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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