A Look Inside…

Investing for Social Equity

Strategic Investments in CDVC Funds

Financing a Small Business: Ryla Teleservices

KHIC: An Experienced Fund Sponsor

Small Business Investment Companies

Rural Business Investment Companies: Designed to Promote Small Rural Enterprises

NMVC: Helping Equity Flow into Distressed Communities

Wells Fargo: Investing with a Passion

CDVC Due Diligence Checklist

More about CDVC

This Just In…OCC’s Districts Report on New Investment Opportunities for Banks


Investment Resources for Part 24 Authority

Part 24 Resources on the Web

Common Part 24 Questions

CD Investment Precedent Letters

Investments in National/Regional Funds

Fourth Quarter 2006
Part 24 Investments

Regulation and CD-1 Form

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CDVC “Top 10” Due Diligence Checklist 

By Fred Mendez, Director of Community Reinvestment, Silicon Valley Bank

Community development venture capital (CDVC) organizations use venture capital tools to conduct community and economic development activities as defined in the Community Reinvestment Act (CRA). CDVC funds make equity and equity-like investments in small businesses that hold the promise of rapid growth and a “double bottom line” of not only financial returns, but also community and economic development benefits. CDVC funds come in many different forms, including not-for-profit, for-profit, and quasi-public organizations. Their structures encompass for-profit “C” corporations, limited partnerships, limited liability companies, community development corporations (CDCs), and Small Business Investment Companies (SBICs). CDVCs fund investments range from the purchase of preferred and common stock to the provision of subordinated debt with equity “kickers,” such as warrants or royalties. These investments are typically carried as investments on the investing institution’s balance sheet in accordance with Generally Accepted Accounting Principles (GAAP).

10 Steps to CDVC Fund Investing

1. Review the organization and management of the fund – The simple exercise of kicking the tires can provide an enormous amount of useful information. Look at the organization chart, the ownership structure of the general partner, the members of the advisory board, the limited partners in previous funds, and the consultants or any non-advisory board members that will be used by the fund. With that information in hand, interview the general partners to find out how much time and commitment these key persons plan on dedicating to this fund, their tenure, and relationship with each other, their background, experience, and track record in relevant areas, and how they and their staff will be compensated. Finally, never make an investment without conducting reference checks on principals and the fund through previous limited partners, CEOs of portfolio companies, or co-investors.

2. Take a good look at previous work – No harm can occur, and a lot of harm can be avoided by reviewing, including a thorough financial analysis of, each prior investment portfolio managed by the general partner and their team. Look to see if the partners of the fund you are examining use the investment strategies of previous funds, whether the strategy(ies) has been successful in the past, and if previous projections have been achieved.

3. Don’t confuse strategy and process – There is a huge difference between the strategy of a fund and the process of achieving stated goals. It’s important to have an honest conversation about strategy with fund management. Ask management to show examples of investments illustrating its strategy. Compare what management shows you with results from its previous funds and estimate if the projected target internal rate of return (IRR) seems in line with its previous investment experience. Most importantly, ask management to provide hard evidence about the size of the target market being addressed by its investment strategy and if there are any competitor funds. Once you are confident about management’s strategy, assess its investment policies for such items as the form of investments to its preferences of geography, industry, stage, and hold period.

Even before the fund closes, a good management team will have a deal flow and co-investor network lined up; assess the quality, experience, and length of partnership of both networks.

4. It’s all about execution – At the end of the day, process matters more than anything else. Even before the fund closes, a good management team will have a deal flow and co-investor network lined up; assess the quality, experience, and length of partnership of both networks. Assess due diligence procedures including checklists, questionnaires, internal reports, financial models, investment committee documents, and approval protocols. Ask for sample investment write-ups, investor reporting documents, and valuation reports or letters.

5. Don’t forget to have that awkward conversation about money and ethics – It’s never fun, but someone has to raise the issues of who is getting paid, for what, for how long, and if there are any conflicts that must be addressed. Asking for investor protection mechanisms is always a good idea no matter how close you are to the organization or how good friends you are with the general partner. There’s no such thing as too much insurance. Review the fees the general partner will receive (these include management fees, transaction fees, and investment banking fees) and the five-year operating budget for the proposed fund. Take a look to see how that compares with previous funds.

Now it’s time to turn to social benchmarks, returns, and reporting. There are countless metric possibilities that must be balanced with the practical reality of whether such information can be collected without undue burden to the fund or its portfolio company. Bankers know all about undue burden through data collection and reporting, but we don’t have to be so malicious as to share the pain. I have found the following information to be more than sufficient in communicating the social return of the fund and satisfying the CRA requirements.

6. It’s all about low- and moderate-income employees – Investments in small businesses located in low- and moderate-income geographies also satisfy CRA requirements. But I feel good about my investment knowing that low- and moderate-income employees are benefiting, and I take even more pleasure that the small business is growing, moving, and hiring additional low- and moderate-income employees. I really don’t care where the businesses move as long as they have the intended impact. With that, I require that the fund collect quarterly information on the number of low- and moderate-income employees at each of their portfolio companies.

7. Measure the benefits of employment – It is also important to know how many low- and moderate-income employees at each portfolio company are eligible for health insurance. In today’s environment, merely having a job doesn’t mean you have health insurance; and any medical emergency can throw a low-income family without health insurance into severe financial distress.

8. Show us the money – What is the average hourly wage for the low- and moderate-income employees at each portfolio company? It’s important to have proper context associated with this information, so each investor should have a good idea of what the “living wage” is for the general geography surrounding the portfolio company. This information will tell you whether you’re helping low- and moderate-income employees build wealth or merely live paycheck to paycheck.

9. Socially responsible companies – It’s not unreasonable to ask fund managers to invest in companies that want to be socially responsible. Ask that portfolio companies create wealth sharing programs and provide job training (be it on-the-job, a formal program, or soft skills). While the institution of these programs is recorded in simple “Yes” / “No” reporting columns, this information is vital in measuring the impact of employment at these companies.

10. Employment trends – Finally, as portfolio companies grow, it’s important to notice trends in the employment of low-income persons. For each quarter of reporting, it’s valuable to see the number of low-income employees that have been hired; the number that left the company; and the number that advanced either through promotion, a better job somewhere else, or for education.

For further information about community development venture capital due diligence, contact Fred Mendez at: 185 Berry Street, Lobby 1, Suite 3000, San Francisco, CA 94107, or (415) 512-4236 or