Tuesday, June 4, 2013

What Happens When the Government Makes Venture Capital Investments Without Demanding Venture Capital Compensation

Scott Woolley:

When the government’s negotiators started hammering out the details of the Tesla investment in mid-2009, it was obvious to both sides that the feds were in a position to name their terms. Tesla’s management knew that if they couldn’t get the government’s money at 3 or 4% interest, their next cheapest source of capital would cost 10 times more, a whopping 30 to 40% annually. . . .

Personal loans made in 2008 by Elon Musk, Tesla’s co-founder and CEO, provide a telling contrast. Musk received a much higher interest rate (10%) from Tesla and, more importantly, the option to convert his $38 million of debt into shares of Tesla stock. That’s exactly what he ended up doing, and the resulting shares are now worth a whopping $1.4 billion—a 3,500% return on his investment. By contrast, the Department of Energy earned only $12 million in interest on its $465 million loan—a 2.6% return.

The government had huge leeway to demand similar terms as part of its loan, given the yawning gap between its interest rate and the cost of Tesla’s next-best source of capital. The government was ponying up more capital than all of Tesla’s previous investors combined. At a bare minimum, the Department of Energy could have demanded a share of the company equal to the 11% Musk received for his $38 million loan the year before. Such an 11% share would be worth $1.4 billion to taxpayers today.