Overlooked Midwest beckons tech investors
Rationale for investing combines cost and opportunity, compared to Silicon Valley
COLUMBUS, Ohio — They seem an odd couple: J.D. Vance, author of Hillbilly Elegy, his bestselling memoir of growing up in the postindustrial Midwest and his journey of escape; and Steve Case, the billionaire co-founder of America Online.
Vance joined Case’s investment firm this year to scour the Midwest for small yet promising startups, particularly for a new seed fund. The firm, Revolution, plans to raise up to $100 million for that fund’s investments, it disclosed in a filing last month with the Securities and Exchange Commission.
They are by no means the only notable investors seeking opportunity in the region. Four years ago, Mark Kvamme, a top venture capitalist in Silicon Valley, left the heart of the tech industry to become a tech investor here in the Midwest heartland.
After a slow start, his firm has raised $550 million and invested in 26 companies. Its bet is that the middle of America amounts to an undervalued asset, rich in markets, new business ideas and budding entrepreneurs. The Midwest, the thinking goes, is not only untapped, but also an antidote to the scalding-hot tech market on the West Coast.
The money, power and influence of tech companies on the West Coast have reached new heights. Apple, Alphabet, Microsoft and Amazon are now the four most valuable companies in the country.
Venture capital, the financial fuel for companies, is also concentrated on the coast. More than 50 percent of all venture capital money spent in the United States goes to companies in California alone, according to the National Venture Capital Association.
But some investors, led by people like Kvamme and his firm, Drive Capital, see plenty of potential in the center of the country. Focusing on the Midwest is no longer considered a nutty idea, as it was by skeptical West Coast venture capitalists when Kvamme and Chris Olsen, another Silicon Valley transplant from Sequoia Capital and co-founder of Drive Capital, made the move in 2013.
Every major Midwestern city now has clusters of startup accelerators and incubators, typically housed in renovated red-brick industrial buildings.
And a couple of big bets have been successful: CoverMyMeds, an Ohio startup, whose software streamlines drug prescribing, was sold to McKesson this year for $1.1 billion, and Salesforce bought ExactTarget, a maker of marketing software in Indiana, for $2.5 billion in 2013.
Deals like those are still rare. But local entrepreneurs and big investors are scouting the Midwest for startup investments that range up to tens of millions of dollars, far more than local angel and venture investors. And they are beginning to attract venture capital from Silicon Valley for follow-on rounds of funding.
The rationale for investing in the Midwest combines cost and opportunity. A top-flight software engineer who is paid $100,000 a year in the Midwest might well command $200,000 or more in the Bay Area. The Midwest, the optimists say, also has ample tech talent, with excellent engineers coming out of major state and private universities in the region.
But they also point to technology shifts. As technology transforms nontech industries like health care, agriculture, transportation, finance and manufacturing, the Midwest investors argue that being close to customers will be more important than being close to the wellspring of technology.
“The value will come from marrying industry knowledge with technology,” said Olsen of Drive Capital. “There’s an arrogance in Silicon Valley that we don’t need industry expertise. That’s going to be less and less true in the future.”
But broadening the geography of innovation-fueled economic growth will require capital. Today, three-quarters of all venture capital invested in America goes to California, New York and Massachusetts, the National Venture Capital Association estimated. Ohio gets less than 1 percent and the 12-state Midwest region less than 10 percent in total, according to figures compiled by the State Science and Technology Institute.
“There are two Americas,” Case said. “One with an abundance of capital and opportunity — in Silicon Valley and pockets around the nation. But not in the other America, and that other America is most of the country.”
The Kauffman Foundation, which studies startup activity, reported last month that Columbus ranked third among 40 metropolitan areas in “growth entrepreneurship,” the share of startups that employ 50 or more workers.
CrossChx, a 5-year-old startup with a payroll of 80 people, is one of them. The company, which makes health care software, has raised $35 million of venture funding in three rounds. Drive Capital spotted the company, led the early financing and has since been joined by Bay Area investors.
In Ohio, that $35 million is the equivalent of $70 million in the Valley in terms of being able to hire talent and sustain operating costs, said Sean Lane, CrossChx’s co-founder and chief executive.
“I’m not sure we would have made it through the zigs and zags if we were in the Valley,” Lane said.