ALBUQUERQUE, N.M. — After the Great Recession pummeled the economy in 2008-2009, venture investment in New Mexico ground to a near halt as struggling venture-backed startups crashed and burned and investors hunkered down to await better times.
Today, the economy is taking a far worse beating from COVID-19 than it did in the recession. But this time, state officials and investors say New Mexico’s venture investment ecosystem is far more mature and stable than during the recession, making a repeat of the 2008 meltdown highly unlikely.
That’s because the State Investment Council, which supports that ecosystem through investments in venture funds that pump money into local startups, is on much sounder financial footing to sustain its private equity investment program through the crisis and beyond.
Private investors have also pumped a lot more money into a diversified range of companies in recent years, helping to build a solid foundation of stable startups at all levels of growth. That includes dozens of early-stage startups, mid-level companies with a budding customer base and revenue, and more-advanced businesses that have raised tens of millions in venture capital and are now poised for breakout success.
In addition, New Mexico is now home to a flourishing entrepreneurial support system of business accelerators, incubators and programs that can help many startups take the steps needed to survive the pandemic.
“All the hard work that we’ve done over the last eight to 10 years is really paying off,” said Brian Birk, managing partner of Sun Mountain Capital in Santa Fe. “We now have much more mature, financially sound and generally stable companies in our portfolio than 10 years ago. That includes large companies with the wherewithal and customer base to survive the system shock they’re experiencing today.”
To be sure, many venture-backed startups are suffering like most businesses impacted by the coronavirus, and some will fail, said Tom Stephenson, managing partner of the Albuquerque-based Verge Fund. But New Mexico’s startup venture community won’t “fall off the cliff” like it did in 2008.
“Failure rates among startups in general is pretty high, and with the economic downturn we’re facing now, clearly we’ll see a number of companies go under during the crisis,” Stephenson said. “… But those that can survive we’ll be much stronger and positioned for growth and success in the future.”
One key difference between 2008 and today is the overall stability in New Mexico’s permanent funds achieved by the State Investment Council over the past decade, plus concerted SIC efforts since 2014 to shore up its private equity program.
The SIC manages the state’s permanent funds, the two largest of which are the Land Grant Permanent Fund and the Severance Tax Permanent Fund. Oil and gas royalties and related taxes feed those funds, plus earnings from investments the SIC makes with that money.
The council is allowed by statute to invest up to 9% of the Severance Tax Permanent Fund into venture capital activity, including investments in private funds that commit money to local startups, plus direct investments in New Mexico businesses through a co-investment fund managed by Sun Mountain Capital.
The SIC launched its private equity program in 1993 to help build a venture capital ecosystem in New Mexico by attracting out-of-state firms to invest here after receiving SIC money, and by also encouraging local venture capitalists to set up New Mexico-based funds with SIC support.
As a result, by the mid-2000s, about 15 venture funds were actively investing in local startups alongside the Sun Mountain-managed co-investment fund, which pumped more money directly into companies. That pushed total venture investment to record highs of about $120 million per year in both 2007 and 2008.
When the recession hit, the value of the Severance Tax Permanent Fund plummeted, pushing the SIC’s private equity commitments up to the 9% statutory cap and forcing it to cut off any new money for the program.
With startups crumbling in the recession, investors racked up losses. Annual investments tumbled to just $22 million by 2009, and more than half the venture firms operating here went away.
The SIC’s private equity spigot remained shut for nearly five years, even after the severance fund recovered its losses, because council members were wary of jumping back in. It waited until 2014 to pump new money into the program again, and it’s moved cautiously since then, restricting total investments to just 5% of the severance fund rather than the 9% statutory cap.
The council has also spent the last decade diversifying all permanent fund investments away from over dependence on stocks and bonds – which exposed the funds to huge losses during the recession – and into more stable investments like real estate to protect state money against market ups and downs.
That’s helped buffer losses from coronavirus-induced market volatility. At the end of March, the Severance Tax Permanent Fund remained at about $5 billion, down only about 9% from $5.5 billion in late 2019, despite huge declines on global stock markets.
That makes it highly unlikely the private equity program would bump up against the 9% statutory cap as happened in the last recession, said council member Harold Lavender.
“You can’t ever eradicate losses, but we’ve positioned ourselves well for the market downturn,” Lavender said. “We won’t face the situation we had in 2008-2010 when we had to stop private equity investments.”
A lot more venture funds are now operating in the state again with SIC support. The council approved $82 million for seven out-of-state venture funds from 2014-2019, all of which are now actively investing in local startups. It also approved $105 million in new money for the Sun Mountain-managed co-investment fund since 2016, increasing it to about $200 million now. And it set up a $20 million catalyst fund, or “fund of funds,” which has invested in six new micro funds across the state that are, in turn, pumping money into early-stage startups.
As a result, total venture investment reached a record $302 million in New Mexico last year – more than twice the level reached before the recession in 2008 – with 29 different companies receiving funding, according to the National Venture Capital Association.
That includes some huge investments for rapidly growing startups, such as $158 million for the Meow Wolf artist collaborative, $20 million for data analytics firm Descartes Labs, and $12 million for semiconductor chip maker 3D Glass Solutions.
Making ‘wiggle room’
Given the local startup ecosystem’s new-found strength, the SIC decided in November to raise its long-term private equity investment target from 5% to 9%. In addition, the state Legislature agreed this year to raise the statutory cap to 11%, providing more cash, or dry powder, that the SIC can tap for venture funding if it chooses, said SIC spokesman Charles Wollmann.
In fact, the SIC dug into some of that money last month, when it approved $100 million for a New Mexico Recovery Fund to make short-term loans to local businesses struggling to stay afloat during the pandemic.
“As of the end of March, SIC private equity commitments totaled about 7.5% of the Severance Tax Permanent Fund, so there’s still some wiggle room for the council to play with if it chooses,” Wollmann said. “There’s still enough dry powder available for up to $100 million that the council could deploy.”
Focus on survival
In the meantime, early-stage startups seeking first-time funding may face difficulties, since most venture firms will wait until the coronavirus dust clears before considering new investments, said Cottonwood Technology Funds
Managing Partner David Blivin. But companies that have already raised money could likely win follow-on funding from their venture backers during the crisis if needed.
Many new companies could also benefit from emergency government programs like the federal Paycheck Protection Program, Blivin said.
In the long run, damage to startups will depend on how long the pandemic lasts, said Gavin Christensen, managing partner for the Utah-based Kickstart Fund, which has invested in five New Mexico companies.
“We have a lot of gritty entrepreneurs out there who are used to challenges, and I’m optimistic they’ll pull through,” Christensen said. “But I’m very realistic that the crisis and recovery could easily stretch for many months, even years. Right now, it’s all about surviving the crisis.”