VC: An American History | Outlook Business
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HARDBOUND

Hunting Spirit
American businesses have a long history of risk taking, even from their whaling days, writes Tom Nicholas

Whaling was an important but ultimately ephemeral business. As a consequence of extensive hunting, whale stocks were depleted and the rate of return on capital started to attenuate. In 1800, there were around 1.1 million sperm whales globally, but by 1880, due to the intensity of whaling, only about 780,000 remained. In 1853 alone, the US whaling fleet killed eight thousand whales. While the mean rate of return on whaling ventures was somewhere in the region of 15 to 24 percent per annum during the golden age in the middle of the nineteenth century, by the 1870s annual rates of return were in the low single digits. With the advent of alternative energy sources (specifically, crude oil) and higher costs of labor and foreign competition, the whaling industry declined and capital sought out new sources of return.

Some of the more forward-looking whaling elites began to diversify their investments in advance of the industry's decline. One study notes that of the twenty-two major whaling families in New Bedford, fifteen also had investments in cotton, fourteen were involved in banking, and eleven had interests in other industries like railroads. Gideon Allen, whose outstanding career as a whaling agent was described in Chapter 1, was a Merchants Bank director. His son became president of the bank and also became involved in the New Bedford Copper Company, the New Bedford Gas Light Company, and other firms. George Howland, who headed one of the leading New Bedford whaling families, had always engaged in general merchant activities and land ownership in addition to whaling, but he was especially keen to diversify his portfolio during the 1840s. At about this time, New Bedford started to become a center for cotton textiles manufacturing. Indeed, the Howland family was part of an investment consortium responsible for establishing the Wamsutta Mill in 1846, New Bedford's first cotton manufacturing concern.

Financing entrepreneurship and technological development in the US economy depended on the intensive use of risk capital in high-risk and potentially high-return investments. It is well known that this venture financing function has contributed significantly to the development of high-tech innovation and entrepreneurial activity in recent time periods, but much less recognized is how entrenched it is in American history. This chapter focuses on the most pervasive VC-style risk capital arrangements, including the use of equity finance for early stage high-tech enterprises, intermediation, contracting to allocate cash flow and control rights, minority shareholding, and the provision of governance to startups.

Cotton textiles production is a good starting point because it involved the financing of high-tech innovation in an industry that was crucial to the development of capitalism. Studies of modern VC show how venture capitalists deal with complex agency issues. The historical precedents for these types of contracting exchanges will be highlighted by this chapter's focus on negotiations between the Browns, a wealthy, Rhode Island based merchant family who were keen to diversity into cotton textiles, and Samuel Slater, an immigrant entrepreneur with valuable technological knowledge to offer. Clauses in the agreement between the two parties essentially determined the allocation of cash flow and control rights, and the agreement is remarkably forward-looking when viewed from the vantage point of modern VC. More generally, capital providers helped to facilitate growth and scale in New England manufacturing. Risk capital deployment led to the creation of an ecosystem of entrepreneurial businesses.

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