A Bay Area VC Sees Some Missing Ingredients in San Diego’s Innovation Community
As we saw in the venture activity surveys that came in last week, the capital deployed by VC firms in startups developing innovative technologies has been returning to pre-recession levels in key technology hubs throughout the United States.
In San Diego, however, venture funding has taken a decided turn for the life sciences. Of the 29 startups that got a total of $198.2 million in San Diego during the second quarter, all but five of the deals were life sciences deals, according to the MoneyTree Report. At least $193.1 million, or more than 97 percent, went into San Diego life sciences deals during the recent quarter. But it’s not that the life sciences startups have been claiming more than their share of VC dollars—it’s that they account for a proportionally larger slice of an ever-shrinking pie. Even a moving average that smooths quarter-to-quarter fluctuations reveals that overall venture funding levels in San Diego have plunged by roughly half over the past three years.
So the timing could not have been much better when I got an opportunity to sit down with Sumeet Jain, a principal at the San Francisco venture firm CMEA Capital, where he focuses on deals in software, consumer Internet, digital media, and mobile. Jain, who visits San Diego about once a quarter, says he met recently with leaders of San Diego’s innovation community “to see what can we do to facilitate the capital flow in this region.”
CMEA Capital has considerable resources. The firm has total invested capital of more than $1.2 billion, and specializes in deals in three general sectors of innovation: life sciences, information technology, and energy and materials. In the Bay Area, CMEA deals include San Mateo, CA-based CafePress, Bayhill Therapeutics in Palo Alto, and CNano, which is based in San Francisco and Beijing, China. In San Diego, CMEA has invested in Kalypsys and Intellikine, a couple of San Diego’s most-prominent life sciences startups; materials innovator Wildcat Discovery Technologies; and Entropic Communications, (NASDAQ: ENTR), a semiconductor design company that specializes in cable set-top boxes and related home entertainment technologies.
“We’ll look anywhere for deals, and Southern California is relatively less harvested,” Jain says. “Unfortunately, a lot of the venture firms that have been active in Southern California are no longer active down here.”
So what’s missing with the innovation community in San Diego?
“One of the things you need for innovation to thrive is a good path for failure to survive,” Jain says. In contrast to San Diego, the Bay Area has what he calls “a very liquid environment if you fail.” It’s largely due to what Jain calls the Bay Area’s “startup infrastructure,” a bigger and more concentrated community of entrepreneurs, startup CEOs, and VC partners who have worked together before and are willing to come together again, even if a previous collaboration cratered.
Another contrast he sees is in the way startups get formed. “In the Bay Area, there’s a pretty standard model,” Jain says. “People work on an idea for a little bit, and then look for money.” If you don’t reach an outcome, Jain says that’s still OK. In San Diego, the process is more speculative. “There’s no expectation that there will be venture dollars, and that has become part of the mindset here,” Jain says. “So there’s more of a focus on the business, and bootstrapping the company.” That’s fine, he adds, but it’s harder to grow fast—to focus on building a company with the capability to quickly expand to a global scale.
“I would think that it would be less expensive to form a company here [in San Diego],” Jain says. “But it’s more of a challenge to find talent.”
In fact, Jain says that identifying and recruiting a talented startup team may be the only area of real differentiation between San Diego and the Bay Area.
Starting an IT company, Jain says, “has become a little more democratic, in terms of building a product that can be successful. Look at Rovio,” he says, referring to Rovio Mobile of Espoo, Finland. “Nobody heard of them before ‘Angry Birds.’” But the IT business has become virtualized, so “a company’s location might be relevant in terms of creating partnerships, but you don’t have to be knocking on IBM’s door every day. The markets and channels are very open.”
So if IT startups generally have equal access to the same Web-based resources, to the best data centers, and online infrastructure, Jain says it becomes increasingly important to have extremely “high value” team members.
“There isn’t as much capital here [in San Diego],” Jain says, “but there still are a lot of talented people. What would help if there was a better way to curate the companies and entrepreneurs to screen out the bottom half or the bottom quartile of the startups. It’s not my goal to see everything. My goal is just to invest, and screening companies is not a good use of my time.”
In this respect, Jain indicated that the evaporation of San Diego’s homegrown venture capital firms has created a need among the out-of-town VCs that’s not really being filled. “It’s always helpful to facilitate that [curating] process if the selectors’ interests are aligned,” he says, “so they are investors themselves.”
In the Bay Area, Jain says a variety of credible groups and organizations help to distill the universe of startups for VCs. For example, he says the investment banking firm Montgomery and Co. organizes a couple of industry conferences each year, and the companies selected to make presentations are the companies the firm is interested in working with as investment banking advisors.