Hercules Technology Growth Capital, Inc.

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Hercules Technology Growth Capital, Inc.

COMDISCO VENTURES’ FALL LEADS TO HERCULES’ RISE

FIRST INVESTMENTS: 2004

ORIGINS

Instead of looking to Roman mythology for inspiration in naming their enterprise, the founders of Hercules might have looked to Egyptian mythology as a source, specifically the fable of the phoenix, a bird that consumed itself by fire and rose renewed from its ashes. Hercules arose from the ashes of Comdisco, Inc., whose spectacular fall at the end of the 20th century spawned a number of new commercial finance companies, each positioned in the same niche of the industry that Comdisco once occupied and each led by former Comdisco executives. TriplePoint Capital, Pinnacle Ventures, Red-point Ventures, Lighthouse Capital Partners, and VantagePoint Venture Partners were some of the companies, along with Hercules, whose executive ranks were populated with Comdisco veterans. For each, and Hercules in particular, Comdisco’s rise and fall offered a prologue to the development of a new generation of commercial finance entities.

Based just outside of Chicago in Rosemont, Illinois, Comdisco was incorporated as Computer Discount Corporation in 1969, two years before shortening its name to Comdisco. The company ranked as the largest dealer of used IBM computer equipment in the United States by 1972, the same year it completed its initial public offering (IPO) of stock. Comdisco developed into a technology services and equipment leasing company of note during the ensuing years, enjoying sufficient success to finance forays into other business lines. The company diversified by forming divisions such as Comdisco Technical Services, Comdisco Disaster Recovery Services, and Comdisco Healthcare Group. Of significance to Hercules was the creation of Comdisco Ventures in 1987, the year Comdisco’s annual sales eclipsed $1 billion for the first time. The division, an outgrowth of Comdisco’s equipment leasing business, was started and led by Jim Labe, regarded as one of the pioneers of the venture leasing and lending segment of the commercial finance industry. The business built by Labe provided a blueprint for Hercules’ development nearly two decades later, demonstrating the gains to be achieved in supplying what variously was referred to as “venture lending,” “venture debt,” and “debt financing.” It was a type of financing Hercules would call “structured mezzanine financing,” and it produced vigorous financial growth under the Comdisco Ventures banner.

Debt financing was a relatively new approach adopted by venture capitalists during Comdisco Ventures’ era, and one widely used during Hercules’ formative years. Debt financing usually came in two forms, venture lending and venture leasing. Venture lending provided companies with capital needed for operating expenses, while venture leasing supplied companies with capital for purchasing equipment or other tangible assets. A venture capital firm involved in debt financing, unlike a traditional lender such as a bank, was not bound to rigid state and federal regulations, enabling it to offer more competitive rates and to enjoy greater freedom in structuring the loan, including as subordinated debt (usually involving warrants that allowed the holder to purchase stock at a set price at a certain time) and as convertible debt (a loan the lender may convert into equity at a liquidity event). For start-up ventures, debt financing offered an attractive way to obtain capital. “Debt,” an executive of a venture debt company explained in the November 1, 1999, issue of Venture Capital Journal, “allows young companies to preserve their equity capital and to spend more time developing their technologies, so that when they go out for subsequent rounds of equity financing, they have demonstrated further progress and can command higher valuation, which is less dilutive to the company. The bottom line is that debt is less expensive than equity.”

Comdisco Ventures, starting out by providing equipment-based financing, gradually expanded its services to include subordinated debt and convertible debt and became a prominent player in the commercial finance sector. The division committed more than $1.7 billion to roughly 675 venture capital-backed companies during its first dozen years in business, developing into a major contributor to Comdisco’s financial stature by the end of the 1990s. Comdisco Ventures accounted for 27 percent of Comdisco’s earnings before taxes in 1999 and it promised to play an even greater role in the coming years, as Jim Labe, serving as chief executive officer, ramped up the division’s activities in providing lease and debt financing. The division committed $731 million to start-up ventures in 1999, roughly two-and-a-half times the volume recorded the previous year. Debt, by the end of the decade, was figuring more prominently in the capital structure of funding early-stage companies, particularly companies involved in the Internet, e-commerce, and telecommunications sectors. Comdisco Ventures satisfied the demand, supplying start-up ventures with much needed capital and tying itself to the rampant growth of the dot-com industry. Within two years, the division increased its outlay of venture debt, leasing, and equity financing to more $3.5 billion, setting itself up for a quick and numbing collapse when the technology sector was ripped apart. “They were trying to grab hold of the tech gold rush,” an analyst remarked in the October 1, 2001, issue of Business Week, “and it bit them.” Comdisco’s chief executive officer conceded mistakes were made at the once-robust division, telling Business Week “some basic questions about each investment should have been asked but weren’t.”

COMPANY PERSPECTIVES

We recognize that selecting the right capital provider to fund your company’s growth is an important and complex decision. You want a seasoned investor with extensive financial resources, but you also want a committed long-term partner with whom you share common goals and values. At Hercules Technology Growth Capital, we support our entrepreneurs not only with customized financing solutions and capital, but also with perspective, experience, and insight. When we enter a partnership with you, we share a common goal—the continued growth and success of your company throughout its business lifecycle.

COMDISCO VENTURES’ FALL LEADS TO HERCULES’ RISE

In a matter of months, a thriving business was torn to shreds. The market value of Comdisco Ventures’ public holdings, valued at $683 million in September 2000, hurtled downward, plunging to $5 million eight months later. The division provided financing to a number of Internet failures, including furniture e-tailer Living.com, real estate web site IProperty.com, and the online hardware store Homewarehouse.com, which were three of the 50 companies in its portfolio that went out of business between 1999 and 2001. The division, which halted its investments in January 2001, quickly became mired in a financial morass that crippled its parent company, causing a $30 million loss for Comdisco in the first quarter of 2001 after contributing $110 million in profit the previous quarter. In July 2001, battered mightily by the one-time gem of its holdings, Comdisco threw up its hands and filed for protection under Chapter 11 of the U.S. Bankruptcy Code, forcing a number of executives to plot the next move in their career paths.

Despite Comdisco Ventures’ failure, debt financing remained a popular tool for venture capital firms during the first years of the new century. In an investment climate characterized by risk aversive behavior and an anemic IPO market, venture debt continued to be an attractive form of financing for lenders and borrowers alike, evinced by the numerous Comdisco Ventures alumni who founded their own debt financing companies, the founders of Hercules included. Manuel A. Henriquez, Glen C. Howard, and H. Scott Harvey joined forces in December 2003 to establish Hercules, each bringing a wealth of experience to the new venture.

Henriquez took the titles of chairman and chief executive officer when Hercules opened its offices in Palo Alto, California. A graduate of Northeastern University, Henriquez worked for BancBoston Ventures, the Bank of Boston’s early-stage venture capital fund, and Robertson Stephens & Co.’s late-stage equity venture fund, CrossLink Capital, before joining Comdisco Ventures in 1997. He joined the division as a managing director, a position he held until being named president and chief investment officer in late 1999. Henriquez left Comdisco Ventures before its collapse, resigning in August 2000 to become a partner at VantagePoint Venture Partners, a $2.5 billion, multistage technology venture fund.

Glen Howard received his undergraduate degree from the University of Arizona and his graduate degree in business administration from Saint Mary’s College. He worked for Comdisco, Inc., before he joined the company’s venture lending division, rising to the post of vice-president before joining Comdisco Ventures in 1997. Howard began as a senior associate and was named a managing director in late 1999, a title he held until the division’s demise. After leaving Comdisco Ventures in mid-2001, Howard spent two years as a partner in Pearl Street Group, a specialty finance company, leaving the firm in late 2003 to join his former colleague Henriquez and cofound Hercules.

The third member of the founding team, H. Scott Harvey, came from the senior ranks of Comdisco, Inc., as well, but unlike Howard, he never made the move to the venture lending division. The legal expert of the founding team, Harvey received his law degree from the John Marshall Law School, which earned him a post as Comdisco, Inc.’s corporate counsel in 1983. After eight years as corporate counsel, he became vice-president of marketing, administration, and alliances, serving in such capacity until 1997. Next, Harvey was named deputy general counsel of Comdisco, Inc., remaining a legal adviser until July 2002, weeks before the company emerged from Chapter 11 proceedings with a mandate to sell all its assets.

FIRST INVESTMENTS: 2004

The three founders established Hercules to invest in structured mezzanine debt (the company’s term for venture debt) and equity in technology-related companies. The subsectors of the technology industry targeted by the company included computer software and hardware, networking systems, semiconductors, information technology infrastructure, online consumer and business services, telecommunications, renewable or alternative energy, medical devices, and biopharmaceuticals. The company did not make its first investment until nearly a year after its formation, officially commencing operations in September 2004.

KEY DATES

2003:: Hercules is established in December.
2004:: The company launches investment operations in September.
2005:: Hercules completes its initial public offering of stock in June.
2006:: Revenues increase nearly threefold to $29.5 million.

Hercules’ first two full years of investing activity gave industry observers a sense of the investment firm’s strategy for the future. The company set the range of its investments between $1 million and $20 million, although it claimed to have the capability to underwrite transactions up to $30 million. In 2005, Hercules committed $177 million in capital, directing nearly one quarter of its investments to biopharmaceutical companies. The company debuted on the NASDAQ Global Market during the year, completing an IPO in June, when shares in Hercules were offered for $13 per share. In 2006, Hercules more than doubled its commitment to biopharmaceuticals, investing $115 million in the life sciences segment. The company invested in structured mezzanine financing and, to a lesser extent, senior debt and equity in companies such as Acceleron Pharma, Merrimack Pharmaceuticals, and Omrix Biopharmaceuticals. Hercules, which committed $283 million in capital in 2006, also stepped up its involvement with software companies, investing $40 million in companies such as Atrenta, GameLogic, and Intelliden.

Hercules was beginning what its founders hoped to be a long and profitable stay in the commercial finance sector. The company’s initial financial results suggested it was on the right track. In 2005, the company generated $10.6 million from interest and fees, realizing $1.2 million in net investment income. In 2006, exponential increases were recorded, as its revenues swelled to $29.5 million and net investment income shot upward to $10.4 million. In the years ahead, the company’s investment team hoped to continue achieving robust financial growth, as Hercules matured into a prominent player in its industry.

Jeffrey L. Covell

PRINCIPAL SUBSIDIARIES

Hercules Technology II, L.P.; Hercules Technology SBIC Management, LLC; Hercules Funding I LLC; Hercules Funding Trust I; Hydra Management LLC; Hydra Management Co., Inc.