Venture Capital in British Columbia VC 101 – The Basics & Programming How Does British Columbia Measure Up? Access to Capital Strategies for BC R. Todd Tessier Investment Capital Branch June 2006
Venture Capital in British Columbia
VC 101 – The Basics & ProgrammingHow Does British Columbia Measure Up?Access to Capital Strategies for BC
R. Todd TessierInvestment Capital BranchJune 2006
Part I – Venture Capital Basics & Programming
The basics …What is venture capital?
Unsecured private financing most often in the form of share capital issued by early stage companies with no tangible assets.
What is not venture capital?
It is not traditional debt financing nor is it capital raised by a company when it is going public by listing on a stock exchange.
What type of securities are issued?
Typically preferred or common shares issued to investors that are held for 3 to 7 years before generating a return.
What is the typical structure and investment return opportunity?
A venture capital investor usually holds less than 20% of a company’s voting shares and earns a capital return through a public offering (IPO) or acquisition/merger transaction.
A typical VC investment structure looks like … Unsecured capital investment, most often in the form of
voting equity shares or convertible debt.
Capital that is managed either “professionally” or “privately” with the investment focus on “growing” the business and exiting within 3 to 7 years to coincide with an IPO or buyout.
Investment ranges from $500K to $10M from seed stages until public offering or buyout – total financing may reach up to $50M.
Venture capital investment “stages” are often syndicated with businesses over 3 years receiving capital from up to 5 different VC managers – known as milestone investing.
Venture capital supply is very mobile and supply limited especially in BC.
Why is venture capital so prevalent in technology? Largely because this sector most often works with “human
capital” and intangible assets that cannot be secured.
The timeframe for development can be several years from startup to entry into the marketplace with little or no cash flow available to service debt.
Many technology companies require “mentorship” and issuing venture capital to professional or Angel investors provides access to these required skills.
Growth by acquisition or merger is common in this sector and venture capital offers a means by which a company can strategically acquire technology to advance.
Who are the “primary” sources of venture capital?1. Angel Investors – managing their own money these investors
are key to fostering startup companies.
2. Private Independents – professional funds that are established with investment from institutions or pension funds.
3. Institutional – most often pension funds or insurance companies seeking venture capital returns to diversify their portfolio.
4. Retail Funds – professional funds that are established with capital from “individual” investors by offering tax credits.
5. Corporate/Government – these funds are focused on corporate strategy or diversification needs and usually have only one investor.
6. Foreign – professional funds or corporate investors pursuing geographic diversification and above market returns.
BC encourages the capital supply of retail funds and Angel investment through the issuance of tax credits
Venture Capital Investors: Who are they?The Players Corporations
Government Crowns Institutional Retail Tax Credit Private Independents
Foreign funds Others (Integration)
In British Columbia VanCity, HSBC, Canaccord &
Newcourt Capital
BDC – Vancouver BCIMC, Ontario Teachers, CDP WOF, BCMIF, Discovery Ventures West, Banyan, Yaletown
Partners
Draper Fisher, OVP, Interwest Microsoft, Kodak, Pfizer Inc.
Investment Stages: How are they defined?Stages Seed ($0 to $500K)
Start-up ($500K to $2M)
Early Stage ($2M to $8M)
Expansion ($8M to $50M)
Mezzanine/Buyout($50M & beyond)
Milestones Concept/patent filed,
prototype developed Prototype developed to first
product completed First product established to
early market entry Market acceptance leading
to expansion. (IPOs here) Mainstream market and
entering new markets
Company Stage
Ro
un
d S
ize
Conceptor Patent
Prototype FirstProduct
EarlyMarket
MarketExpansion
MainstreamMarket
VC Financing “Gap”: A Company Perspective
Seed ($0 - $500K)
Angels & Insiders
Expansion ($8M - $50M) WOF,
VW, HSBC, Institution
Mezzanine ($50M+)
Corporate/Others
Early Stage ($2M - $8M) WOF,
VW, WOFStart-up ($500K - $2M) Discovery, BC
Advantage Lead
Follow
Overview of BC Tax Credit Programs
Eligible Small BusinessesSBVCA – EIA
35 ESB financings per year
Eligible Business CorporationsSBVCA
95 EBC financings per year
Individual BC Investors
30% tax creditSBVCA
15% tax creditEIA
Venture Capital Corporationor
Labour-Sponsored VCC
SBVCA – Small Business Venture Capital Act (1985) - $25M in tax credits raising $84M for annual investment.EIA – Employee Investment Act (1989) - $17M in tax credits per year raising $113M for annual investment.
“Direct Model” “Indirect or Fund Model“
$ Shares $ Shares
$
Shares
•Common or Preferred shares
•Must not take voting control
•Shares held at least 5 years
•Value-added sectors
•Employee size limits
•Asset limits
•2 LSVCC funds
•4 VCC funds
•$600M Capital
•30% of BC’s mkt capital
Small Business Profiles: What do they do?
Data observations: 54% of the investments were in technology companies – yet a significant portion
of capital invested outside Vancouver was placed in traditional sectors. Information technology, life sciences and manufacturing were the dominant
sectors appealing to program investors.
Type of Activity
Biotechnology 8
Community Diversification 13
Manufacturing 31
Technology (Medical) 5
New Media 11
Tourism 17
Technology (Software) 37
Technology 13
Total 135
Technology10%
Tourism13%
Biotech6%
Community Diversification
10%
Manufacturing23%
New Media8%
Technology (Medical)
4%
Technology (Software)
26%
Small Business Profiles: Where do they conduct business?
Data observations: A record 30% of program activity took place outside of the Lower Mainland area –
traditionally only 2% of the VC market serves this region. Out of the 50 program registrations outside of the Lower Mainland, 34 were
registered under the direct investment model (68 %) – simplicity works best.
Geographic Region
Cariboo 5
Kootenay 6
Mainland/ Southwest 94
North Coast 1
North Peace 1
Thompson-Okanagan 14
Vancouver Island/ Coast 14
Total 135
Kootenay4%
Cariboo4%
Vancouver Island/Coast
10%Thompson-Okanagan10%
North Peace1%
North Coast1%
Vancouver / CRD70%
Small Business Venture Capital Act – the programs operating under the Act raised $67M for early stage investment (third year running) in 135 companies located throughout BC. This past budget the programs were awarded with another $17M of annual capital capacity.
Employee Investment Act – Labour Sponsored registrants such as the Working Opportunity Fund and the BC Medical Innovation Fund only raised $21M of the $105M due to national issues and uncertainty in the marketplace surrounding public policy.
National Issues – the province of Ontario announced that it would be phasing out its Labour Sponsored Fund program on a gradual basis and replacing it with programs supporting Angel investment, commercialization and a “Matching Capital Program” that relies on institutions for capital supply.
2005 Program Year in Review:
Part II – How Does BC Measure Up?
Four key elements in making BC a premiere investment destination:
Premiere Investment Destination
Access to Human TalentAbundant Supply
of Capital
Cross border flow of talent & Capital
Competitive Fiscal Environment
BC - A “small but efficient” marketplace for private capital due to …
An abundance of world-class technology. Top-of-the-class innovators. Talented VC managers supported by a tech savvy Angel
investor community. Effective and sound government fiscal policy that contributes
to research and the development of innovation. A proven track record – confirmed by UBC Sauder School of
Business. Ongoing development of intellectual property with market
application – now offering tax relief for IP taxable income.
World-Class Technology:
ICT – Wireless/New Media BC Technology has reached outer space and at the same time brought the world closer together.
Life Sciences and Medical Devices With proper fiscal policy, BC excels at developing leading edge technology. It is home to some of the most profitable LS companies in North America.
Power and Sustainable Technologies A recognized international leader when it comes to developing ‘profitable’ alternate energy sources that will create a better world in the future.
Top of their class innovators:
Dr. Geoffrey Ballard Voted one of Time Magazine’s “Heroes for the Planet” Founder of Ballard Power Systems and General Hydrogen
Dr. Julia Levy Founded QLT in 1981 based on her pioneering research in photodynamic therapy QLT was the nucleus around which BC’s successful biotech cluster grew
John Seminerio Founded OctigaBay which closed US$24M in financing and was later acquired by Cray Founded Abatis Systems—acquired for US$676M by Redback Networks
What do technology leaders like Nokia, Kodak, McKesson, and Electronic Arts have in common? They all arrived in BC through the acquisition of a world-class company founded on a technology or an innovation developed here. BC’s most famous entrepreneurs include:
A “national” snapshot of BC’s access to venture capital:2005 VC Investment in Canada- $M
226106
751
710
37British Columbia
Prairies
Ontario
Quebec
Martimes
2005 Capital Supply by Province - $M Managed
1,9991,815
6,956
9,880
391BC
Praries
Ontario
Quebec
Maritimes
2005 Foreign VC Investment in Canada- $M
$ 70$ 20
$ 251
$ 122$ 4
BC
Alberta
Ontario
Quebec
Other
Highlights: BC continues to attract at least one-third of
its venture capital from foreign investors – but do these companies remain?
The province leads the country in terms of early stage funding for companies and our “Angel Program” is a national leader.
Our domestic capital programs lever an additional $7 of capital per dollar invested.
Concerns: There is a lack of seasoned capital
managers in the province – two funds control 68% of the provincial holdings.
According to Thomson Venture Economics, BC placed 20th in terms of capital received.
For perspective … last year Seattle received $750M in capital and San Diego $1.2B.
Four Year Average (2001-2004) Investment per $1000 GDP
Seed/Start-up Other Early Stage Later Stage All Stages
BC 0.46 0.85 0.81 2.11
ON 0.57 0.82 1.17 2.55
ROC* 0.12 0.18 0.22 0.52
QC 0.63 0.63 1.58 2.83
Canada 0.45 0.62 0.98 2.05
CA 0.15 1.48 6.30 7.93
MA 0.27 2.00 8.72 11.00
OR 0.00 0.31 1.20 1.51
WA 0.07 0.68 2.33 3.07
USA 0.04 0.49 1.95 2.49
While BC has done an exceptional job at increasing early stage capital …
We lack adequate expansion capital to bring innovation fully into the marketplace to retain companies in BC so they may grow to their full economic potential.
There are other issues involving the “trends” of the venture capital holdings in the province …
$581
$870
$128
$216
$203
$0 $200 $400 $600 $800 $1,000
Retail Tax Credit
Private Independent
Institutional
Corporate
Government
VC Managed 2005 - $M
$86
$38
$0
$22
$60
$0 $20 $40 $60 $80 $100
Retail Tax Credit
Private Independent
Institutional
Corporate
Government
VC Raised 2005 - $M
$0 $50 $100 $150 $200 $250
Retail Tax Credit
Private Independent
Institutional
Corporate
Government
VC Available 2005 - $M
An even split still remains between private and government sponsored venture capital holdings – market balance that must be maintained.
Approximately 71% of new money raised in BC came from tax credit sponsored funds last year – a noted absence of institutional investment … why?
About 65% of the new capital available for investment is held with government sponsored funds – this capital alone will not be enough to retain quality firms in BC and new models must be considered.
Other fiscal policy BC employs that accelerates innovation:Accelerators: Research & Development programming that reduces a company’s ‘burn
rate’ on R&D expenditures to as low as 32 cents on the dollar.
The second lowest rate on taxable income in Canada along with a tax rate of 22% on stock options allowing companies to attract and retain key knowledge based workers.
1,760 graduates in computer science, electrical and computer engineering by 2007.
A new incentive that offers an annual $8 million provincial tax holiday to companies deriving revenues from patented life science IP held in BC.
Yet some barriers remain in this area as well: R&D refundable credits are limited to CCPC companies only.
Intellectual property tax relief is presently limited to Life Sciences.
PNP programs need to be levered to their full potential.
In sum BC: Has proximity to access growing markets, Has the talent base to innovate opportunities, Has an adequate supply of early stage capital, and Is being supported with the right fiscal programming … but
What BC lacks is: Early stage funding that assists with the “commercialization process” of
a company before it enters the marketplace, An adequate supply of “expansion capital” supported by seasoned
managers of venture capital – more competition, and A comprehensive marketing strategy that ensures foreign capital
leverage continues to be available for our companies.
Part III – Access to capital strategies
British Columbia’s Access to Capital Strategy:Last year a strategy was introduced to Finance that focused on:1. Expanding the province’s R&D tax credit program to offer refundable BC
tax credits to foreign controlled & publicly listed companies. In addition, an incentive was proposed for companies that incur commercialization expenditures so long as the intellectual property and assets remain in BC.
2. Expanding the tax credits under the Small Business Venture Capital Act to provide innovative companies with access to capital at their earliest stages of development.
3. The introduction of Matching Capital Program designed to attract capital from institutional investors and increase the number of seasoned venture capital managers to the province, and
4. A marketing strategy to aggressively promote BC technologies in key markets outside of the province.
The following is an update of the status of these particular initiatives
#1–Expansion of the R&D Tax Credit program for BC:Goals 1. To ensure that innovative companies have access to BC refundable tax credits through
all phases of the development regardless of their corporate status, and 2. To introduce commercialization incentives for companies bringing innovation into the
marketplace.
Background • Presently the federal & provincial refundable tax credit is limited to companies that are
Canadian Controlled Private Corporations (CCPC).• Both the provinces of Ontario and Quebec recognize the true cost of innovation and
offer refundable credits to companies that are either public or foreign controlled.• Federal amendments are proposed to extend the duration of non-refundable tax credits
and expand the eligibility thresholds for CCPC applicants. (i.e. income tests)
Consultations• This proposal is overwhelmingly supported by the leading technology associations, the
PTC, regional science councils and national agencies such as the Conference Board.
Status• Finance is hesitant to depart from federal rules involving this program – that said there
is a commitment to extend the program and a revised submission is planned for this fall.• Estimated cost of this measure is $25M per year of forgone tax revenue.
#2–Expanding Tax Credits under the SBVCA by $10MGoals 1. To ensure that innovative companies have access to capital at the earliest stage of
innovation, and 2. To attract companies and talent to BC that are seeking start up capital - Urigen.
Background • The changes to the SBVCA brought in 2003 have been successful and BC now leads
the country in terms of seed capital availability for technology companies.• For the past 3 years the programs operating under the SBVCA have sold out, but the
Labour Sponsored Funds operating under the Employee Investment Act (EIA) have not faired as well – last year only $21M of the $80M available was raised.
• Supply of tax credit sponsored capital does not appear to be a problem – efficiency is the issue. Legislative amendments are being proposed to consolidate the Acts.
Consultations• Expansion to the SBVCA is broadly endorsed by the BCTIA, regional science
councils, the PTC and of course the venture capital community that rely on tax credits.
Status• Finance provided an increase of $5M to the SBVCA in the last budget. They have
also called for the evaluation of alternative capital models and a review of the EIA.
#3–Introducing a Matching Capital Program for BCGoals 1. To ensure that promising companies in BC have access to expansion financing so the
province can retain long term economic benefits, and 2. Increase the presence of seasoned capital managers in BC while maintaining a balance
between tax credit sponsored and institutional backed capital supply.
Background • To ensure BC has a marketplace for capital that is sustainable in the long term it must
foster supply from institutional sources of capital.• The province of Ontario announced in its past budget that it would introduce a capital
model that relies on institutional investment ($90M) – to coincide with the announcement of phasing out the Labour Sponsored Fund tax credit programs over a 5 year period.
• BC had a similar model in place in 1995 that was a success. The province lags in terms of expansion capital and this “pre IPO” gap cannot be met with tax credits alone.
Consultations• Endorsed by the PTC & BCTIA with consultations now complete involving VC
managers and institutional investors.
Status• A complete evaluation of the program has just been completed by PWC and a revised
submission is planned for the fall.
Overview of BC Matching Capital Program
Matching Capital Fund$100 M
• Province contributes $80M to $100M over 3 years
• Earns capital back over7 to 10 years
IT Software LP$100 M Capital
Tech Energy LP$100 M Capital
IT Wireless LP$100 M Capital
Life Sciences LP$200 M Capital
• Every $1 of BC capital is match with $3 to $4 from institutional investors – up to $500M invested
• Investors earn capital in priority over BC government
• An amount equal to BC’s contributed capital is invested in the province
$
$ $
$
Portfolio Companies – 30 to 40 business investments over 5 yrs
#4–Marketing our technology opportunities in global marketsGoals 1. To ensure that innovative companies from BC continue to access at least one-third of
their venture capital financing from prime U.S. and Asian markets, and 2. To attract critical talent to the province – research & entrepreneurial – who are needed
to supporting the ongoing growth of our knowledge based industries.
Background • The Ministry is in the process of developing Sector Asset Maps that will assist our “In
Market Representatives” and technology associations in attracting capital and talent.• With LEBC now being transitioned back into the Ministry, technology associations will
be working to develop trade missions comprised of top researchers, CEOs and venture capital managers to forge research collaborations and financing syndication.
• A new section of the Investment Capital Branch will continue to work on addressing taxation impediments to the cross-border flow of capital and assess new capital models.
Progress to Date• A combination of branch capital investment and 8 missions to Europe and the US have
been completed resulting in significant capital leverage – next slide.
Status• Sector asset maps will be completed by this fall to time with placements of Ministry
IMRs.
Name Industry CityForeign
FinancingProgramCapital
Program Leverage
Celator Technologies Inc. Biopharmaceuticals Vancouver $40,000 $4,450 899%
Cellfor Inc. Biopharmaceuticals Vancouver $32,000 $2,068 1547%
GenoLogics Software Inc. Bioinformatics Victoria $6,300 $2,075 304%
Neuromed Pharmaceuticals Biopharmaceuticals Vancouver $25,000 $3,064 816%
NewspaperDirect Other Technologies Richmond $8,500 - 0%
NxtPhase T&D Corporation Energy Technologies Vancouver $9,000 $2,333 386%
OncoGenex Technologies Inc. Biopharmaceuticals Vancouver $12,800 $3,974 322%
QuIC Financial Technologies Inc. Software Vancouver $10,000 $6,774 148%
Tantalus Systems Corp. Internet Focus Vancouver $9,400 $580 1621%
TIR Systems Ltd. Other Technologies Burnaby $27,200 $2,600 1046%
Xenon Pharmaceuticals Inc. Biopharmaceuticals Burnaby $31,000 $3,250 954%
$211,200 $31,168 678%
Program Capital Leverage 2005/2006 - $M
In sum this strategy strives to:
1. Maximize the growth of our world class industry clusters by developing marketing collateral and policy that promotes foreign direct investment in British Columbia
2. Ensure that our province has an optimal supply of foreign private capitalto support the growth of our innovative early stage companies throughBritish Columbia, and
3. British Columbia can attract seasoned entrepreneurs, capital managers and skilled researchers to the province to support the needs of our knowledge based and value added sectors of our economy.
Linkages to the Ministry and the Five “Great Goals”:
1. British Columbia is recognized as a preferred place to invest, do businessand as a key gateway to the Pacific Coast,
2. To make British Columbia the best educated, most literate jurisdiction onthe continent, and
3. To create more jobs per capita than anywhere else in Canada.
Thank you for your time and consideration
Contact:
R. Todd Tessier, DirectorInternational Capital Markets SectionInvestment Capital BranchMinistry of Economic Development
Phone: (250) 952-0612Mobile: (250) 217-2471
Email: [email protected]