NCPA - National Center for Policy Analysis

High-Tech Economic Development Subsidies: Guaranteed Profits

May 2, 2001

States which have more or less been pushed aside in the race to lure high-tech companies to relocate are offering venture capital firms a new inducement: guaranteed profits.

Arkansas has already adopted its plan and North Carolina, Idaho and Arizona are considering similar programs. The plans are modeled after a program adopted in Oklahoma in 1993 that has attracted technology venture capital.

Here's how the Oklahoma model works:

  • The state gets a loan from institutional investors -- such as commercial banks -- which are guaranteed a return of about 8 percent.
  • That money is then invested with private venture capitalists who pool it with private funding they raise, using the pot of money to help promising companies get off the ground.
  • The state, in turn, gets a share of the profits from the investments made by venture capitalists and uses it to pay the banks.
  • If investment earnings fall short of the 8 percent owed the banks, the state makes up the difference with tax credits -- while income above that is reinvested.

So far, Oklahoma's venture capital fund has realized a return of about 28 percent, though critics warn that in harder economic times, the state may end up with millions of dollars in losses.

Other states, like Colorado and Ohio, are adopting initiatives to encourage capital formation -- ranging from dollar-for-dollar tax breaks for insurance firms that invest in local venture funding to straight-out grants to venture firms to help states leverage private investment. In February, Pennsylvania Gov. Tom Ridge (R) proposed using $60 million of that state's tobacco settlement as venture capital for biotech firms.

The idea is to attract some of the funds which have traditionally gone to California, Massachusetts and Texas -- the three of which sucked up more than 60 percent of the nation's venture capital, or about $22 billion in 1999, according to figures from the National Governors' Association.

Source: Robert Gavin, "States Rev Up to Lure Tech Money," Wall Street Journal, May 2, 2001.

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