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Backing home again: CID changes out-of-state course, invests $50M in Indiana

October 10, 2005

Indiana's flagship venture capital firm has changed direction.

Often criticized for not investing frequently enough within state lines, CID Equity Partners over the last five years has quietly put nearly $50 million to work in 10 Indiana companies. In the decade before, CID invested in just a half-dozen local deals.

And after struggling to weather the 2001 recession, CID's managers believe the wind is finally at their back. Three years ago, massive losses threatened to sink the firm. Since then, it has concentrated on less-volatile investments. While it still does deals across the Midwest, a larger proportion of them are here, often in manufacturing.

CID built its latest local portfolio mainly with Old Economy mainstays, complimented by a few New Economy upstarts. And while it's too soon to evaluate its post-recession investments, CID managers say they've built the foundation for improved performance.

"Frankly, it's a better environment for us," said co-managing director John Aplin. "We're spending time in Indiana and have more prospects here. We think there are better opportunities in Indiana than there ever have been."

Venture history

Formed in 1981, CID was Indiana's first venture capital company. Originally known as the Corporation for Innovation and Development, it was part of then-Lt. Gov. John Mutz's plan to modernize Indiana's rustbelt economy.

With the help of a 30-percent tax credit, CID raised $10.4 million for its first fund. CID put the money to work in 20 companies, all inside state lines. Investors were thrilled with the returns, $42.7 million in total. In 1988, CID's next fund, which needed no tax credit, transformed $27.3 million into $68.3 million.

With that kind of success under its belt, CID raised hundreds of millions through the 1990s to fuel even more investments. It soon began looking far beyond Indiana's borders for prospects. During that time, just a handful of Indiana companies earned CID's support.

Fellow venture capitalists don't fault CID for charting new waters. Their business is based on deal flow.

"With limited dollars, you take the cream of the crop," said Jean Wojtowicz, president of Cambridge Capital Management. "And if the cream of the crop comes from other places, that's where you invest your dollars."

But that crop didn't ripen as expected. And when the recession hit, it wilted. Investors were furious about CID's next group of funds. In September 2002, IBJ reported that these funds not only didn't provide the spectacular returns expected-they lost millions.

CID still blames a change in market conditions. When the Internet bubble burst, co-managing partner Kevin Sheehan said, there was no way to exit speculative investments. Venture capitalists typically rely on initial public offerings or sales to cash out of the companies they invest in.

"When the stock market collapsed, we went through two or three years of very few positive exits," Sheehan said.

"There's no question there were challenges," added Aplin.

claim to have invested as much recently in Indiana, Sheehan said.

"Fifty million from one firm in one state, that's a lot of money," he said.

Some of CID's local investments are in high-tech firms. Perhaps the most notable example in recent years has been in West Lafayette-based cancer therapy startup Endocyte Inc., one of the state's fastestgrowing new life science companies. In 2003, CID led a syndicate that invested $15 million.

Endocyte CEO Ron Ellis credits CID as much for its expertise as its money. He said the venture firm's advice on manag-Turning the ship around

In recent years, CID has returned its attention to the Indiana market, putting $49.4 million to work. Aplin and Sheehan say they were attracted by increased local deal flow.

They say economic development efforts of the state's research universities; the emergence of the BioCrossroads initiative and the state's 21st Century Research and Technology Fund; and the formation of multiple business incubators all contributed to a more robust business environment.

Few, if any, other venture firms can ing growth has proved invaluable.

"I think very highly of John Aplin. He's really a first-class individual," Ellis said. "There are times in your career when you have difficult issues and there are just a few people you think you should call. In my case, John is one of the first people I'd call."

Old Economy emphasis

But CID's deals aren't always about innovation anymore. Often, it provides mezzanine debt-bridge loans that traditional banks won't provide-to longestablished businesses. That's a safer path to profits than speculating on new technologies.

"Leveraged recapitalizations of mature, established businesses can be an excellent way to make money," said Bob Compton, a CID general partner from 1988 to 1996.

Bloomington-based Victor Oolitic Stone Co. is a good example. Founded in 1898, the company has been managed by the same family for four generations. Its primary business is providing slabs of Indiana limestone to the construction market.

Victor Oolitic CEO John L. Edgeworth said CID bought out some family members and recapitalized the company.

"Relatively speaking, to a startup, we've been around for a long time," Edgeworth said. "Any business has its risks. We have ours. We are a far more stable business than you might think of in association with a venture capitalist. But often, they can come into a more mature and stable company and play a role."

Fishers-based Harmony Foods Inc. is another example. Harmony's CEO George Pappas said the company was formed in California in 1978 by a group of surfers who wanted to sell healthy trail-mix type snacks to their peers on the beach. A few years later, a Hoosier native happened upon their business while traveling and became its Indiana distributor under the name Golden Stream Quality Foods.

Both companies grew in their separate markets for the next 20 years. CID's several investments helped Pappas acquire and combine the two firms. Once again, CID's bet wasn't on innovation. It was about capturing market share and efficiency by restructuring ownership of a longstanding business.

"There's a segment of business I call just blocking and tackling," Pappas said. "It's not life science or high tech. It's everyday manufacturing. You don't have to wait for the next software design to come out."

CID's concentration on these sorts of Old Economy companies has been deliberate, Aplin said. Making money in the venture industry doesn't always have to be about building startups.

"The engines for growth are not only early-stage life science and information technology, but additions and expansion, taking existing companies to a hundred employees and more," Aplin said.

Future focus

Today, CID remains the state's largest venture capital firm, with $321 million under management. But it already has invested all but $50 million of that. Eventually, it will have to return to investors to raise more money. And CID can no longer float on the reputation it earned half a generation ago.

Fortunately for CID, it may not have to.

"Based on the portfolio I see in the seed fund and the quality of the mezzanine investments, I think they would have a good chance of going to the market with a favorable reception," said Mutz, who remains a CID board member. "I do believe they've made a comeback."

Investors should be willing to look past CID's recession-related woes, said Mark Heesen, president of the Arlington, Va.-based National Venture Capital Association-as long as they see promise in CID's more recent activity.

"You have to look at this as a very long-term business," he said. "Institutional investors who have been in this 10, 20, 30 years understand that not every fund is going to give you incredible returns. If you take a day trading view and try to get out, you may miss the gain.

"But you also have to be very cognizant and look at why that fund didn't do well," Heesen continued. "It's one thing if it was the economy that helped bring that fund down. But if it was reasons internal to the firm, that's different."

CID won't say when it expects to raise its next fund. But it already is planning for the future. Sheehan and Aplin have been grooming a group of younger partners to eventually take their place. They include Scot Swenberg, Steve Cobb and Eric Bruun.

"Our sense is venture capital is an apprenticable trade," Sheehan said. "The schools don't teach it."

Longtime local venture capitalist Tom Hiatt, co-managing director of Centerfield Capital Partners, expects CID's succession plans to pay off.

"I think they've recruited a crackerjack team of very smart and capable people," Hiatt said. "I'm quite confident they'll continue to be a strong presence in this marketplace for years to come."
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