bi-weekly column with timely,
relevant and possibly irreverent
insight into the BC technology
September 7th, 2007
Greenstone Venture Partners
Economy Is Less
“Gotta keep moving,
Never gonna slow down.
You can have your funky world,
See you 'round.
But I got to ramble (ramblin'
Oh I got to gamble (gamblin'
man)” – Bob Seger,
been a good ride. After four years
of growth and jobs and profits and increased house
prices, it looks as though we might finally have a real
crisis on our hands. At least from
the point of view of our biggest trading partner’s
economy, which seems to be lurching
towards recession. Like the
proverbial butterfly flapping its wings in HG Wells’
novel, the impact of the actions of just a few
unscrupulous mortgage lenders has rippled its way across
the entire North American economy.
You’ve read about it already. You
hear the talking heads pointing fingers and analyzing
the tea leaves. I thought of a
simpler metaphor for the sub-prime debacle in the form
of a short story… I hope it fits:
What this whole mess is about is how one feels about
months ago, four folks walked into a casino, feeling
good about life. Interest rates were
low, which means they all feel good about spending some
cash. The first guy is Pinstripe
Pete, the banker. He is the eldest
and most conservative of the four.
He toddles off to play the nickel slots, which don’t
have great odds, but what the heck, it’s peanuts to him.
The second guy is Ernie Equity.
He has been investing in big companies and doing
buyouts. Life has been good because Pete has been
lending him money to leverage up his deals.
He hits the craps table which has the best odds
in the house, but he still sits at the $5 minimum table.
The third guy is not a guy, its Corporate Carol and
she’s dressed to kill. She has been
floating higher interest rate corporate debt, dabbled in
“jumbo loans” and generally played fast and loose for a
few years, which has been great because the rates are
not really that high, historically speaking.
Carol goes straight to the blackjack table, $25
minimum bets and lets everyone know she’s there to win.
The last guy is Slick Dick.
Dick gave up his used car business in 2003 to start a
mortgage brokerage outfit that offers people that should
not qualify for a mortgage low up front rates and 100%
mortgages. Dick heads to the
penthouse “high roller” poker room, where no-limit
‘em is happening at $1000
sit at their respective locations playing their games
for a few months. Then something
happens. The real estate bubble
starts to burst as supply gets ahead of demand.
bank rates have slowly climbed higher.
And Dick’s customers have blown past their
“initial low rate” periods. They are
in trouble as they have much higher rates, make much
higher payments and start defaulting.
I mean who couldn’t have seen this coming?
Dick’s cell phone rings. Right in
the middle of a $150,000 pot. Dick
answers and turns pale. The FBI
wants to talk to him. All those
mortgages he passed on are defaulting and people are
pissed. Dick’s appetite for risk
disappears as quickly as his last martini.
He leaves the table and runs from the casino
calling his lawyer as he goes.
Dick runs out, he passes Carol. The
“jumbo loan” business is tanking as the lenders higher
up the food chain are not into the riskier debt all of a
sudden. Her corporate clients are
not finding any buyers for their paper either. Her
Blackberry starts buzzing like crazy and suddenly she
feels like going back to her condo and hiding in a dark
room. Her swagger is gone.
Her job prospects dimming…
She leaves in a hurry passing Ernie at the craps table.
Ernie sees Dick and Carol leave the party.
He feels OK. No need to
panic. After all, this is all about
debt and he is an equity guy. The
companies are still doing well. He
leaves the tables and strolls
the casino. The higher risk tables
are all eerily empty. His confidence
ebbs. His Apple
iPhone rings (“Killing Them Softly” ring tone,
naturally). It seems that deal flow
is slowing… not much too look at without that 5 debt
dollar to 1 equity dollar
leverage all gone. Yikes!
Does this mean that they have to invest all
equity like venture capitalists?
Whoa! Deals just got a lot smaller.
Ernie spins and heads out.
Time for a vacation in Cabo.
Pete has been watching all this nervously.
He still sits at the slot machine, but he hasn’t
put a single nickel in the machine in weeks.
He has been observing. His
compatriots in big banking have stopped lending to Ernie
or taking paper from Carol and Dick.
They have decided that the world has gotten far too
risky. They just let the casino
owner know that they are shutting the whole thing down.
They are scared to death of bad loans and want
nothing to do with this. Pete sighs,
lifts himself off the stool and shuffles out the door.
in the corner, Ravi the
janitor chuckles and continues to clean the floor.
This North American casino is shutting down, but
his friends at home in
India and over in
are still rocking and rolling. Time
to head back to where the real action is…
Ravi turns out
the lights and heads for the airport.
technology company in
Canada, how does this
cascading ripple effect affect you?
As of today, the issue is dependent on the almighty
consumer in the
Can the consumption of goods and services by the end
consumer stave off a recession.
Many experts think not. This
time, the extra money is not there because you can’t
re-finance your home to buy the new car, do the
renovation and get the 60” plasma TV.
The finance community is in massive de-risk mode,
as per Pete in my story. Capital
will not flow as easily through the enterprise if debt
is harder to get. Will M&A slow
down? Will IPOs
pick up (because equity financing is the only way to
more capital)? Will spending
decrease in the enterprise?
Again, in North America,
it might depend on the consumer.
Because if they stop buying, the whole economy slows and
yes, enterprises batten the hatches.
Even if your company does not sell directly to a
consumer, you might get hit by them.
to do? Follow
Ravi. Most experts are
saying that those large US
corporations that are a) not in finance, retail or
housing and b) get at least 35% of revenue from outside
are OK. In other words, the global
market is doing fine and not as affected by the
US over-exuberant debt
market. Are you selling to Asia and
Europe? If you aren’t,
you should be. Now is the time to
focus on global markets if you aren’t already.
The US may recover quickly and the global markets
may still get sucked in (after all, one of the tenets of
globalization is that the interconnectedness of capital
markets either floats or sinks all boats a lot faster
than it used to). But for now,
Ravi has the right idea.
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
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