Feds may release $4.4M to Slater fund on audit

U.S. Treasury officials are satisfied the Slater Technology Fund did not spend federal funds recklessly and may be eligible to receive the bulk of a $9 million grant awarded three-and-a-half years ago.
An audit conducted by the Department of the Treasury Office of the Inspector General into Slater’s use of $1.87 million in business-investment grants did find that the venture-capital firm “misused” $350,000 of those funds. The issues identified in the audit involve a failure to adequately match grant money with private capital in two Slater investments, plus some administrative noncompliance.
But although the more serious of the two violations was described by Acting Special Deputy Inspector General Kieu Rubb in the Oct. 31 audit report as “negligent,” it added that it was neither “intentional” nor “reckless.”
Perhaps more significant than the details of the findings – which largely retrace the contents of a state-commissioned compliance report released last year – is that Treasury has invited Rhode Island to apply for the second of three installments awarded as part of the original grant.
That invitation comes despite Treasury officials continuing to audit the grant spending of one of the other Rhode Island recipients, Providence startup-accelerator Betaspring.
In total, Rhode Island was awarded $13.1 million through the federal State Small Business Credit Initiative in August 2011, with $9 million pegged for Slater, $2 million for Betaspring and $2.1 million for the R.I. Small Business Loan Fund.
So far, Rhode Island has received $4.3 million of the total grant, with $1.9 million going to Slater, $2 million to Betaspring and $400,000 to the Small Business Loan Fund, which is run by the state and saw its applicant pool nearly dry up in the wake of the 38 Studios scandal. (SBLF actually received $1.4 million of the initial installment, but advanced Betaspring $600,000 and Slater $400,000 to keep capital flowing.)
Early last year, Rhode Island applied for the second tranche of the grant, but Treasury officials were “questioning certain transactions made by Betaspring,” according to the new inspector general report. As a result of those red flags, the R.I. Department of Administration hired consultants Lyon Park Associates to perform a compliance review of the entire program. The resulting report raised red flags about several compliance issues related to Rhode Island’s use of SSBCI, the most significant having to do with Betaspring, but also some with Slater.
State officials mounted a vigorous defense of both Slater and Betaspring, with then Director of Administration Richard Licht arguing that Lyon Park didn’t actually understand how startup accelerators worked and their concerns “elevate[d] the form over the substance.”
The issue dogging Slater was a federal rule requiring each investment involving SSBCI funds to include at least 20 percent private capital.
In the case of a $250,000 investment in Lucidux LLC, the inspector general’s report found that Slater had, inadvertently, paid the final installment of that investment from the SSBCI account instead of its own account, prompting a violation.
Then around the same time, Slater made a $100,000 installment of what would be a $250,000 funding round in VoltServer Inc. from the SSBCI account, when the remaining $150,000 from private sources would not be made for another four months.
In the audit report Rubb said the VoltServer issue fell into a gray area regarding phased investments not adequately addressed by SSBCI regulations.
The investment “was noncompliant, but was not a highly unreasonable departure from or willful disregard of the standards of ordinary care,” Rubb wrote.
A third 2012 $250,000 Slater investment Lyon Park had ruled noncompliant, this one in VCharge Inc., was ruled by the inspector general audit to not be a violation.
Again the issue was how the 20 percent rule applied to phased investments, but in this case the private capital Slater put into VCharge came before the SSBCI funds, which Rubb concluded made it alright.
As a result of the Slater case, Rubb recommended that Treasury revise its SSBCI rules to clarify how the 20 percent rule applies to phased investments.
Delving even deeper into the bureaucratic-paperwork side of the program, the audit said Slater and Rhode Island could be considered in default because Slater failed to get “investee sex-offender assurances” and “investor use-of-proceeds” certifications “in a timely manner.” So after all this time, effort and scrutiny, what does the audit mean for Slater, the state and Rhode Island startups looking for capital?
While the audit may strengthen views that government and venture capital don’t mix, on a practical level the invitation to apply for the remaining $8.8 million could put more capital in the hands of local startups.
R.I. Commerce Corporation spokeswoman Melissa Czerwein said the agency applied for a $4.4 million second tranche of SSBCI money in November after receiving the audit and invitation from Treasury. She said Commerce does not have an estimate on when a response to the new application might come back.
The $4.4 million second tranche would go entirely to Slater and, provided there are no further issues, eventually be followed by a $4.4 million third tranche, of which $2.7 million would go to Slater and $1.7 would go to the Small Business Loan Fund.
For Slater the federal money is especially crucial as the fund continues its transition away from state funding toward self-sufficiency. The $9 million was intended to provide the capital from which a series of new investments would be made that, hopefully, would provide the long-term returns to make further bets.
Without those federal funds, Slater was relatively quiet in 2014 and Senior Managing Director Richard Horan has said uncertainty about the federal money has hindered efforts at raising private capital.
During the second half of 2014 in particular, the already limited sources of Rhode Island-based venture capital have been further reduced with Betaspring on a temporary hiatus as it raises money for a new fund.
“While it has been an extended process, the interlude has positioned us at Slater and at [R.I. Commerce Corporation] with stronger compliance functions and that will be important when and if funding resumes,” Horan said. “We remain hopeful it will and we certainly have portfolio companies in the pipeline for which the SSBCI mechanism is ideally suited.”
“It is a funding source for seed and early stage venture funding that is quite advantageous and particularly important in the innovation economy here in Rhode Island where access to capital and limited sources of venture-capital funding are clearly an issue,” he added. •

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