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	Clockwise from top left: Cromwell, Stevenson, Kyriopoulos and Kline.

Roundtable Participants

• Eric Cromwell, Tennessee Technology Development Corp.
• Glenn Kline, Battelle Ventures
• Chris Kyriopoulos, Clayton Associates
• Gary Stevenson, MB Venture Partners

BTN - Gentlemen, thanks for finding the time to join our discussion. Let's start with the big question: Why isn't there a $1 billion venture capital or private equity firm in Tennessee?

Gary Stevenson - There are opportunities for investment in health care and other areas in the Southeast. There are sources of capital throughout the United States, such as endowment plans, pension plans and others. Within the state of Tennessee, the pool is considerably shallower. We're talking about state funds, state pension plans, endowment plans at major universities directed toward private equity asset class. Tennessee, by comparison to other states, seems less directed toward private equity as an asset class, so raising money from within state sources, the way the University of Texas is active in its private equity investments, makes raising money even from outside the state more challenging.

Chris Kyriopoulos - I'm glad you asked the question because to me it's one of the challenges that I would like to see the private equity community within the state address over the next 10 to 15 years. There is no reason there cannot be a $1 billion fund here. The deal flow is strong - there are a lot of great companies, talented management teams and thriving opportunities. The state economically has much going for it: It's a good location, and the cities provide a high quality of life. So we see good companies getting funded by out-of-state private equity and venture capital firms, and we participate in many of those deals, but to a smaller extent than our larger counterpart co-investors from out of state. One of our challenges is trying to attract more out-of-state capital to Tennessee-based private equity firms. We need to get them past whatever bias they may have in favor of Northeast and West Coast firms. We've got to prove to them that we are capable of being proper stewards of their capital.

BTN - Why will it take 10 to 15 years?

That's not the kind of goal you can achieve overnight. It's probably going to take one or two firms to gradually escalate their fund sizes until at some point someone can raise a billion-dollar firm that's managed within the state.

Stevenson - The metric of where the fund is located is probably a somewhat worthwhile metric to be concerned about. But really, isn't the more important metric what capital actually gets invested in our state? At least from an economic development perspective - I'm speaking for Eric to a certain extent on this - it's not the size of the fund that's in the state, it's how much gets invested into startup companies here.

Glenn Kline - I absolutely agree. We don't have a very robust market from institutional investors in the state itself. Your question has multiple facets. One, how do we start to break through, getting more people involved in investment in this particular type of asset class? And to Chris' point, a billion-dollar fund is not going suddenly to appear. If you look across the country at the funds that cross over into that size of assets under management, it is a successive growth. Another point - there have been some innovative means by which states have bridged that gap, such as the tax credits that South Carolina implemented to try to facilitate more activity in this asset class. I'd like to see more support there. It behooves us all to mobilize some of that interest.

BTN - Eric, you've been in government. What do you think needs to happen?

Eric Cromwell - The comments have been right on thus far. The venture community in Tennessee could make a list of three to five top requests or policies that would result in an increased fund size. It's a good thing to do. I don't know if our end goal is to get a billion-dollar fund in Tennessee, but I do know that when the fund size reaches a certain threshold, the strategy changes. And the funds are then better positioned to do things at an earlier stage and make more follow-on investments, which, for the most part, don't happen in the state's venture community today.

BTN - Do you see any consolidation among smaller private equity and venture capital firms?

Cromwell - From what I see around the state, there may not be a need for consolidation, though there are two gaps that are quite apparent. First, where are the funds coming from in that very early component, the pre-seed transaction? Where are the funds coming from that actually fuel discovery and the applied discovery development phase? The second large gap is with the seed-to-growth mode, preparing some deal flow for later-stage venture firms that are looking to do transactions in the state of Tennessee. So at TTDC, we are looking to see if the private sector is going to fill those gaps, and if there is a government or quasi-government solution to help the private sector do more.

BTN - Talking about the big picture, where does one get money in 2008?

Kyriopoulos - Good companies, good business plans were funded back in 1999-2000. In 2008, we expect to find good companies in which to invest. It might be a lighter year, but that just says that competition for the capital is tougher. When we invest in a company, we expect to hold that position for three to seven years. We are always looking for the next great investment. I would say that's true of most venture capital firms. You're going to have years when you deploy more capital, and years when you deploy less. Psychologically, it's easier to fall into the trap of not being as eager to put in money if you're worried about the economy at large or problems with an existing portfolio. But, practically speaking, we are always looking to put money to work.

Cromwell - Are you talking about all investment stages, including very early pre-revenue stage, or the full spectrum?

Kyriopoulos - We do very few pre-revenue, startup investments. It's harder to find a venture firm that's willing to take pre-revenue risk. That gap in funding is always going to be a problem. We're looking for the guys that have gone through that difficult stage of getting a company off the ground. In a given fund, we don't want to have more than 15 companies to keep up with, so we find that investing in seed-stage companies and startup companies requires more attention and time from us. I'd be interested in hearing what Gary has to say about it.

Stevenson - Most venture funds look at geography, industry and stage, and we are broadest with respect to stage. We are slightly narrower with respect to geography - we like the Southeast and the Midwest. We are even narrower with respect to industry - we only invest in medical device and biotech companies. At the moment, we're trying to close three deals in which we'll be the first money in. I'm not talking about the first institutional money, although we are going in with other investors. And there's another case where we'll be the first U.S.-based money in. It's a company in the musculoskeletal niche looking for U.S. headquarters - it will be here in Memphis. More often than not, we invest in something that is pre-revenue. Of the 14 companies we've invested in, only two had revenues when we invested. The point that Eric made about having a shortage of capital at two ends is relevant when you're speaking broadly, but in our niche we're willing to make those early-stage investments.

BTN - Glenn, your fund is different. Are there any changes in your business?

Kline - We have a little of what Gary and Chris have. We do multi-stage investment, and as Gary mentioned we find ourselves being the first money in on a couple of deals. About half of our portfolio is very early stage, pre-revenue, and the other half are later-stage transactions. Our portfolio is geographically diverse. With my being here, we've increased activity in Tennessee. Unfortunately, we haven't ventured too far West yet with our energy focus.

BTN - It's good to hear about the increase of your activity in East Tennessee. But people have said it's hard to spin off technology companies in Oak Ridge. Do you see any changes there?

Kline - Protein Discovery spun out technology from ORNL. They're doing really well. I am involved in a number of clean-tech activities. To me, early-stage companies are difficult no matter how you slice them. That's what I was doing in North Carolina before I came here - working on commercialization of intellectual property out of research institutions. It's a full-contact sport, and it takes a lot of effort. For example, the company we just invested in, Aldis, is the fourth venture this management team has invested in. It's an energy-efficiency play.

BTN - Let's hear some bold predictions. How many IPOs do you expect in Tennessee, and who will be bought this year?

Kline - It'll be great news, but saying more might be treading on insider information.

Stevenson - I think biotech activity is going to be more robust in the next two years than it has been in the last two. The market is going to be too volatile to support IPOs in the next two-to-four years.

Kyriopoulos - One of our companies, MedAssets of Georgia, went public last month, and we're pleased to see that it's traded up since its IPO. We've got a privately held company here in Nashville that is certainly big enough to get public and would consider an IPO in late 2008 as one of many exit alternatives. It's very hard to predict what the IPO market will look like for the year. For most of our companies, a more likely exit is a sale to a strategic or a financial buyer.

BTN - Are there pressing legislative issues you'd like to see addressed in the state and nationally?

Kyriopoulos - I don't know if the Tennessee legislature would consider it a pressing issue, but we'd like to see the state amend its employee retirement fund to allow investments in alternative asset classes, including private equity funds.

BTN - What would it take?

Kyriopoulos - The state legislature needs to be better educated about the nature of this asset class and about the fact that it's not as risky as one might assume. Usually, less than 10% is allocated, within which the funds are pretty strongly and widely diversified.

Stevenson - It's important for the funds to hold up their end of the bargain. We need to perform. And if the performance is there, one only has to look at Vanderbilt as an endowment plan that is very active and with a large portion committed to the alternative asset/private equity category. The university has said that the exposure to private equity is the primary reason why that endowment has performed as well as it has over the last 20 years, in many cases outperforming its peers. We have right here in our state a very good model, a very successful one, but there are still several large pools of capital at the state and county level that are not investing in this category. One of our largest investors is a local county pension plan, but the state's pension plan in not open to that category. And there are other pools of capital that should be considering alternative assets, as well. They'd want to measure against the track record that Vanderbilt has established.

Cromwell - I agree that the primary motivation to potentially open up the pension fund would be the return on investment back to the stakeholders, but, as we all know, economic development does work its way into that discussion. Certainly, we have an issue with the lack of capital in the state, and my partners and I at the TTDC are not willing to stand by and do nothing to try to alleviate these inefficiencies. Tennessee has a very small percentage of very early startup funding - seed-state transactions that come from the venture capital community - and that's okay. But if they're not going to fund the very early stage - and I'm thrilled when Gary and others say they'll go early - but if only a few deals are done by the venture community in that space, we need to come together and figure out how to alleviate that inefficiency before entrepreneurs get frustrated and leave the state.

Stevenson - It's really important that we coordinate our efforts in that regard. The three companies in which we invested in the state of Tennessee - Protein Discovery in Knoxville, BioMimetic in Nashville and GTx in Memphis - have raised $400 million in capital, the vast majority of which has come from outside the state. No matter how much money the state wants to commit to venture capital, it will never be enough to really grow a business quite like importing venture capital from outside the state. So we want more companies like these three. Out of the $400 million that they've raised collectively, 10 cents on the dollar were raised within our state. If, for every 10 cents, we raise 90 cents from outside the state to fuel the growth of these companies, it will make a meaningful difference. Now those companies are valued at $870 million, and they have 220 employees. That's a significant economic development impact.

Kyriopoulos - In Nashville, for instance, a startup in the hospital industry can almost overnight be a $1 billion company with thousands of employees. We've participated in a couple of financings where we were a small player - financings led by New York LBO firms - and almost overnight significant companies were created. So I would definitely echo Gary's comments about the money that has been attracted to the state from outside firms.

Kline - I think the companies in which we've invested in Tennessee are too early to have the metrics that Gary and Chris are talking about, but we're starting to get a lot of interest from relatively large out-of-state funds. I would certainly like to see more opportunities to collaborate. We've talked about moving the Tennessee Venture Forum to central Tennessee, which would be a great platform for us to pull people from in and around Tennessee and to bring their best companies forward. Having Tennessee as the hub would be an attractive next step. Gary gets great attendance at the conference they put on. Those kinds of things can raise our profile and would bode well as we build our reputation as a positive place to do business.

BTN - Many thanks for your comments.

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