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American Research and Development Corporation
American venture capital and private equity firm From Wikipedia, the free encyclopedia
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American Research & Development Corporation (ARD)[n 1] was an investment firm founded in Boston in 1946, considered the first modern venture capital firm in the United States. ARD introduced the combination of professional management, institutional capital, and active involvement in portfolio companies that became standard for the venture capital industry.[1]
The firm was founded by Karl Compton, Ralph Flanders, and Merrill Griswold. Georges Doriot served as president for its 25-year existence. ARD is credited with the first major venture capital success story when its 1957 investment of $70,000 in equity ("70% of the company")[2] and approximately $2 million in loans in Digital Equipment Corporation (DEC) became valued at many times the amount invested after the company's success after its initial public offering in 1966.
ARD continued investing until 1971 with the retirement of Doriot. In 1972, Doriot merged ARDC with Textron after having invested in over 150 companies.[3]
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Definition
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ARD was the first American company to professionally manage a portfolio of venture investments on behalf of institutional investors. J.H. Whitney & Company and Rockefeller Brothers , both established earlier in 1946, provided equity to young companies by drawing on family wealth.[4] ARD sought funds from insurers, investment trusts, and university endowments, deploying them through a professional staff.[5]
Merrill Griswold, an ARD founder, explained the logic: institutions held vast capital but lacked expertise to evaluate startups directly. A specialized intermediary could assemble a portfolio where "it does not matter that four or five of them may fail because the others, the hope is, will more than make up for it."[6]
ARD was organized under Section 12(d)(1) of the Investment Company Act of 1940, giving it a permanent capital base, unlike later venture capital funds organized around time-limited investments.[7] As limited partnership investing was not yet common, it operated as a closed-end investment company for regulated investors, and later traded on the New York Stock Exchange. The structure imposed constraints—SEC regulations limited employee compensation and created double-taxation problems—that would ultimately drive talented staff to competing firms.[8][9]
ARD's 1957 investment in Digital Equipment Corporation established proof of concept for the long-tail portfolio model—the expectation that most investments would fail but a small fraction would succeed dramatically enough to offset the losses.[10][1]
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Origins
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Karl Compton, President of MIT
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Ralph Flanders, President of the Boston Federal Reserve
ARD emerged from concerns about New England's economic decline. The textile and manufacturing industries that had anchored the region were leaving for the South, and employment in Massachusetts cotton manufacturing alone fell from 124,000 in 1919 to under 30,000 by 1940.[11] Civic leaders sought mechanisms to commercialize research from local universities—particularly MIT—as a basis for industrial revival.[12]
Karl T. Compton, a physicist who became MIT's president in 1930, believed scientific research could drive regional growth. In 1934 he proposed a program called "Put Science to Work," focused on developing industries founded in scientific innovation.[13] The New England Council, a regional business association, embraced the idea and formed a "New Products Committee" in 1939 to examine how technology might reverse industrial decline. The committee brought together Compton; Ralph Flanders, an industrialist and later president of the Federal Reserve Bank of Boston; Merrill Griswold, chairman of Massachusetts Investors Trust; and Georges Doriot, a Harvard Business School professor who chaired a subcommittee on "Development Procedures and Venture Capital."[13][14]
The committee identified a structural problem: approximately 45 percent of New England wealth was held by banks, insurers, and trusts legally barred or culturally averse to risky investments.[6] Capital was not scarce, but the capacity to evaluate startups was. As Griswold explained, his firm would "under no circumstances directly make investments in risky new undertakings for the reason that we are not staffed for that purpose."[6] The committee concluded that a specialized intermediary could bridge this gap—assembling a diversified portfolio where, even if several investments failed, "the others, the hope is, will more than make up for it."[6]
World War II suspended these plans but reinforced the case for organized venture capital. Doriot served as a brigadier general directing research and development for the Army Quartermaster General.[15] Compton worked with the Office of Scientific Research and Development, which coordinated wartime research producing radar, mass-produced penicillin, and the atomic bomb.[16] Federal research spending concentrated technical expertise in the Boston area.[17] Following the Japanese surrender, Compton gathered his colleagues from the New Products Committee and persuaded them to act.[18]
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Company history
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Postwar launch
ARD was incorporated on June 6, 1946. Flanders served as president until Doriot's release from the Army in December, when Doriot assumed leadership.[19]
ARD required SEC exemptions from the Investment Company Act of 1940 to proceed. The Act restricted investment companies from owning controlling stakes in portfolio firms.[20][n 2] The firm sought $5 million through a public offering at $25 per share. Wall Street was skeptical and major underwriters declined, viewing ARD as "more of a social experiment than a profit-seeking entity."[19] By February 1947, ARD had raised $3.5 million. Half of its capital came from the Massachusetts Investors Trust, John Hancock Life Insurance, and four university endowments: MIT, Rice University, the University of Pennsylvania, and the University of Rochester.[5] Individuals, primarily directors and associates, provided the rest.[19][5]
Early investments and operations
ARD's first investments in late 1946 reflected both its mission and limited capitalization. The firm invested $150,000 in Circo Products, a Cleveland company developing automobile transmission solvents—not a startup but an established company filing patents since the 1930s.[22][n 3]
Three investments, however, were true startups developing new technologies. Tracerlab, founded by MIT graduate William Barbour to manufacture radiation measurement equipment, was near bankruptcy after being rejected by Boston investors and refused Wall Street terms demanding 51 percent equity. ARD provided $150,000 on more favorable terms.[22][23] High Voltage Engineering Corporation, founded by two MIT faculty to develop particle accelerators for cancer treatment, received $200,000 and began operations in a garage near Harvard Square.[23][24][n 4] In 1948, ARD invested in Ionics, a company developing membranes for desalinating seawater. When Doriot sought a reality check from Dow Chemical, its engineers initially dismissed the technology as impossible. The founder mailed them a working membrane, prompting Dow to respond: "That's the breakthrough."[26][n 5]
ARD placed officers or directors on portfolio company boards, an unusual practice at the time. In 1947, ARD lost $55,000, and only two of eight portfolio companies were profitable.[28] Some investments failed outright: Circo Products collapsed after a supplier discontinued a critical chemical.[n 6] ARD's management team remained highly selective. Between 1946 and 1950, they evaluated 1,869 proposals and made 26 investments.[27]
By 1951, combined portfolio sales reached $40 million with 3,000 employees, and ARD recorded its first operating profit.[30] The growing success of High Voltage and Ionics convinced ARD's directors that early-stage technology companies represented the best opportunities. ARD founder Merrill Griswold told Fortune: "Some of our friends began to say, 'Oh, Lord, not another longhair project. Why doesn't ARD back something commercial and make some money.' We learned our lesson. Now we realize that our best things are longhair."[31]
Still, ARD failed to generate attractive returns in its first decade. Between 1946 and 1956, ARD's net asset value per share grew at a compound annual growth rate of 5.2 percent, against 8.9 percent for the S&P Composite Index.[32][n 7] The flow of proposals slowed from 382 annually between 1947 and 1951 to only 127 in 1954; that year, ARD made no new investments.[33] In 1955, MIT sold its entire ARD holdings.[34] By 1956, ARD had under $1 million in capital and reported its first operating loss in five years.[35]
Digital Equipment Corporation
In summer 1957, Kenneth Olsen and Harlan Anderson, two MIT engineers from Lincoln Laboratory, approached ARD with a proposal to build cheaper, smaller computers that could challenge IBM's mainframes.[36] After IBM and other established companies rejected them, they submitted a business plan to ARD.[37]
The founders sought $100,000. ARD offered $70,000 in equity for 70 percent of the company, with a $30,000 loan to follow. With no other offers, they accepted.[38] In August 1957, they incorporated Digital Equipment Corporation and began operations in a former woolen mill in Maynard, Massachusetts.[39] It was ARD's only new investment that year.[38] ARD took board seats and assigned Dorothy Rowe, a Navy veteran who had risen from administrative assistant to assistant secretary, as DEC's first treasurer.[40] Olsen later recalled that ARD "gave us freedom. They didn't interfere, either when things were going poorly, or when things were going well."[41]
DEC's breakthrough came with its programmed data processor (PDP) series. The PDP-1, introduced in 1960, sold for $120,000—a fraction of mainframe prices. In 1965, the PDP-8 dropped to $18,000, becoming the first mass-produced minicomputer.[41] On August 19, 1966, Lehman Brothers led an initial public offering at $22 per share; ARD's 65 percent stake was valued at $38.5 million.[42] By 1971, that stake was worth $355 million.[41]
DEC became Massachusetts' largest employer and America's second-largest computer manufacturer behind IBM. Over its 25-year life, ARD generated an annualized return of 15.4 percent; without DEC, that figure would have been 7.4 percent.[43] The small investment became synonymous with the venture capital "home run."[44]
Competitive pressures and decline
ARD faced intensifying competition beginning in 1958 with the creation of Small Business Investment Companies (SBICs) under federal legislation. These government-backed entities could leverage private capital with federally subsidized loans and received advantageous tax treatment; by the mid-1960s, approximately 700 SBICs operated nationwide.[45] ARD was offered the first SBIC license, but Doriot declined. He viewed debt financing, particularly with government money, as incompatible with venture capital.[46]
More directly competing were venture capital limited partnerships. The first non-family partnership, Draper, Gaither and Anderson, formed in Palo Alto in 1959.[47] The limited partnership structure avoided ARD's fundamental problems: profits passed directly to investors without double taxation, general partners received both management fees and carried interest, and the ten-year fund life created clear performance incentives.[47] Most critically, limited partnerships could compensate investment professionals through equity participation in ways SEC regulations prevented ARD from doing.[48]
DEC's success paradoxically accelerated ARD's decline. Investment officers who had worked to build portfolio companies watched founders become wealthy while receiving minimal compensation. Charles Waite, who rescued the failing Optical Scanning Corporation and took it public, received a $2,000 raise while the company's CEO gained $10 million in net worth.[49] Doriot complained in internal memos that SEC restrictions made adequate compensation impossible, leading to what he called an "aging process" as talented professionals lost initiative.[48]
Amidst these pressures, key deputies departed to establish competing firms. William Elfers left in 1965 to found Greylock; Henry Hoagland departed in 1969 to start Fidelity Ventures; William Congleton left in 1971 to establish Palmer Partners—all as limited partnerships.[50] In memos, Doriot acknowledged that ARD officers were no longer aggressively pursuing opportunities, and that the firm was losing ground in securing technology investments.[51]
ARD continued to find promising investments even as talent departed. In 1960, it backed Teradyne, founded by Alex d'Arbeloff and Nick DeWolf to build automated test equipment for the semiconductor industry; the company turned profitable by 1962.[52][53]
Succession and merger
Doriot was unwilling to delegate authority or plan succession. When Harvard's mandatory retirement policy forced him from teaching, he canceled his Manufacturing course rather than allow another professor to teach it.[54] ARD's board established a "Committee on 70" to plan leadership transition, but Doriot evaded the process, finding fatal flaws in every proposed successor.[54]
With no succession plan after years of deliberation, the board accepted a merger offer from Textron in 1972. DEC shares were distributed to ARD shareholders before the merger closed.[50] Doriot remained chairman of the ARD subsidiary but retired in 1974. Dorothy Rowe and the remaining original staff departed in 1975.[55] ARD continued operating as a Textron division but made few new investments, and the board voted to disband itself in 1976.[55][56]
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Legacy
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ARD established investment practices that became standard in venture capital: board representation, staged financing, and long investment horizons.[57] Its investment criteria, which focused on early-stage investment and preferred founders to their ideas, also diffused to other firms. ARD providing management expertise alongside capital.[58]
The DEC investment demonstrated that backing technology startups could generate extraordinary returns, and the "home run" became central to venture capital strategy. As one investor later observed, "what the true venture capitalists aspire to, at least dream of, is to duplicate something like the Digital Equipment experience."[59]
ARD's organizational failures proved influential as well. The limited partnership structure that superseded closed-end venture funds—with carried interest, management fees, and ten-year fund lives—emerged partly as solutions to problems ARD could not solve under SEC regulation.[47] In 1972, Greylock introduced the norm of raising sequential funds rather than adding capital to existing partnerships, simplifying valuation and performance measurement.[60]
Several ARD alumni founded influential venture firms: William Elfers left to found Greylock in 1965; Henry Hoagland founded Fidelity Ventures in 1969; William Congleton and John Shane formed Palmer Partners in 1972.[50][61] Doriot's Harvard students also expanded the industry: Arthur Rock and Thomas Davis both credited Doriot's influence on their decisions to enter venture investing.[62] Rock later financed Fairchild Semiconductor and Intel; Davis founded the Mayfield Fund.[63]
Although ARD operated nationally, its investments were essential to Massachusetts' economic recovery imagined by its founders. Its early investments helped establish Route 128 as a technology corridor. HVEC, Tracerlab, Ionics, Teradyne, and DEC all operated in the Boston area, and a 1967 Commerce Department study ranked Boston first among American cities for generating technology-based companies.[64] By the time of ARD's merger with Textron, the center of venture capital had shifted to Silicon Valley, but the model ARD pioneered—equity investment and managerial participation in early-stage technology companies—became the industry template.[65]
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External links
- Digital Equipment Corporation's 1957 proposal to ARD
- ARD exhibit, Baker Library, Harvard Business School
Notes
- The company's legal name was American Research and Development Corporation (ARDC), though it was commonly known as American Research & Development, abbreviated as ARD or AR&D, in its time. Following conventions in modern academic sources, this article uses ARD.
- ARD's market price, reflecting its persistent discount to NAV, showed a -1.3 percent annual return even including dividends.[32] ARD's shares often traded below net asset value, reaching 65 percent in 1955.[33]
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References
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