Venture Capital Q&A: Jeffery Hechtman, James Jerue in Law Office of Horwood Marcus & Berk

Venture Capital Q&A: Jeffery Hechtman, James Jerue in Law Office of Horwood Marcus & Berk

February 25, 2009

CHICAGO - “ At IVCA member law firm Horwood Marcus & Berk, partners Jeffrey Hechtman and James Jerue represent a wide range of venture capital clients.

With great depth and experience dealing with privately held enterprises, their clients range from those that are just starting their businesses to those with hundreds of millions of dollars in revenue. The IVCA recently spoke with Hechtman and Jerue about many issues concerning the current environment and what it means for today's venture capitalist.

IVCA: What venture capital areas does your law firm cover? Do you specialize in any particular type of VC client?

Jeffrey Hechtman:We're pretty broad. We do have one VC fund that is consumer electronics and one that is tech and biotech. For lack of a better phrase, though, we are generalists and - œindustry agnostic- .

IVCA: With the economic downturn, what is the biggest concern of the VC client today? What is your firm doing in partnership with them during this time?
JH: It's a much deeper dive in terms of whether a business is really sustainable. People are being more circumspect about portfolio companies and with their paths to generating cash and getting their product accepted.

There is much more diligence on the business side. They are being much more cautious and prudent about when they bring in the lawyers. That's a good way to mitigate against dead deal costs.

James Jerue: If you compare now to the last half of 2000 and early 2001, the pace at which things were happening in 1998, 1999 and early 2000 was so frantic. Things were really compressed in terms of signed contracts, due diligence, getting the documents done and moving on to the next one.

Then the bubble started leaking air. Companies were all burning money. Then it became about how they could conserve the capital, how long before the company hits the wall and what can we do to cut back.

Many lessons were learned from that experience. People are now moving more slowly. They're planning to make their capital last longer. They're trying to work with their lawyers in terms of managing their fees to get a deal done.

JH: It has impacted deal structure. We will see benchmarks related to attaining performance that impacts deal structure. If someone is worried about the length of time, they might provide for incentives or disincentives for other features of the transaction on hitting milestones.

You may get a more attractive evaluation subject to attaining a certain sales philosophy within a 12- or 18-month period.

IVCA: Your Web site describes your firm as having an - œentrepreneurial atmosphere-  as part of its philosophy. What does that mean to a VC client?
JH: It means we are familiar with the enterprises in which they invest. This is what we do. These are the types of companies and personalities we deal with on an everyday basis. We know that type of enterprise has implications in terms of deal structure, how you communicate and how you interact with them.

JJ: It's a different staffing approach. It's more partner and service oriented.

IVCA: In terms of your firm, how creative must problem solving be today in both the competitive environment and the economic slowdown?
JH: Our approach to problem solving needs to be a little more creative in terms of there simply being fewer alternatives by virtue of the slowdown. There aren't as many resources to spread around.

The ability to creatively problem solve within a sufficient time frame and economics is as crucial as it has ever been. Our clients are very sensitive to how they are getting value. The premium is getting a good result efficiently.

IVCA: What is the most important organizational strategy in wealth protection planning?
JH: First and foremost is finding out from the client what priorities, needs and risks have to be addressed. We don't cookie cut in respect to a strategy.

We've got to help them identify risks and benefits and help them figure out their priorities. Once they prioritize, it allows us to set up a - œtoolbox-  for addressing those priorities and accomplishing those goals.

JJ: One of my clients (a very successful private equity professional) is a young guy who's not yet 40 and is on his way to being worth a lot of money. What do we do for him?  We've put trusts in place for his kids. We work to make him more efficient in estate and income tax planning.

He's got powerful, charitable interests. We talked to him about setting up a family foundation. It's basically getting him into a position so that seven or eight years down the line he can do something else. He says he might not want to but he wants to be able to.

IVCA: Why are limited liability companies described as the - œnew kid in town- ?
JJ: In 1990, there were only two states with LLC statutes. By 2000, every state had one. As functioning business entities, LLCs really have only been around in a meaningful way for about 15 years. The Illinois LLC statute came along in 1994.

They are - œnew kids in town-  in the sense that we haven't seen case law development in LLCs the way we have for corporations or even limited partnerships. The LLC supplanted limited partnerships as the operating business flow-through tax entity of choice.

IVCA: Are you seeing any new trends now with the type of businesses being funded a year or two ago?
JH: My expectation is somewhat related to what happened during 2000, but that was limited to the tech bubble bursting. With the current downturn, it's about the dislocation of people from their jobs.

The next 12 to 24 months will see a lot of people changing jobs, changing careers and starting new ventures of their own volition or otherwise. As we saw in 2002 and 2003, we saw these ventures occurring with people raising small amounts here and there.

You're going to see more of that now with a slightly different flavor.

It was a tech-driven downturn before. It's now more professionals like lawyers, investment bankers and wealth advisors all across the board. I expect to see more people starting business, incorporating and starting entities during the next 12 to 24 months. That's a personal expectation.

JJ: I've observed that the Internet businesses our clients are investing in are finding better ways to do things. They're not based so much on technologies but on other factors such as marketing and getting your name out there. That still has value.

It's not about the better chip or the better cell phone. It's how to find a way to make people pay attention.

IVCA: What VC projects are most likely to be funded right now?
JJ: It's a good time to be an early stage venture capitalist. There are four phases of venture capital projects: seed, early, middle and late.

For people in the seed to early stage, it's a very good time to be doing what they do. Because valuations are coming down, it's the first time I haven't heard venture capitalists complaining about them in about 12 years.

Another characteristic of the seed to early companies now is the fact that IPOs are tanking. That said, that's irrelevant now because that is much in their future. It also doesn't matter that banks aren't lending because they can't borrow money. That is why they need equity.

That makes it a very good time to do what our clients do, which is invest in early to seed businesses. In the subsequent years, hopefully they will pay off.

IVCA: What is distinct about your firm over others dealing in venture capital?
JH: You have to keep a context in mind. We are in a different market and do things differently than institutional venture capitalists that may do $100-million projects. We stay on the segment of the market where we are focused, which is a bit broader than the institutional types.

JJ: We're not going to take a company public. That's not our area of expertise.

IVCA: What advantages do you have as a Midwestern or specifically Chicago law firm in the broader based business community?
JJ: What we bring to clients that are Midwest based is expertise in the area. We bring an approach to a practice in which they are familiar. It may be a little more methodical and a little less fancy. We just like to get the job done.

IVCA: What are your firm's goals and expectations with a VC client and overall in 2009?
JH: I will take the overall question. Overall I expect transactions to continue to take longer and for the decision-making process to take longer as well as people observe impact on their target companies.

I expect the deal velocity and volume to slow down. This impacts the prospective party taking in the venture capital. They're going to have to do that process better, smarter, cheaper and faster. It's no longer 60 days until you get the money.

It's now six month of getting to know people, revising and revamping along with having many meetings. It's about making due with a longer period of transaction for less. Also, the continued pessimism will put pressure on valuation and the deals will favor the funds provider.

JJ: A wise and very successful lawyer told me years ago that you get 90 percent of your new business by doing a great job with existing clients. I've found that to be my experience. Our goal then is to continue to do that great job for our existing clients and to let people know we are here. Do that great job and the rest should take care of itself.