testimony, we talk quite a bit about this lack of capital, and I really appreciate your attention at the committee level, Madam Chairwoman. 

The institutional venture capital industry is only at about $260 billion and puts out about $25 billion a year. We estimate with the 

little bit of research that has been done on high-net-worth individuals, angels, that it is about the same size, about $25 billion. But 

we think we probably put it out in about 50,000 transactions, 

whereas last year the venture capital industry had about 3- or 

4,000 transactions. 

So there is an opportunity here if we can grow more high-networth individuals to play in this risky space; and to feel comfortable mentoring, that we have a chance to greatly leverage the 

institutional venture capital that is out there. 

Let me just quickly read this quote that talks about who an 

angel is. They become an angel ′′for a variety of reasons, including 

achievement of financial return,′′ which is key, ′′to support their 

community,′′ which is also key, ′′to create and grow companies, to 

find a new job, to learn new things, to make use of their expertise,′′ and a very important sidebar, ′′for personal enjoyment.′′ So this is a giving back phenomenon, this is a patient capital 

phenomenon, and it is a mentoring phenomenon. It is the most valuable resource for the high-net-worth individual who invests in a 

stranger for long-term capital gain and to grow their regional economy. Ninety-eight percent of angel groups invest in their local 

economy—in Milwaukee, Golden Angels. All around the United 

States there are local groups that invest 1 hour drive time. They 

have to have some reward while they wait for financial return, 

which usually takes 3, 5, 7 and 9 years. 

So let me just tell you where I think there could be help. This 

is a very touchy area, as Josh said, about how can nonprofits and 

government direct the for-profit, the individual, with their after-tax 

dollars to spend their time and money? I think we should study 

this some more, but the key to me is education, readiness programs, and awareness training. 

The more we can help find ways to educate entrepreneurs what 

an angel or venture capitalist is looking for—because the most valuable resource we have is time, so if we waste time in the hunt 

between the two parties, it is really deadly—and how to educate 

10

more angels. There are some programs out there I think we could 

support. 

Also infrastructure and development of angel groups. There are 

a lot of States, such as Wisconsin, Ohio, Pennsylvania, that have 

found ways with six-figure investments to spread the word on how 

to educate angels, how to match the right entrepreneur with the 

right program—a very small amount of dollars to get a lot of bank 

for the buck. 

There is a lot of discussion about a Federal tax credit program 

to enhance and to help. There is a lot of controversy over the success of the 19 or 20 State programs that have existed in the past. 

It is—just to note, the National Governors Association is about to 

publish a 20-State report on the effectiveness of State programs’ 

funding, tax credit and so forth. So we would like to support dissemination of that study as soon as it is available in early July. 

We definitely think leveraging private investors—and I would 

suggest we go beyond supporting the wonderful work of SBICs, 

which we have co-invested with and made money; and with the 

New Markets Fund, in which we have co-invested as angels with 

the one in College Park and made money, and we suggest you look 

at coinvestment or matching fund programs. Scotland has one, 

there are a number of States that have one. 

If a group of angels or venture capitalists are willing to put their 

dollars at risk, that should be enough to trigger a matching amount 

from a leverage program. The UK has just instituted that program, 

and very successfully, to try to build on the experience. 

So, as you know, I could go on. I am very enthusiastic about this. 

AngelAssociation.org, everything you wanted to know about angels 

in all 50 States. And thank you for this chance. 

ChairwomanVELA ́ ZQUEZ. Thank you, Mr. May. You will have an 

opportunity to expand when the members will have an opportunity 

to make questions. 

[The statement of Mr. May may be found on page 44 of the Appendix.]

ChairwomanVELA ́ ZQUEZ. So now the committee will stand in recess and we will resume right after the vote. 

[Recess.] 

ChairwomanVELA ́ ZQUEZ. The hearing is called to order. 

Our next witness is Mr. Stephen Vivian. Mr. Vivian is the Vice 

Chairman of the Board of Governors of the National Association of 

Small Business Investment Companies, the professional association 

for the small business investment company, SBIC, industry. 

Mr. Vivian is also a partner with Chicago-based Prism Capital, 

Prism Opportunity Fund, one of only a handful of groups in the 

country managing both Participating Securities and debenture 

SBICs. 

Mr. Vivian, welcome.

11

STATEMENT OF STEPHEN VIVIAN, VICE CHAIRMAN, BOARD OF 

GOVERNORS, NATIONAL ASSOCIATION OF SMALL BUSINESS 

INVESTMENT COMPANIES, AND PARTNER, PRISM CAPITAL 

Mr.VIVIAN. Thank you. Thank you, Chairwoman Vela ́zquez and 

Ranking Member Chabot for inviting me to testify and for all your 

hard work on the SBIC program over the years. I appreciate the 

opportunity to testify on behalf of NASBIC; it is something I am 

very passionate about, and also gives me the opportunity to apologize for record to Barry, whom I called Michael during the intermission. 

Barry, I apologize for that. 

As Chairwoman Vela ́zquez mentioned, I am the incoming Chairman of NASBIC, and we represent the over 350 licensed SBICs 

across the country. As a brief background I just wanted to touch 

on the three different aspects of the SBIC program and give a little 

status update. 

The debenture program, which is today the most thriving part of 

the SBIC program, has approximately 135 licensees and invests 

$5.8 billion in capital—or manages 5.8 billion in capital and invested about 1.2 billion in fiscal 2006. That program matches private capital raised by general partners, such as ourselves, with a 

two-to-one match from the government to invest, primarily debt, in 

small businesses. And the SBA sets the rate, the hurdle interest 

rate, that we put on and can maximize and charge the companies 

that we invest in. 

The second component of the SBIC program consists of now only 

about 58 bank-owned SBICs, which have traditionally been nonleveraged, and since the passage of Graham-Leach-Bliley in 1999, 

most bank holding companies no longer invest through their SBIC 

licensees. 

The third component, as the Chairwoman mentioned, was the 

Participating Securities program, which we do have a license for, 

which was started in 1994; and as Chairwoman Vela ́zquez also 

mentioned, the SBA discontinued licensing new Participating Securities funds after fiscal 2004, really due to a couple of things—one, 

because of losses, and also because of a determination that the program no longer qualified for the Credit Reform Act. 

Currently, the last of the SBA-guaranteed Participating Securities leverage will expire on September 30, 2008. There are currently 167 remaining Participating Securities funds. They manage 

about $11.5 billion of capital and invested about 1.5 billion in 2006. 

After chairing the legislative committee a couple of years ago in 

attempts to revitalize the Participating Securities program, 

NASBIC took a different course this year and decided our mission 

for this year would be to try to work with the SBA and with the 

committees to rehabilitate the reputation of the SBIC programs 

that were remaining and thriving; and so, to that end, we proposed 

and supported the legislative initiatives that you all are considering to amend the SBIC program. 

I just wanted to briefly go over the three things we talked about 

relative to the legislation that we support, because we do believe 

they help to improve the profile of the SBIC program with both investors that could invest in the program and with general partners 

that might want to run SBICs. 

12

The first proposal is to increase the maximum amount that 

SBICs can invest in any single company. Today, that hurdle rate 

is low by market standards and artificially lowers the amount of 

investing that SBICs do into small businesses as general partners 

limit the amount of money and mete it out to the small businesses 

that they invest in. An increase in that overlying limit we believe 

would be very beneficial to funding small businesses by debenture 

SBICs. 

The second proposal deals with the amount of capital under management by any single independent SBIC manager or multiple 

funds under management by SBIC fund managers; and we believe 

that increasing those rates which have been pegged and not increased enough, in our estimation, in recent years will help to promote further interest in the program over time and continue to 

drive managers to the program. 

The third piece of the proposal is really the last shot that 

NASBIC has made in working with you all to try to solve a little 

bit of the pain for the remaining Participating Securities licensees 

that are left, and that is really a technical change to allow Participating Securities funds to draw leverage a little bit faster than 

they are currently able to draw leverage, in hopes that the leverage, which they have already paid for, will allow them access to 

slightly more leverage than they currently would able to get under 

the current legislative program. 

So we really appreciate your support for the program over the 

years and your support for these legislative initiatives; and though 

they are technical in nature, we think they really are a step in the 

right direction to help keep promoting the debenture program and 

keep improving it so we can have it remain attractive for both 

small businesses and general partners. 

ChairwomanVELA ́ ZQUEZ. Thank you, Mr. Vivian. 

[The statement of Mr. Vivian may be found on page 50 of the Appendix.]

ChairwomanVELA ́ ZQUEZ. Mr. Hager, I would like to address my 

first question to you. 

Can you tell us which of the SBA’s existing programs help earlystage startup small businesses with investment capital? 

Mr.HAGER. We have a number of instruments to use. I mean, arguably the debenture program would work. We are also, of course—

ChairwomanVELA ́ ZQUEZ. What do you mean by ′′arguably′′? 

Mr.HAGER. There could be some push-back to say it is not for 

startup, but clearly it has a 50-year history with all sorts of applications, including startup. Some that would push back to say ′′no.′′

ChairwomanVELA ́ ZQUEZ. What other the programs? 

Mr.HAGER. The New Market Venture Capital program that we 

have, it is still early—we are about 5 years into the program—but 

we also think that program would offer some startup. The startup 

has obviously dropped off, as you have indicated. However, the last 

couple of years it has been very stable, and we hope that it will 

maintain the current level that it is today. 

ChairwomanVELA ́ ZQUEZ. Let me ask you, how can a startup business with limited cash flow and a heavy need for capital investment benefit, how will that benefit? 

13

Mr.HAGER. It would be—again, to go back, the debenture program has been here for 50 years, and it has historically been able 

to provide capital to startups. 

ChairwomanVELA ́ ZQUEZ. Let’s take the debenture program. If 

you are using the debenture program to fill the gap left by eliminating Participating Securities, can you explain to us, then, why 

has your agency proposed to keep the program level flat? 

Mr.HAGER. ′′the program level flat′′? Help me with that. Which 

program level are you talking about? 

ChairwomanVELA ́ ZQUEZ. The authorization of 3.5 million. Did 

you ask for that increase? 

Mr.HAGER. No. 

ChairwomanVELA ́ ZQUEZ. How then can you fill the gap that exists? 

Mr.HAGER. There will be some dropout from the participating 

program that won’t be filled. 

ChairwomanVELA ́ ZQUEZ. So that shows the commitment of the 

administration. 

Mr.HAGER. The commitment of the administration is as strong as 

every. We have a 50-year—

ChairwomanVELA ́ ZQUEZ. The facts are there or? 

Mr.HAGER. The participating program was a program we could 

not support for the future. Out of 8.5 billion, 2.4 billion has been 

lost. Another 300 to 700 million is forecast to be lost. It is a program that didn’t have good balance as much as we want to reach 

out, as much as we want to help. The participating program is a 

program that clearly did not have good balance. 

ChairwomanVELA ́ ZQUEZ. Where are the forecasts when you talk 

about the losses? 

Mr.HAGER. Our current forecasts in the SBA of the participating 

program, we are right now 2.4 billion that we know we are going 

to lose. We are looking at a commitment of another 2.1 billion 

roughly. 

ChairwomanVELA ́ ZQUEZ. You mentioned the $2.5 billion in losses. 

So I just want to ask you: Has your agency actually realized losses 

in the participating security program in the amount that you quote, 

or are those projected losses? 

Mr.HAGER. Projected losses. 

ChairwomanVELA ́ ZQUEZ. Okay. So Mr. Hager, one of the biggest 

challenges that women-, veteran- and minority-owned small businesses have to overcome is the inaccessibility of investment capital 

in the conventional capital venture industry. What is the SBA 

doing to increase equity investment in women-, veteran- and minority-owned businesses? 

Mr.HAGER. No. It wouldn’t take a lot to look at the numbers to 

understand that there is a problem there. We don’t deny that there 

is not a problem there. 

ChairwomanVELA ́ ZQUEZ. So, for the record, let me share with you 

and the people here, the numbers. 

In fiscal year 2005, only 3.4 percent of all financing in the SBIC 

program that went to that were majority black owned. For womenowned businesses, the numbers were worse with those businesses 

receiving 2.37 percent of SBIC financing. 

14

For Hispanic-owned businesses, the statistics were even worse 

with only 1.39 percent of SBIC financing. And veteran-owned small 

businesses faired the worst receiving only half of one percent of all 

SBIC financing. 

So if this is the result of the SBA current efforts to help this 

group, wouldn’t you agree that a lot more needs to be done? 

Mr.HAGER. We agree that we have to do everything we can to enhance those numbers. You know, when you look at the number of—

from 2002 through 2006, the number of businesses in women-minority-owned—that are women-minority-owned, was roughly 20 

percent. 

Those numbers, not necessarily where we would like them, but 

20 percent is the number that was achieved for those years. We 

have a number of programs that we are looking at. We have a 

number of outreach programs that have been launched. We recently conducted a symposium at the agency that was focused on 

women and minorities. 

ChairwomanVELA ́ ZQUEZ. We got a problem. You know that; 

right? We have a problem. The administration has a problem with 

those numbers. You have to do better. 

Mr.HAGER. We would like to see the numbers improve. 

ChairwomanVELA ́ ZQUEZ. So let us talk about the New Market 

Venture Capital Program. 

As we all know, it was designed to increase investment in small 

businesses in low-income areas. 

Do you feel, Mr. Hager, that this is a worthwhile goal for the SBI 

even if the program requires increased funding? 

Mr.HAGER. We believe that the funding level for the program 

today is where it ought to be. It is a program that was developed 

roughly 5 years ago. It was implemented. We are tracking the 

progress. It is still in the harvest period, as we call it. We don’t 

know yet until we get some more experience with the program. We 

do believe it offers hope for us. We do believe that there is a potential here to expand it. 

But we don’t want to artificially, prematurely make a recommendation on this program until we see the results. 

ChairwomanVELA ́ ZQUEZ. And so can you tell us, where is the 

funding level for the program? At what level? 

Mr.HAGER. We have committed some $7 billion for this program; $40-some million has been, you know, committed, has been allocated. There is still a balance in the program. It is a new program, 

relatively new. 

ChairwomanVELA ́ ZQUEZ. When was the last time that it got 

funded? 

Mr.HAGER. I think the year for that—

ChairwomanVELA ́ ZQUEZ. I will help you, 2003. 

Mr. Hager, the New Market Venture Capital was a manifestation 

of Congress’s belief that small businesses in low-income areas need 

additional support in acquiring investment capital. 

What has the agency done to fulfill this mission? 

Mr.HAGER. We believe that we have, again, a number of venues 

to address that issue both on the venture side—I keep coming back 

to that. That program has served us well for 50 years. We maintain 

it is a strong program. We maintain there is a good balance beVerDate 0ct 09 2002 12:28 Dec 20, 2007 Jkt 033615 PO 00000 Frm 00020 Fmt 6633 Sfmt 6633 G:\CLERK SB\HEARINGS\TRANSCRIPTS\36107.TXT LEANN
15

tween taxpayers and recipients of those funds. And we think it is 

a good approach. 

We have a New Market Venture Capital Program that we talk 

about. That offers a lot of hope for the future based on, you know, 

the success of the program. 

ChairwomanVELA ́ ZQUEZ. Without money? Without the administration coming to ask for money? 

Mr.HAGER. Until we see what happens with the program, we 

think we are where we ought to be right now. 

ChairwomanVELA ́ ZQUEZ. You talk a lot about the New Market 

Venture Capital Program a lot in your testimony, and then your 

agency—you are saying that the agency is truly committed to fostering development through this program. And I just cannot understand, if you come here and say and talk about how much this program can accomplish and how committed you are, and then your 

agency does not request—hasn’t requested any more money for the 

program for the last 4 years, something is wrong with this picture, 

sir. 

Mr.HAGER. We are passionate about what we do. 

ChairwomanVELA ́ ZQUEZ. I can see that. 

Mr.HAGER. We are, and we work very hard at it. We don’t want 

to propose additional funding on a program that is new, unproven. 

We don’t want another participating security—participating program where we have to come back to say we have a problem here. 

Well, what kind of problem? $2.4 billion problem. We don’t want—

we don’t want to—

ChairwomanVELA ́ ZQUEZ. Sir, don’t continue to say $2.4 billion 

when you answered to me my question about saying that those are 

estimates. You don’t know the numbers. 

Mr.HAGER. We can’t guarantee it, but with great predictability, 

those are real numbers. 

ChairwomanVELA ́ ZQUEZ. I will now recognize Mr. Chabot. 

Mr.CHABOT. Thank you, Madam Chair. 

And, Mr. Hager, I will follow up with you if I can. 

Could you tell us which outreach efforts are in place so that 

small business owners know more about possible angel investors? 

Mr.HAGER. We have a whole host of outreach programs that we 

have launched in the last couple of years. It would include hosting 

work groups, brain storming meetings. We have done that in a 

number of major cities throughout the country. Holding frequent 

discussions with NAIC, 3 years in a row of supporting events cosponsored by NAIC, participating in speaking at the North American Alliance gathering. 

I can go on and on, outreach programs that are underway, including a symposium that was conducted back in December of last 

year where we brought in industry leaders, academicians, people 

that would be able to assist us in how we can come up with new 

ideas in outreach. 

We came up with a whole host of suggestions that are being evaluated right now. And we will continue these outreach programs. 

Some of these suggestions will no doubt be implemented. 

Mr.CHABOT. Thank you. 

Dr. Lerner, if I could move to you next. 

16

You had mentioned in your testimony that venture funds tend to 

sort of group together, and the first one is obviously tougher environment and kind of breaking ground, and it is easier if you have 

a group of them or if you are following. And you had also mentioned that there has to be interest in the private sector if it isn’t—

if the market isn’t going to support it, no matter how much money 

you dump into something, it is just not going to ultimately work. 

Could you expound upon that, both of those things, a little bit? 

Mr.LERNER. What you are getting at is one of the fundamental 

challenges here. That, on the one hand, you know, we just have 

this natural desire to see venture capital and entrepreneurial activities taking place everywhere. And ideally that would be the way 

that would be sort of spread out, you know, very evenly and have 

activity taking place in all places. 

Unfortunately, it seems that when governments have tried to do 

this, and there are examples ranging from, you know, from around 

the globe where they have said, let us just sort of try and encourage activity evenly so everyone is saying it just fundamentally 

doesn’t work; this is an activity that seems to be concentrated and 

lumpy in its nature. 

Now that, when you first state that, it doesn’t sound very appealing. And in fact, when I have made statements like this, I have 

been criticized in all corners of the globe from Finland to China for 

having said something along those lines. 

At the same time, though, I think there is hope. And it is not—

we don’t need to take this sort of Draconian view, and Silicon Valley and Massachusetts are venture capital; we can’t do anything 

anywhere else. But I think it does make sense to say, rather than 

trying to duplicate Silicon Valley, rather than trying to create a little high-tech cluster in every region, we need to think very carefully about what are the strengths of each given region and what 

are the things where there is a real potential for private sector activity and real vibrancy. 

To just simply throw money in the hopes of duplicating Silicon 

Valley is unlikely to be successful, but if we can figure out ways 

and places where the—where there is potential in getting the private sector involved in terms of providing matching funds, is an important way of doing it. We can duplicate features of the venture 

model in many different places around the Nation. 

Mr.CHABOT. Mr. May, would you agree that an increase in the 

tax rate for long-term capital gains would be harmful to investors 

in two ways: It would reduce the return on angel investments, and 

it would reduce the funds that angels have to invest? And also, is 

the Angel Capital Association supportive of extending the President’s tax cuts? 

Mr.MAY. Thank you for the question. 

No high-net-worth individual doing long-term capital gain patient investing in a high-risk environment would like to see a higher tax rate on those long-term capital gains. When I go around the 

world talking about, is the U.S. government sponsoring and supporting angel and venture activity in the United States, I say, no, 

except for 15 percent long-term capital gains tax rates as an encouragement to take the risk on that capital. 

17

Because, in general, this has been a grassroots-up phenomenon, 

not a top-down like in the EU, the Angel Capital Association is so 

new, less than a year old, and just formulating how it should approach policy among what we call herding cats. 

As you can imagine, we have angels from all walks of life and 

all jurisdictions. We have not yet taken a policy position on anything, but we are developing it. We would be glad to know what 

areas we should be responding to these kinds of questions. 

But as a group, it is too new to have a stated policy like a trade 

association. You can imagine trying to deal with all of those different individuals and get a vote. 

So it is neutral on it to date. 

Mr.CHABOT. And, finally, Madam Chair, if I have time to ask Mr. 

Vivian a question. 

Are there specific industry sectors or geographic areas that need 

more SBIC funding and cannot obtain it through the limited programs operated by the SBA? 

Mr.VIVIAN. My opinion, the answer would clearly be, yes. If you 

go outside the regions that include Silicon Valley or Route 128 or 

Austin, Texas, there is a dearth of private equity. The statistics 

will show well over two-thirds of the dollars invested, and if you 

break it down by county, it is staggering how much venture capital 

is concentrated in a handful of counties. 

So, clearly, there is a dearth of venture capital and private equity outside of those regions. And quite frankly, one of the very disappointing things to NASBIC, as it related to the Participating Securities programs, was we could debate whether the structure was 

right or wrong, but the intent and the spirit of the program—the 

program worked, and it drove capital. Our little firm in Chicago, 

and other people can say Chicago is full of private equity, but we 

write checks and in a range from $750,000 to $3 million in our equity fund, and that money does not exist. 

So, clearly, there is a need, and I think one of the things that 

Josh mentioned I would also echo. If there are legislative initiatives 

around programs, there needs to be a long-term horizon and a vision to keep those around. 

One of the problems that the Participating Securities program 

was rolled into along with the rest of the venture industry was 

they ramped the commitments into the teeth of the recession and 

the economic bubble and the dot-com bubble. Everybody lost money 

during that period. Not just the SBA. I would argue that SBICs 

performed as well or better than the vintage year funds that the 

rest of the private equity industry put forth during those years, but 

you have to have a duration and a perspective and a willingness 

which is why maybe do tweaks to a program so that it won’t result 

in a backlash if there are losses, because if you are screwing 

around in private equity, there are going to be losses. That is just 

the nature of the beast. 

Mr.CHABOT. Thank you very much. I yield back. 

ChairwomanVELA ́ ZQUEZ. Ms. Clarke. 

Ms.CLARKE. Thank you very much. 

It is really disheartening to hear today that many of the Small 

Business Administration’s programs being discussed are being 

eliminated from the Federal budget. 

18

The administration must continue to fund these initiatives in 

order for these programs to thrive and to flourish and, you know, 

to hear that the 50-year track record that you have is what you 

used to sort of substantiate success, it just doesn’t jive when we see 

so many businesses out there in need of our support. 

It is really an imperative, and I hope that you will really reassess that and do some, what I believe, is some really in-depth analysis. We have got so many businesses out there that really need 

the help and the support at the same time that we are cutting 

funds, it just seems counter-intuitive. 

The SBA was created to aid and counsel and assist and protect 

small business concerns. 

As you already know, small businesses remain a critical component of our economy in the 21st century, and your administration 

must do all it can to make sure that women and minority-owned 

businesses start, build and grow in the years to come. 

I would like to ask Mr. Hager. 

It has been recently reported that SBA plans to reduce fees for 

small business investment companies which use the governmentbacked loans to make venture capital investments, and according 

to the administration, these fee cuts will allow small businesses to 

avail themselves to the SBIC program more than they did last 

year. 

The SBA, however, also has ceased issuing new leverage commitments to many entrepreneurs due to your administration’s decision 

to move to the program to a zero subsidy, thus making it virtually 

insolvent. 

Why has the SBA continued to pursue a zero-subsidy policy in 

the fiscal year 2008 budget which negatively impacts on minority 

entrepreneurs in receiving capital investments? 

Mr.HAGER. The whole issue of zero subsidy is not only in the capital markets group, but it is also in the loan area. 

We strive, we work very hard at achieving zero subsidy to eliminate the requirement to come forth and have various costs created 

and covered by budgeting from Congress every year. 

Many times the budget doesn’t get approved on time. We then 

have to cease programs. 

We, by far, would rather see a program that is zero subsidy, is 

paying for itself because we have proven time and time again that, 

in the long run, we believe the programs are far healthier; we don’t 

expose ourselves to interrupted capital; and we believe the end result—

Ms.CLARKE. With all due respect, if that is what you would like 

to see, why hasn’t a real viable option been proposed by SBA? To 

just stop it and not present a viable alternative doesn’t help the 

people of our communities, the entrepreneurs of our communities. 

I am sure there is a lot of brilliance and intellect over there at the 

SBA. With a little bit of imagination and with all of the gentlemen 

sitting with you here today, it shouldn’t take coming before us to 

realize that, if you stop this, it is going to have an adverse impact 

somewhere. 

And it would seem to me that, before we make these type of Draconian moves, we would, you know, consult with those and say, 

look, you know, this is not the type of cost that we want to absorb 

19

any longer, but we know that there are folks that rely on this out 

there. 

What can you come up with that we can present to these communities, to the people of the United States, that will substitute for 

what we will have to phase out? 

Isn’t there anyone thinking at that level at the SBA currently? 

Mr.HAGER. We think about it a lot. 

Ms.CLARKE. Okay. You answered that question. I am glad you 

think about it a lot. 

Mr.HAGER. Thank you very much. 

Ms.CLARKE. Where are we in proposing what the next steps are 

going to be? 

Mr.HAGER. For example, the New Market Venture Capital program is new. It is 5-years old. And by the way, that program is 

well funded. If first payment doesn’t occur, repayment for 5 years 

after the conception of the program. So that funding will go out 

covering us for the next couple of years without a problem at all. 

The participating program is the one that we have indicated we 

do not support it going forward. Why? We did not have a good balance between the user of that program and the taxpayer. The projected losses for that program that we have absolute certainty will 

occur are Draconian. I mean, it is not fair, in our opinion, to the 

taxpayer to be making that up. 

Therefore, we have ceased supporting that program with annual 

funds, and we have also indicated that, if we were to apply fees to 

cover the expense of that program, nobody would participate. 

Ms.CLARKE. But, Mr. Hager, I understand what you are saying. 

At the same time, the alternative, if it is the New Market Venture 

Capital program, which made over 40 million in equity investments 

and over 50 portfolio companies creating 400 new jobs, you claim 

that it is premature to judge the overall effectiveness of the program in your written testimony. 

These numbers seem very impressive. Don’t you think that additional funding would not only bring new companies into the program there by increasing equity financing to entrepreneurs in lowincome areas but also increase the companies’ success rate. 

Mr.HAGER. I totally understand where you are coming from. 

Where we are coming from on the assessment of the program, 

the first payments aren’t due in for up to another year. And until 

we start seeing what actually happens on the repayment, we can’t 

say we need more money to expand this program. It is in a—we 

want to see what the—

Ms.CLARKE. Is this like a pilot that you are running here that 

says that, you know, we are going to have a control group, and 

until that control group is manifested, we are going to hold back 

on what we know is a need in the United States of America; is that 

where we are at this stage? 

Mr.HAGER. It was not set up that way. 

Ms.CLARKE. I didn’t think so. 

So that is why I am a bit concerned about, you know, the way 

that we are going about this. That is because business does not operate in a static environment like that. It doesn’t thrive in a static 

environment like that. And certainly our communities, you know, 

20

deserve better than that. And so if we are going to set up these 

control groups situation, which is in effect what we are doing—

ChairwomanVELA ́ ZQUEZ. Would the gentlelady yield to me for a 

second? 

Ms.CLARKE. Okay. 

ChairwomanVELA ́ ZQUEZ. Mr. Vivian, I would like to askyou, if 

this is the way you invest, you invest and then you wait for 6, 7 

years? 

Mr.VIVIAN. No. 

ChairwomanVELA ́ ZQUEZ. You have one more minute. 

Ms.CLARKE. I think the point has really been made. 

I am just disappointed. I am a new Member here. And, you 

know, I have been just dumbfounded, quite frankly, by the way 

that we are not looking at using the best of our talent, skill and 

ability to do what needs to be done to assist in our communities 

and the SBA. So many people are looking to you for your help and 

your guidance and your support. If in fact you feel that there is a 

danger to the taxpayers’ money, I think it is also your obligation 

to look at other alternatives that can be created. 

Like I said, the talent expertise is sitting right next to you there. 

These are folks you can draw on and say, listen, right now this 

fund looks like, you know, it is going to be a pain in the butt for 

all of us for the future, for the foreseeable future, what can you 

suggest that we can do as a product that we can get it to these 

communities immediately as an alternative to assist those entrepreneurs? 

I just don’t hear that coming forth, and I hope that that—ultimately, that is what I will be looking at. 

Mr.HAGER. But I hear you loud and clear, and to show you an 

example, on a quarterly basis, we meet with the trade group to 

say—we address a whole host of issues. But certainly as we talk 

about product phase-out, you know, what can we do? What are the 

options going forward? You know, certainly the New Market program is one. Certainly we need to take a look at a program that 

just started in 2001. What kind of risk are we exposed to, to make 

sure that we have a good balance between, again, the recipient of 

the dollars, the capital and the taxpayer? 

ChairwomanVELA ́ ZQUEZ. Time has expired. 

Ms.CLARKE. Thank you very much, Madam Chair. 

ChairwomanVELA ́ ZQUEZ. Dr. Lerner, one of the shortcomings you 

mentioned in the government investment program has been a high 

emphasis on early results and a tendency to terminate these programs prematurely had those results not been achieved. 

So in the case of patient equity investment, what time frame 

should we expect before a program begins to bear fruit? 

Mr.LERNER. I think it is an excellent question, and we can point 

to many examples where programs have been killed too soon. I 

think a great example is France, where it seems every time a new 

president has been elected, they announce a new entrepreneur program. And then, 2 years later, they say France doesn’t have an entrepreneurship, so let us get rid of the program. 

But clearly doing evaluation is important in understanding what 

is going on. But it is simply the process of growing—when you 

think about creating a new venture industry, particularly in an 

21

area where it hasn’t been there beforehand—is going to take a 

while for this to happen. You are not just creating companies, you 

are creating a whole system in terms of not only the financiers but 

the lawyers to help them with the process, the accountants who understand working with these firms and so forth. 

So I do think that to think about this as something that can be 

done in a couple of years is, you know, probably naive; that we are 

talking about more like the length of a decade or even longer. It 

is obviously challenging in the sense that, in the position of a steward for public funds, one doesn’t want to waste money or throw 

good money after bad. But at the same time, you have to realize 

that even if we look at some of the, you know, very successful programs that have been very—that have been out there, such as the 

original SBIC program, the first 10 years of it were not a great success. In fact, there were numerous hearings where Congressmen 

sitting in this very room berated people for having set up the program in the first place. 

So one really needs to think about it in the time frame of a decade or longer rather than a couple of years. 

ChairwomanVELA ́ ZQUEZ. In your testimony, Mr. May, you say 

that government leverage, if appropriately structured, could play a 

role in increasing angel investment in small businesses. How 

should this leverage be structured and what should be avoided if 

the SBA’s involvement in angel investing is to be successful? 

Mr.MAY. That is a great question we are struggling with. And as 

we do that, I am going to keep you all informed. 

The only thing that I have seen as a new initiative that I think 

has some merit that I have seen in other countries is a matching 

approach as opposed to a an entirely new bureaucracy or a new attempt at raising capital. 

And the State of Ohio, for example, has a wonderful program 

that the Ohio Tech Angels have one-third of a side car fund from 

Nationwide Insurance, one-third from the Ohio State University 

and one-third from the State of Ohio, putting its funds on a dollarby-dollar basis side by side with risk capital directed solely by private angel investors. 

So I guess what I am saying is the kind of discussion that we 

are going to have over time now that, you know, we are taking a 

little bit more public role, would be to explore some of these creative things being done at the State and local level and see if they 

were used at the national level, whether it be underserved markets 

or national, whether that has some fruit as opposed to a new bureaucracy. 

ChairwomanVELA ́ ZQUEZ. Dr. Lerner, you mentioned that a common failing in government investment programs is a tendency to 

focus on unrealistic metrics to measure the program’s success. 

How should an investment program’s success be measured? 

Mr.LERNER. I think it is a great question. 

I mean, clearly, at the end of the day, one thing that you do want 

to look at is financial return. Now it is important, as we talked 

about before, to look not look just simply at absolute return but at 

return relative to what other funds in the market are doing. 

But I think it is also clear that, if we are spending public money, 

it is not simply because of financial return. 

22

We have a much broader set of social goals as well. And these 

include things where it is alluded to earlier in terms of employment 

creation, in terms of creating, you know, creating an environment 

where it is easier for the next generation, for entrepreneurs and so 

forth. 

And certainly when we have—when I have been in a situation 

advising governments about undertaking evaluations of programs, 

what we have tried to push for is both a quantitative and a qualitative side and saying, let us not just look at things that can be 

easily measured, but let us also look at the broader kind of investments. And, of course, those make us a little nervous because it is 

hard to necessarily quantify all of that stuff. 

But it is important to take that broader view and to get a sense 

of success and failure. 

Mr.MAY. I just wanted to mention, I really do think a way to get 

at some of the current data would be this study that I know is 

about to come out from the National Governors’ Association recommending to the Governors what they have found at their Center for 

Competitiveness has been the experience of different tax credits 

systems at the State level, funding, seed level. Our comments are 

due back to them at the end of June. So as early as July, I would 

hope that the staff and the SBA avail themselves of that recent research. 

ChairwomanVELA ́ ZQUEZ. Mr. Vivian, you heard me when I was 

asking Mr. Hager, in terms of the numbers regarding the SBIC 

success, the program continues to have difficulty in providing investment to small businesses that are majority owned by women, 

minorities or veterans. 

What more can be done to increase investment in this group? 

Mr.VIVIAN. I think—there is no simple answer to that question. 

The challenge always comes back to, when we have been asked 

that question as either an association or as investment professionals, we have never turned a business down based on the gender 

or nationality of the entrepreneur. We look at the merits of the 

business. 

And I think the challenge that SBA has is the programs that 

have been called in the past directed or targeted programs have 

never really caught fire, for whatever reason. I don’t know the answer to that question as to why the more directed programs have 

not received as much interest among the investment community or 

investors. 

And, you know, I don’t have a great answer to that question, 

Chairman. I wish I did. I do know that, in the broader limited partner community, which is the pension funds and endowments and 

foundations that are really the drivers of investment into private 

equity and capital communities, there is a major focus now on what 

they are calling double bottom line investing where they get both 

financial return and social return for what they do. 

And I think the leadership within the investment community and 

discussion and education and leadership by SBA in those initiatives, I believe, is starting to make a difference. And, you know, the 

proxy that I use is the number of women and minority general 

partners that I see and that we see at conferences, in fact, there 

was a conference held in New York about a week ago on minorityVerDate 0ct 09 2002 12:28 Dec 20, 2007 Jkt 033615 PO 00000 Frm 00028 Fmt 6633 Sfmt 6633 G:\CLERK SB\HEARINGS\TRANSCRIPTS\36107.TXT LEANN
23

and women-owned venture capital and private equity firms and investing in those firms. 

I believe there is a building wave of interest amongst the financial community to recognize that there is a problem there. And 

there is—something needs to be done, and it needs to probably be 

a collective effort on a public-private partnership to figure out how 

to solve those problems. 

ChairwomanVELA ́ ZQUEZ. Thank you. 

Mr. Chabot. 

Mr.CHABOT. Thank you. 

Dr. Lerner, does the amount of Federal and State regulations impede the capacity of small businesses to obtain equity financing? 

And do you think that Congress should take any action to eliminate the duplicative regulation of securities markets by Federal 

and State regulators, and would such an action improve the capability of small business owners to obtain such capital? 

Mr.LERNER. What you are raising is a set of really important 

issues. 

Clearly we have seen, you know, a decline in terms of the share 

of, for instance, initial public offerings taking place in the United 

States on a worldwide basis, a pretty dramatic pattern over the 

last 5 years. 

Now part of that probably just simply reflects the growth of entrepreneurship in markets like India and China and more recently 

in Europe and probably was inevitable. But it is hard not to feel 

that the failure of companies to go public and access the public 

markets here reflects a combination of regulatory constraints, some 

of which are associated with Sarbanes-Oxley, but others which 

aren’t; fear of litigation and particularly the proliferation of, you 

know, the continued role of shareholder litigation against young 

companies and simply more structural changes in terms of the investment banking industry where there has simply been less time 

and resources for analysts to cover young growing companies. 

All of these factors have combined to make going public less attractive, and this has also made it much more difficult for companies to get earlier stages of financing because you don’t have the 

promise of ultimately being able to go public. 

So I think that regulatory issues are part of the story, but I don’t 

think they are all the story. And certainly there is a variety—it is 

probably one of a number of things that fits into this which is the 

brew of what is going on. 

Mr.CHABOT. Let me follow up with something that is totally unrelated to that. 

Do you think it makes sense that the vast majority of small business owners start their business using credit card debt, and if it 

doesn’t make economic sense, that it really kind of shows a market 

failure in small business financing that it forces a lot of owners to 

finance the start-up of their businesses using such expensive credit 

card debt which is obviously much higher than one would hope that 

you start a business at. 

Mr.HAGER. It is an important issue. I mean, clearly, when you 

are at that stage of starting a young company, except for the very 

fortunate few, most of whom have already been entrepreneurs and 

24

been successful and made money for their investors, except for that 

group, it is very hard to raise money. 

You have to just somehow get on the playing field any way you 

can and sort of bring that idea along to the point where you can—

where you can sort of have the—have something to really show to 

potential investors, like angels. 

And I think here, again, we can think about, you know, some of 

two difficulties particularly that minority investors face in the 

sense that the challenges of being able to access traditional capital 

markets in these instances often are going to be greater due to a 

lack of information or simply outright discrimination. 

So I think it is clearly, this is a very expensive—credit cards are 

a very expensive form of financing. And you can think about many 

examples of entrepreneurs who ran up huge amounts of credit card 

debt and had very difficult situations. 

But I don’t think there is an easy solution or an easy way to get 

around this. Simply because that initial phase, it is so tough to 

raise money because you really have nothing but a dream to convince people to give you funding. 

Mr.VIVIAN. Just to echo a little bit. 

I think there are some endemic challenges in growing small business. I don’t think it is a problem. The beauty of being an entrepreneur, you believe passionately in what you are doing and you 

don’t care if anybody else believes in what you are doing. And the 

challenge is endemic to the private equity community; even if there 

were an abundance of seed capital, there are a lot of businesses 

that just aren’t good venture capital investments. 

The investments that we need to make into venture funds to 

drive returns that allow us to stay in business don’t align with the 

vast majority of the companies and small businesses that get started. 

Equity investing of the professional kind is driven at high-risk, 

high-return, and a lot of businesses—it doesn’t mean they are not 

fine businesses that create jobs and add a lot of value to our country, but they are just not good venture capital investments just by 

the nature of the fact that they are unlikely to make someone 5 

to 10 to 15 times their invested capital on a return basis in a short 

period of time. 

ChairwomanVELA ́ ZQUEZ. Ms. Clarke. 

Ms.CLARKE. Thank you very much, Madam Chair. 

I wanted to ask Mr. May. 

Angel investments have accounted for more than 51,000 entrepreneurial investments a year and are rapidly becoming a way for 

investments to obtain early seed capital. The need for the early 

stage start-up capital for small businesses is being unmet by the 

SBA’s existing investment programs, Particularly since the elimination of the funding for the SBIC securities program. 

Angel investments have been great for job growth, mainly in the 

health care services industry. But individual investors tend to focus 

more on profits and not on community growth. 

How can Congress make angel investing a more probable choice 

in many communities since it could help improve the economy? 

Mr.MAY. I am not sure I have the answer to that. I am not sure 

that there is a one-stop-shop way to do that. But it is true that it 

25

is so clear that there is this widening gap of institutional funding 

that is not available for high-growth companies, and that is really 

what we are talking about is the tip of the iceberg of these highgrowth entrepreneurs that can never get funding from any of us. 

But, yeah, it has gotten where there is less than a thousand 

transactions a year by the mainstream institutional venture capitalists in the same space that, as you say, there are 40,000 or 

50,000 from angels and angel groups. 

The problem is trying to force an individual to take the risk 

through any kind of government program is tough. I think what is 

needed, and we are looking at, is upstream. What we are doing is 

getting them to a stage that we need, if they are successful, to 

hand them off to somebody else who will provide follow-on financing. 

The New Market Growth Fund we have co-invested with, and I 

think from the one example I have had here, is a successful program and might well merit expansion because when we need to 

find a $2 million investment after our $600,000 investment, if 

those kind of sources are available, that is good for the economy. 

And, again, whether it should be government-backed or whether 

there should be CRA credits or whatever it is, I think you are more 

likely to have the ability to help move the SBIC money than you 

will ever be able to push the angel money. 

But we are trying, and we will continue the dialogue. 

Ms.CLARKE. Mr. Vivian, I wanted to ask you, NASBIC, you heard 

some of the conversation I had with Mr. Hager. And there has to 

be some, you know, unconventional thinking going on right now 

given what we know is going to be a real hardship in the market 

of trying to fund start-ups and assist entrepreneurs. 

Are there any legislative proposals that Congress should consider 

in order to improve the current SBIC program that you have given 

consideration to? 

Mr.VIVIAN. I think that is an excellent question. 

NASBIC worked for over a year, and I chaired the legislative 

committee when we tried to restructure the Participating Securities program. And, you know, there were arguably flaws in the way 

that program was structured. It didn’t mean it didn’t work. And 

this is your world. It is not a world I understand. But in this political climate, it did not appear that there was a lot of broad support 

to push that initiative through. 

Would the initiative have kept the program alive and arguably 

kept licensing and kept seed and early-stage capital going? I believe, as a practitioner, because we did it, yes. So if there is something to consider for the future, perhaps it is a structural change 

to a program that, in my opinion, worked. And it worked well, and 

it drove a lot of capital to small businesses that needed it. 

Just a real quick aside on your question to John as it relates to, 

what can the government do for angels? 

The other place to look is something like tax breaks because 

these angels are wealthy individuals, and if they are looking to—

if you want to spur their investment in a certain area, if give them 

a break for investing however you codify that to invest in seed and 

early-stage companies or seed and early-stage funds or funds of a 

specific size, you can incent people to take the risk. 

26

I am not sure matching dollars incents a wealthy individual to 

take a risk in backing an entrepreneur. 

If you juice their return, that might be a way to do it. 

ChairwomanVELA ́ ZQUEZ. I would like to add to your question to 

him, that is part of the angel investment legislation that I introduced today. And hopefully, Ways and Means will consider. 

Ms.CLARKE. I am finished. 

ChairwomanVELA ́ ZQUEZ. Mr. May, I would like to ask another 

question. 

You talk of a need for education on line infrastructure and other 

frameworks to support angel groups and develop angel networks. 

This is this type of support needed at the Federal level? 

Mr.MAY. I am not sure—I know for sure it is needed at the local 

and the State level. I don’t know, and I would have to look at your 

legislation and talk to you and your staff as to what mechanism 

you think administratively this legislation would penetrate to get 

to us, but what I know is that communities that have had successful educational seminars and other activities have then tended to 

get more activity. What I am amazed about in the United States 

is that there are 4 to 6 million millionaires; there are only 250,000 

to 300,000 practicing angels by any of the research that we have 

done, about 5 percent. And there are only 5 percent of those that 

are practicing in groups that have a Web site, that meet monthly. 

So it is not as if everybody is doing it. 

So we need a lot of help, and we are working on this personally. 

The academics are helping us with some of the research, but maybe 

there is something we can do together because there are a lot of 

people that have the capacity; they have the will. 

ChairwomanVELA ́ ZQUEZ. Would you like to add, Dr. Lerner? 

Mr.LERNER. I think there is a need for a great deal of education 

on both sides. I think that this certainly is one of the barriers, is 

that I frequently will encounter people who are very enthusiastic 

and very passionate about their entrepreneurship dream, which is 

great, but in many senses, there are a lot of landmines along the 

road to entrepreneurial success. 

And, you know, while certainly some things you have to learn by 

doing, there are other things that can be taught and sort of understanding, you know, how you go about the process of structuring 

a deal or how you look at people who are potentially giving money 

and trying to figure out whether they are serious or not. There is 

a lot that could be done. 

And, again, I am not sure what the right level or the right place 

is for it, but I think it could certainly very much boost the entrepreneur success rate. 

There have been a lot of academic studies that suggest that one 

of the main barriers to minority entrepreneurship has been the fact 

that people didn’t grow up in families where a father or a mother 

were an entrepreneur already, and somehow it seems that when 

you grow up in that sort of family environment, you absorb a lot 

of these lessons, sort of, you know, sort of automatically. And it 

seems that education can play a really important role in overcoming some of the gaps and trying to make people in a position 

to be more effective entrepreneurs. 

27

ChairwomanVELA ́ ZQUEZ. Mr. May, why does angel investing have 

the capacity to generate investment in regions where there are not 

currently large numbers of venture capitalists? 

Mr.MAY. The statistics about where professional investors are located, are just staggering. The National Association of Seed Venture Funds found that 26 States had zero or only one venture capital investment in their State last year; 77 percent of institutional 

venture capital over the last 10 years went to 23 States. 

So it is true, you can’t force the money in there. But it is true 

that, if we could find ways through the angel programs and 

through maybe some of these educational programs—I am finding 

that in Lexington, Kentucky; Kalamazoo, Michigan; Milwaukee—

there is a lot of interest in keeping their people home, transfer 

from their universities. A lot of people are realizing, not everybody 

can go to Silicon Valley and Boston. 

So one of our efforts is try to have a lot of educational seminars 

and work in helping people to understand how to do it in their 

backyard and not to feel inferior because they are not at MIT. 

ChairwomanVELA ́ ZQUEZ. Dr. Lerner, you spoke about the program in Israel as an example of a successful government venture 

capital program. 

Could you talk about—could this program be duplicated in the 

United States, and if so, what characteristics of this program were 

most important to its success? 

Mr.LERNER. Well, I think that, in many senses, it does provide 

a model that we could think about for trying to encourage venture 

activity in a variety of regions as well as in a variety of industries 

which are under-served. And in particular, the crucial elements 

were, first, that it relied on matching funds, so there was no 

amount of having to get funds from the outside. But they also 

structured in a way that made it very attractive, which is that not 

only did the government put in some money, a dollar to match the 

private money, but they then limited how much money the government could make as a return. 

So they had this feature where the government’s stake could be 

bought out once you got to a return of somewhere around 15 percent. 

So, in other words, if you had a big winner. You would just simply go and buy out the government’s half of it. The government 

would make a nice return, which is, you will get us money back 

for 15 percent. 

But the view of the people in the Israeli government was saying 

we are going to win in any case. If we get successful companies, 

these are people who are going to be employing people, who are 

going to be paying taxes and many other things. We don’t need to 

make sure that we get some huge—

ChairwomanVELA ́ ZQUEZ. That is the type of mentality that is 

lacking sometimes in our government. 

Mr.LERNER. Certainly the idea of having multiple metrics and 

looking at having broader social returns is an important aspect. 

ChairwomanVELA ́ ZQUEZ. Any members of the panel would like to 

add anything else? 

Mr.VIVIAN. That sounds an awful lot like the Participating Securities program. 

28

ChairwomanVELA ́ ZQUEZ. Exactly. 

Well, here we are. 

It has been quite an insightful and very interesting hearing. 

Definitely we are going to move forward with legislation that will 

try to address some of the concerns that have been raised here this 

morning. 

So members have 5 legislative days to enter a statement or other 

materials into the hearing record. 

And with that, the hearing is adjourned. 

Thank you. 

[Whereupon, at 4:25 p.m., the committee was adjourned.]

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