cle-based startups are attracting venture capital in record amounts

Mark Woodka, founder and CEO of the software company Onshift, has raised more than $8 million in venture capital funding since he first launched his startup in 2008. That’s hardly unusual for this serial entrepreneur, who has created and sold two successful companies, TMW Systems and Flashline, in the past 15 years. 

What’s different this time, however, is that much of Onshift’s funding has come from Northeast Ohio-based venture capital firms. That’s a world of difference from just a few years ago, when Woodka looked to investors in Pittsburgh and New York City for capital. 

“I was pleasantly surprised to find that when Onshift came about, the ecosystem was there for financing,” says Woodka, who expects to hire his 50th employee this year. Onshift provides scheduling and shift management software for nursing homes, ensuring efficient staffing levels at a time of rising costs and health care reform. “Venture capital firms say the deal flow coming across their desks is strong.”

Lynn-Ann Gries, Chief Investment Officer for the nonprofit economic development organization JumpStart Inc., says that the success of companies like Onshift is the culmination of more than a decade of hard work. Ohio Third Frontier, a state effort which provides funding for early stage companies and the entrepreneurial support organizations that service them, has successfully attracted investment, she says.

“Until 2000-2002, there were very few companies being created from scratch,” explains Gries, citing the support that JumpStart and other groups provide to startups as one reason behind the big increase. “There’s just so much more happening here now.”

Putting Cleveland on the Map

It’s not just health care, either. Whether it is information technology, clean tech or business and consumer products, our region’s increased level of startup activity has whetted the appetites of venture capitalists from Northeast Ohio and beyond. Once considered “flyover country” for investors, Cleveland now appears on their radar. 

“When they start bushwhacking around here, they find there are really good things that are taking place,” says Gries, citing the new, Ohio-based venture capital funds that have been created with the aid of money loaned by the Ohio Capital Fund as a boon for local startup companies. “For instance, you can get new technologies pretty cheap here, because the valuations are a lot less than they are in other, high-cost markets.”

From 2007 to 2011, $961 million of venture capital was invested in Northeast Ohio companies -- an increase of 26 percent compared to the previous five-year span, according to a recent report released by the Venture Capital Advisory Task Force. Ohio now ranks between 13th and 16th nationally in terms of the dollars attracted to companies. Locally, health care startups are the hottest ticket.

Venture capital investment is vital because it helps early-stage companies to grow and create jobs. Boston, New York and San Francisco are examples of metro areas whose economies have grown due to VC funding and startup creation. Northeast Ohio has also benefitted from VC investment. The bioscience industry here now employs about 21,000 people with an average salary of $80,892, according to BioOhio.

For an illustration of the impact of venture capital investment, look no further than the Cleveland Clinic. The internationally known hospital system’s spinoff companies have attracted more than $620 million dollars in follow-on funding within the past decade.  

“We’re in the company-creation business -- we have 52 spinoffs right now,” says Chris Coburn, Executive Director of Cleveland Clinic Innovations, the hospital’s technology commercialization arm. Housed in the Global Cardiovascular Innovation Center, CCI transforms inventions created at the Clinic into viable, new businesses. “We address key success factors that help early stage companies to get established and in flight.”

The success of entities like CCI shows why Northeast Ohio has been successful at attracting venture capital. In a shiny, new office building on Cedar Avenue, CCI provides would-be company founders with funding, technical assistance and state-of-the-art lab space. Here, the brightest minds in health care nourish startups to success. In short, entities like CCI are akin to super-fertilizer for the seeds of entrepreneurial activity.

“High return, low risk is what all venture capitalists are looking for, no matter what they say,” says Pat Fortune, Senior General Manager with Cleveland Clinic Innovations. “We define and help mitigate risks. Absent that, a VC firm must do all that work themselves.”

“The investment community has gained a level of respect around the Clinic’s commercialization model, team and effectiveness; their comfort level is much higher when looking at a company that’s coming out of Innovations,” adds Steve McHale, founder of Explorys, a health care IT startup housed in the GCIC building. 

Challenges Ahead

CCI is just one example of where early stage investment is occurring. From MAGNET to JumpStart to Shaker Launchhouse, a flurry of entrepreneurial support organizations have sprung up in the past decade. Each group nurtures young, tech-based companies, working together through Ohio Third Frontier’s Entrepreneur Signature Program.

Still, despite the growth of venture capital investment across Northeast Ohio, critical challenges loom on the horizon. Cleveland is home to more than its fair share of rising stars, including Athersys, Juventas Therapeutics, Cleveland Heart Lab and many others, yet it has a long way to go before the Silicon Valley comparisons stick. The Facebook IPO, for example, dwarfs the kind of deals that are getting done in Northeast Ohio.

“A year’s worth of investment in Ohio could be one day in Silicon Valley,” says Bill Trainor of Mutual Capital Partners, a venture capital firm with offices in Cleveland.

To build upon our successes, Trainor and other experts say, successful “exits” must occur. These occur when a company that has been funded by venture capitalists is acquired by another company or group of investors. The sale of a company allows venture capitalists to earn long-awaited returns and redeploy their capital into new companies. Typically, investors wait nearly a decade before they realize a return.  

The problem is that there haven’t been very many successful exits in Northeast Ohio. Despite the increase in deal flow here, lower-than-expected returns across the country, and the gradually recovering economy have put a crimp in the market. What is needed is for both IPO (initial public offerings) and mergers and acquisition activity to bounce back. Short of that, it will be harder for venture capital investors to raise new capital. 

“What’s happened after the ‘08 recession is that bigger companies are saying to startups, ‘Prove that people want this,’” says Michael Goldberg, a partner in Bridge Investment Fund, a venture capital firm that invests in Israeli medical device companies seeking to enter the U.S. market. Several have already moved to Cleveland. “Startups have to raise more money to build out sales teams and show customer adoption.”

“We have a liquidity crisis,” comments Gries. “We’ve had an influx of money, but that money has been spent, and it’s really challenging for funds to liquidate investments.”

As a result of the slowdown in mergers and acquisition activity across the U.S., venture capital firms must now wait even longer before they can earn a return. “The average holding period before a company exited was nine years, but that data is over a year old now,” says Mike Bunker of Early Stage Partners, a Cleveland-based venture capital firm. “Add 2 to 3 years to that because of what’s happened with the IPO market.”

Nonetheless, these venture capitalists say that as the economy steadily improves, the next thing you’ll see across Northeast Ohio will be a spate of successful exits. One recent sale occurred when the health care startup Orthohelix was bought by Tornier for $135 million. The Dutch company, which has more than 50 years of experience in prosthesis design, plans to retain and expand Orthohelix’s offices in Medina.

“We believe that if you create a good company, there’s always going to be interest in buying that company, regardless of the environment,” says Trainor of Mutual Capital Partners, which invested in Orthohelix in 2004 and finally realized a return in August. 

The State of Ohio also is considering selling additional bonds to replenish the Ohio Capital Fund, says Gries. Yet the legislation has been slow to work its way through the Ohio State Legislature, and she hopes that Ohio’s leaders will make it a top priority.

“Ideally, you’d have the Ohio Capital Fund sell another $150 million in bonds and create more capital,” she says. “We really need more Series A and B funds to come to Ohio.”

Bunker believes that as successful exits occur over the next several years, Northeast Ohio will see its fair share of Silicon Valley-esque entrepreneurs looking around for their next investment. “You’ll start seeing some of these guys doing a second round, taking a bite of the apple once they start a company. They’ll stay here and start something new.”

Photos Bob Perkoski