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A bi-weekly column with timely, relevant and possibly irreverent insight into the BC technology industry.

Something Ventured:
April 25th, 2005

By Brent Holliday
Greenstone Venture Partners


BC Tech Really Puts Out


"You helped me believe,
That I could believe in myself.
You helped me achieve,
What I did with nobody else.
Making it work,
Takes a little longer..." - Doug and the Slugs, Making It Work

When you live and work within the technology industry in BC, as it would be anywhere else on the planet, you tend to see the world in terms of what is happening locally and in your designated field of focus. This "tunnel vision" is natural and normal. When you spend your day figuring out how to win in your company's field, you get to know that field very well. When you go to parties or read the paper, you talk about what is happening around you in the community. Secretly, you want to know where the next big opportunity might be for you if your current company isn't working out for you. And so it goes in our happy little village in BC.

Once in a while, it's nice to poke your head up and see what is going on elsewhere. It would be nice to know how we are doing in BC comparatively to other regions. A handful of your local colleagues must do this on a regular basis to help make decisions about policies that affect the technology industry. It is important to their work to know exactly how we stand against other regions on all sorts of metrics. An even smaller group of people are charged with promoting this region for technology. They must know how we compare so that they can accent the positives and help attract investment, people and companies to our region. For all three of these reasons, I got a little curious last year about this time and started to work on the idea that measuring the technology industry output in terms of dollars might be useful to see how we stack up in BC. And, straight to the punch line as you might have read already in the Vancouver Sun, we do very, very well.

We have some measures available to us about how the technology industry is doing that can be compared across other regions in North America. One is venture capital invested in technology. The theory here is that number of companies being funded and total dollars invested would be a measure of what an educated, wealth-motivated group of investors think of the opportunities to make money in BC's tech industry. More companies funded and more money (per capita) might indicate a healthier region for technology innovation and/or returns generated by investing in technology, right? This assumes that VCs have the ability to freely put their capital in any region where they think returns will happen. This, of course is not the case. Labour sponsored funds (Growthworks here in BC), are restricted as to where they put their money. Early stage VCs tend to invest in companies in their region due to the fact they like to be close to help the companies. However, it is true at the higher level of venture capital, the institutions that fund most VC funds (whom we call the LPs or limited partners). These LPs can choose to fund regional VC fund managers in regions that they think are "hot".

Over the past decade, BC has invested at a pace that is slightly below its population percentage (BC's 2001 percentage of the population was 13%). If you take the years 1995-2003, BC tech companies received 12.4% of the total Canadian amount (US$2.0b of US$16.4b across Canada). The total number of new high-tech companies financed in BC was also below the population at 11.4% of the total over that same time frame. For comparison, Ontario received 56.3% of the VC dollars with a population that is 38% of Canada. Quebec received 25.8% of the invested dollars for 24% of the population. When you do the calculation against GDP (2003) instead of population, BC received venture funding slightly above its 11.9% of national GDP (all investment data courtesy of McDonald & Associates).

So there is one measure of how a technology industry is doing. What about innovation? One measure used repeatedly is R&D spending. Canada spent CDN$22.3B on public and private R&D in 2002 (a pitiful 1.93% of national GDP that year). BC spent CDN$1.85B on R&D, an even more pitiful 1.5% of provincial GDP and only 8.3% of that national total spending, well below that of its VC funding ratio and population percentage. Ontario spent a whopping CDN$10.9B, a more meaningful 2.37% of its GDP and a full 49% of the national spending amount. Quebec was CDN$6.4B (2.7% of GDP), 29% of the national total. Just so you don't feel too bad, Alberta was worse than BC at 1.2% of GDP and 7.2% of Canada (Alberta has 10% of the nation's people).

These are the two most used statistics to measure how well the technology industry is doing. As for BC, if you went by those statistics alone, you would assume that we were a middling region with a fairly mediocre technology track record. After all, the notion has been that if money isn't pouring in to the province in the form of investment dollars or R&D funding, there must not be anything there to fund, right? I have heard that argument far too many times...

For a few years now, I have wondered what we were all smoking... These are inputs only!!! We have been benchmarking ourselves against each other and against the US using inputs to the technology industry. Not all R&D dollars end up in commercial products. There is a correlation between innovation and R&D dollars spent, but there is no measure of efficiency of R&D dollars. Maybe we are more efficient spenders in BC and crank out more results for our R&D? Who knows? We need to see output! What I started wondering about was for every VC dollar spent, what kind of output was generated? How efficient are we at using VC dollars? As usual in our industry, roughly a decade behind the US in maturity, I looked to our southern cousins to see what they measured. Ahhhh, output. The enterprise value of a company when it is acquired or when it goes public, liberating its early stage investors and employees to sell some stock and make a return on their investment is what the Americans measure.

Only we had none of that data for the technology industry in Canada. Nothing. Nada. Zilch. So, I went to work last summer. IPO data was easy to find from investment bankers and SEDAR, the on-line public company database. It took me very little time to find all of the technology IPOs from 1997 to mid-2004. Somewhat harder to find was the actual market capitalization at the time of the pricing of the IPO. This was the measure used in the US. Digging through many prospecti to find fully diluted shares outstanding and multiply it times the share price was grueling. Why can't they just put that figure in the financial statements!!! Mergers and acquisitions (M&A) data was much more difficult. There was no list of successful M&A. There was in the US, but not here. I dredged through press releases, EDGAR data, Google searches and old-fashioned telephone calls to capture all of the technology purchases north of US$20M in Canada since the beginning of 1999. IPOs and M&A together are referred to in the VC industry as "exits" because that is when we start to get our money out.

Then I thought about how to present the data. Assuming that the IPOs and successful M&A represented the vast majority of dollar output of the industry (the other exits would collectively add up to very little as they were wound down or were sold for scrap), I could measure output per population, per GDP and other measures.

First the data per capita on the outputs from 1999-2004:

BC had US$4,464M worth of exits, for $1,144 per capita.
Ontario had US$8,236M worth of exits, for $722 per capita.
Quebec had US$1,454M worth of exits, for $202 per capita.

Wow, the first indication that BC was doing something extraordinary on exit value, or output. But, in an economy that is driven by resources, a measure per population is not that meaningful. In order to better quantify the input data as it related to the output data, Leading Edge BC helped us find a very bright UBC grad student (Ed Egan, boy genius) and some other helpers to look at an entire data set of companies backed by VC and find out what happened to every one of them. Across Canada, about 2,200 new companies received money from VCs between the first day of 1995 and the last day of 1999. Think of this data set as if the entire VC industry was your venture fund. What would be the results of this fund if you started exiting at the beginning of 1999 all the way through mid-2004? The reason for the staggered dates is that it takes an average of 5 years from first funding for a company to get an exit. We overlapped years in order to capture some of the quicker exits in the data and to catch the bubble with the dark years of 2001 through 2003. Finally, the reason these metrics were chosen is that, although we now know what happened to every company funded in that time frame in Canada (companies still in business were given a very conservative exit value of zero), we do not have that data for the US. We only have the aggregate data to compare with. As long as we are comparing apples to apples, we can see how we are doing.

So, finally we have a measure of output (total enterprise value at exit) to input (VC investment) to see how efficient we are at creating wealth with those dollars spent. Big caveat: This is not investor return. Investors don't own 100% of the company at exit. It is impossible to figure out investor return unless they tell you what they owned and most do not reveal that information. So the ratio of exit value to invested dollar is called the IVR (invested value ratio) and is simply a measuring stick of input generating a total output, not a return.

Here are the results of this study, using a population sample of 600 of the 2,200 CDN companies (the entire data set is now complete, but is not tabulated as of today) All $ figures below in USD:

BC: $4,464M dollars of exit value for $456M of investment IVR=9.79

ON: $8,236M dollars of exit value for $1,605M of investment IVR=5.13

QC: $1,454M dollars of exit value for $887M of investment IVR=1.64

CAN: $16,918M dollars of exit value for $3,170M of investment IVR=5.34

US: $469,948M dollars of exit value for $113,283M of investment IVR=4.53

CA: $239,946M dollars of exit value for $46,672M of investment IVR=5.14

MA: $46,609M dollars of exit value for $10,424M of investment IVR=4.47

WA: $15,636M dollars of exit value for $3,946M of investment IVR=3.96

MD: $23,320M dollars of exit value for $1,719M of investment IVR=13.6

The only region in North America that did better than BC was Maryland. BC entrepreneurs used less money to create more shareholder wealth than any other region, except Maryland. And this data set excludes angel backed companies on both the input and output, missing such successes as 360 Networks and Datum Telegraphics. A follow up study is being done to include estimates of angel investment in BC and the exits from it (more recent acquisitions like Flickr, Schemasoft and Radical would fall into this study).

Why do Ontario and California, with such large exit values perform poorly on the ratio? More money sloshes around those regions looking for the big exits. A lot of this money ends up in big fat zeroes. These are the perceived "hot" regions for investment and so the money has set up in these jurisdictions to chase it. A consistently high IVR for BC as we move forward and include 2005 on the output and 2000 on the input side would indicate that more money might think of setting up shop here. Clearly, we do better on exits with the investment that we have.

Why is Quebec so bad? This study was used recently by the Quebec Ministry of Finance and its technology association as evidence that Quebec needs to profoundly change its approach to commercializing technology. If a healthy technology industry is balanced on three major legs (quality of skills among its people, availability of capital at all stages and customer driven innovation), then Quebec's three legged stool toppled over due to too much capital in the late 90's and too many small under-funded companies that emerged from that seed funding. You just can't throw capital at innovation and expect it to materialize in great companies. The three legs have to be in balance.

In sector by sector performance, we found that ICT (Information technology, communications technology, semiconductors) was astoundingly better at using input to generate output. In just that sector, BC's IVR jumps to over 19.8!!! Canada's overall IVR in the ICT sector was 7.3. In another shocker, Life Sciences was a dismal performer. Canada was 1.1 for its Life Sciences IVR and BC was 1.5. Now, it is quite possible that our chosen timeline is at fault for Life Sciences and that it takes more than 5 years from first funding on average to get a decent exit. My guess is that this IVR will improve as we stretch the years going forward.

Much more work is being done analyzing this data. We are combining forces with Canada's leading input collector, McDonald & Associates, to populate their database with our 2,200 company exit information and we hope to more accurately predict exits in Canada when we add angel or family backed technology companies to the mix.

A power point summary of this information is available on Greenstone's web site www.greenstonevc.com and an executive summary of the report is available at Leading Edge BC http://www.leadingedgebc.ca/resources.php. Feel free to spread the word about BC's performance. Let's start talking to others about our community in terms of output. Other measures of output need to be sought out (GDP of the tech sector only, return on research dollars, employment growth, etc.) to help promote the region.


What Do You Think? Talk Back To Brent Holliday


Something Ventured
is a bi-weekly column designed to supplement the T-Net British Columbia web site with some timely, relevant and possibly irreverent insight into the industry. I hope to share some of the perspective and trends that I see in my role as a VC. The column is always followed by feedback (if its positive or constructive. I'll keep the flames to myself, thanks).

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