by Charles Plant | Jan 27, 2018 | Entrepreneurship
2017 was a remarkable year for Canadian Narwhals and we are pleased to release the Narwhal List 2018. We are continuing to build on our success at creating startups and now are beginning to show results at scaling our startups to world class.
- Three of the companies from last year’s list (Real Matters, Clementia Pharmaceuticals, and Zymeworks) went public.
- Varage Sale was sold, but the good news is that we did not lose it to a foreign buyer. Varage Sale was sold instead to a firm based in Canada.
- Compared to last year, we have almost doubled the number of firms that are on track to become Unicorns in the near future.
29 firms of the 50 firms on the list raised a total of $1.2 billion for an average round of $41 million per company, with 20 of these firms newly added to the list. This new group raised enough funds to replace a large swath of incumbent Narwhals from last year.
The Narwhal List identifies a set of young Canadian companies that have the potential to become successful on the world stage. It also points to possible financial pathways to turn these companies into Unicorns, which are closer to reaching public financial markets. The transition to the Unicorn scale and possibly public listings may give our firms the ability to compete on their own merits and have the currency necessary in public stock to fund acquisitions throughout the world that will lead to greater scale and world-class status.
There are a number of reputable lists in Canada that rank technology firms. The oldest is the Branham300. Generated by the Branham Group Inc., this listing is useful to gain a perspective on the comparative revenues of Canadian firms. Another well-known list is Deloitte’s Technology Fast 50™, which ranks Canadian technology firms according to their percentage revenue growth rates. The Technology Fast 50™ program rewards firms in their earliest years, when extraordinary growth rates are possible from a revenue base of C$50,000 (the minimum revenue to qualify as an applicant).
The intention of the Narwhal list is to focus on the ability of firms to scale up and reach world class status. The ranking system is derived from publicly available information and is capable of tracking all firms in the country—not just those that elect to participate by revealing private revenue data. It also enables any business to benchmark itself against other Canadian firms, Unicorns and the competition. Since the Narwhal List includes all firms, it is also a useful indicator for how Canada as a whole is faring in business incubation and growth.
You can see the Narwhal List 2018 here.
by Charles Plant | Nov 26, 2017 | Entrepreneurship
There are many challenges in the commercialization of physical technologies. and in creating world-class companies. But one of the greatest and most commonly cited challenges is Canada’s weakness in the commercialization of inventions.
This Impact Brief examined how the lack of appropriate government programs contributes to this problem. Using scientific research as a starting point, we embarked on a theoretical exercise to examine what support would be available if we chose to pursue the commercialization of specific university technologies.
The first problem we identified is that the way governments classify innovative technologies . Government agencies and strategies typically focus their investments on four main areas: information technology (IT), biotechnology, cleantech and advanced manufacturing. But they omit the classification for physical technologies, which we define as technologies arising from academic research in faculties of engineering and departments of chemistry, physics, earth sciences, and space sciences.
But physical technologies have a much greater impact on the economy of Canada than other sectors:
- They contribute almost eight times as much to Canada’s GDP as does the combined effort of the Information communications technology (ICT) and biotechnology industries.
- Industries employing physical technologies substantially outspend traditional ICT and pharma sectors when it comes to R&D.
- Worldwide, leading physical technology companies spend more in total on R&D than either ICT or life sciences, and are granted a significantly larger number of patents.
Physical technologies are distinct from other types of technology because of their commercialization path. Information technologies have a simple and well-known commercialization path without significant technological risk. The risk in IT is usually in market acceptance, and it is possible to obtain private capital to fund development as soon as some market traction is shown.
Life science commercialization is lengthy and costly. There are high technological risks that require substantial testing both of efficacy and potential for harm to get to market. But there is a system in place to support the path from research to market, albeit a complex system that requires companies to go through hoops to access federal and provincial funding, each of which require some matching. In biotechnology, there is often a known market which can easily be assessed prior to commercialization. Thus, much of the risk is technological.
In the physical technologies, there is another long and complex path to commercialization, understood best by the process to take a scientific discovery through the nine different Technology Readiness Levels before market readiness. Whereas in IT and biotechnology, the market can be identified very early in the path to commercialization, in physical technologies one must reduce the technological risk to some extent by the creation of a prototype before testing for market acceptance.
With such a path ahead, there are no government programs that support the early-stage physical technology commercialization without requiring some external matching of funding. And yet, due to the risks associated with physical technologies, the probability of securing external funding is very low, particularly without the ability to obtain market validation until product development has reached a stage where customers can understand its potential applicability. Without market validation, venture capitalists and other investors will not support a company. However, without their support, no matching funds are available so it is easier just to license the technology to a third party who can afford the investment. There should be a system that ensures that findings from basic or applied research are not left without further support as attempts are made to commercialize discoveries.
In particular, the process of requiring matching funds for each program needs to be reevaluated. Companies in biotechnology and in physical technologies have to go to tremendous lengths to secure funds when matching funds are introduced as a criterion for program eligibility.
Given the contributions of physical technologies to the Canadian economy, governments at all levels should examine whether this is an area that should be supported more broadly. If so, they should seek to establish programs that fully support commercialization efforts in that domain.
Read more about challenges in the commercialization of physical technologies.
by Charles Plant | Oct 26, 2017 | Entrepreneurship
Many years ago, having seen all too many financial forecasts, I coined the term ‘Phantasmagorical Forecasts’. Every year entrepreneurs across Canada set out to raise capital, capturing their vision and optimism for their ventures in the form of business plans and financial forecasts that are eventually presented to venture capitalists (VCs). Because you don’t get what you don’t ask for, we wanted to see whether these forecast could potentially be contributing to Canada’s challenge at scaling companies.
To do this we examined the financial forecasts of 88 companies that were seeking venture capital, strategic capital, or an opportunity to be acquired, selecting 35 companies whose forecasts were accompanied by fully-developed business plans and sufficient data to determine the company’s expected level of growth, capital consumption, and profitability.
What we found was a series of forecasts that, on average, expected a 160% compound annual growth rate (CAGR), about double what Unicorns actually achieve.
However, there are two critical flaws behind these forecasts. First, these forecasts anticipate 34% earnings before income tax, depreciation and amortization (EBITDA) in the final year of the forecasts, a rate that is significantly above the rate of profits experienced by the top public companies. Second, they also expect that it will only take an average investment of $3.5 million to increase revenue from a current average of $1.4 million to an average of $20.7 million in three years. Anecdotal evidence suggest that it would be more reasonable to expect an investment of $20 to $30 million to secure such revenue levels.
Therefore, it is clear that Canadian entrepreneurs are creating “phantasmagorical” forecasts that they predict growth rates that experienced practitioners know to be beyond the realm of the believable and achievable.
High growth comes at a significant cost in terms of the capital required. If firms consume vast amounts of capital to grow, they should not expect to be profitable while doing so. Entrepreneurs’ forecasts, while not realistic in terms of growth, should at least be realistic in terms of how much that growth will cost.
The scaling challenges that Canadian companies face are often ascribed to lack of capital. However, perhaps part of the problem is that firms are not aware of the amount of capital they will actually need. As a result, they may be raising too little money, expecting it to go farther than it actually can.
Equipping entrepreneurs with better knowledge concerning the levers of growth including the relationship between growth, capital and profitability, we may be able to improve outcomes and the ability of Canadian firms to scale successfully.
In the last ten years, we as a nation have focused on the quantity of startups, propelled largely by the massive and successful efforts by the provincial and federal governments in creating programs that nurture entrepreneurs. Our next opportunity is to focus on the startup quality. It is only through direct improvements in the quality of entrepreneurial efforts will we improve our ability to create world-class companies.
Read more on Phantasmagorical Forecasts
by Charles Plant | Sep 26, 2017 | Entrepreneurship
Canadian VC deal sizes continue to lag those in other countries. Canadian venture capitalists invested $3.2 billion in 530 deals for an average deal size of $4.9 Million US in 2016. Meanwhile, American VCs invested $69.1 billion in 8,136 deals for an average deal size of $8.5 million.
Venture capital (VC) is a critical piece of a healthy innovation system. Investments timed correctly can propel a fledgling company to new heights. But venture capital is inherently risky, and making the right investments in the right company involves carefully considering a number of factors, including growth potential, technology type, and deal sizes.
Canadian VCs made a strategic decision to invest the way they did as they could just as easily have chosen to invest an average of $12.3 million in 260 companies. This begs the question; does the smaller deal size result in smaller returns?
While deal sizes remain smaller in Canada, our rates of return have always been significantly lower than those in the US. The 10-year Internal rate of return for Canadian VCs now averages 4 and in fact this return has only been positive for the last two years.
But is there an “ideal” deal size? Is it possible to correlate the amount of investment a firm receives with its growth rate? By investing in smaller deals, are Canadian VCs inadvertently throttling the growth of Canadian companies, limiting their potential returns, and creating an ecosystem where it is difficult to get late-stage financing that is sufficient to create world-class companies?
Was the decision they made to invest in smaller deals correct, or is it possible that by choosing to invest this way, Canadian VCs have become the architects of their own misfortune?
To shed light on the subject, we looked at the investments of over 350 public technology companies, 90 Unicorns, and 147 other US companies that obtained VC financing in July 2017 and compared that to 131 Canadian companies backed by venture capital. We looked specifically at capital funding per employee and growth rates as measured by revenue for public companies and by employee growth for private companies. The data showed us that:
- Unicorns have the highest funding on a per employee basis
- California based companies have the next highest rate of funding per employee
- US based companies outside California fall next in the rankings.
- Canadian companies ranked fourth.
- Public companies have the lowest funding per employee and the lowest average growth rates.
The amount of funding provided by the VC industry in Canada is substantially below that provided in the US on a per-capita basis. But does this matter? The results of our research suggest two closely related trends:
- The more funding a company has, the faster it grows.
- The faster a company grows, the more funding it can get.
This is why the rich get richer in the VC world. California-based companies that get higher levels of per-employee funding grow faster than companies in the rest of the US. As a result, these companies tend to grow quickly and turn into Unicorns, creating a dynamic where California boasts a disproportionate share of total VC funding. Since the funding-growth–funding formula is deeply embedded and well understood in the Silicon Valley culture, they are significantly more successful.
With funding levels well below that of their US-based competitors and other jurisdictions, Canadian companies tend to get left behind. Consequently, our companies do not grow as fast, do not attract later-stage capital, and are typically sold before they can be turned into world-class companies.
Unless Canadian VCs start funding companies at levels on par with those seen in the US and particularly in California, we will continue to experience lower growth rates, the earlier sale of companies, and lower VC returns.
We believe that Canadian VCs are the architects of their own misfortune. They are making strategic decisions to finance companies later, less frequently, and with less money than companies in the US, thus potentially generating low returns that may be largely driven by their own practices.
Read our report on Canadian VC Deal Sizes.
by Charles Plant | Aug 26, 2017 | Entrepreneurship
We thought it was time to look at the success of government venture capital. The Business Development Bank of Canada’s venture capital arm (BDC) and MaRS Investment Accelerator Fund (IAF) were each established at a time when Canadian venture and seed capital were in short supply. Funding mechanisms such as these are considered critical to growing small technology firms, particularly in economies with restricted access to venture capital funding. However, since Canada’s innovation ecosystem has been criticized for its inability to create world-class companies, this Impact Brief has been published to look at these mechanisms more closely. In this Brief we set out to examine these two entities’ ability to pick and nurture world-class companies. To that end, we looked at 77 firms on IAF’s investment portfolio and 51 that had received BDC investments. These are our key findings.
- Both entities are effective at picking companies with world-class potential. Together they have nine firms on Impact Centre’s current Narwhal List, and 14 of their other investee businesses have growth rates that make them close contenders for Unicorn status.
- The IAF is more successful when investing in companies that are under three years old. Companies that receive seed stage capital three or more years after inception in life do not perform as well as those that received funding earlier.
- BDC is statistically better equipped to pick winners because it can invest significantly later, either when companies are more established or even as late as Series C and D rounds. Thus, their investees tend to have higher average total investments as a result of other fundraising efforts prior to BDC.
- With an average seed stage investment of $1.59 million compared to over $3 million for BDC, the IAF does not appear to provide enough capital to maximize a firm’s growth. As a result, IAF investee companies boast lower seed-stage investments, are slower to raise larger rounds of capital and are potentially slower to develop world-class potential. Governments would be well advised to support more significant financing at this stage.
- Both groups have investees with strong employment growth rates. However, as a result of the lower seed-stage rounds, IAF investees are, on average, half the size of BDC investees.
- The IAF may not be maximizing its potential for impact. With inadequate funds invested early on and without a co-ordinated strategy with Ontario Growth Capital (OGC), the IAF may be producing suboptimal results.
- If BDC were to adopt the creation of world-class companies as its objective, it would need to re-examine its current approach to investing. The current strategy is well suited to risk minimization and earning a fair return for the government. However, BDC does not have enough available capital to make the large bets necessary at both early and late stages to propel investees to world-class status more rapidly.
This study had two key objectives:(1) to review the IAF and BDC’s respective contributions to creating world-class companies, and (2), to highlight a critical issue.
If we as a country want to improve our ability to create world-class companies, then we need to take a different approach. We cannot think that we are Silicon Valley North and merely attempt to copy what works in California. The federal and many provincial governments are devoting considerable resources to developing Canada’s technology sector. What they are not doing is effectively using the data that come from their investments to do better.
Through investments in the IAF and BDC’s venture arm, the Ontario and Canadian governments have a marvellous opportunity to approach technology sector development with an in-depth understanding of best practices using a data-driven approach.
We could have at our disposal data that come from hundreds of investments to determine best practices, publish the results, and train entrepreneurs and investors on what does and does not work to improve our chances of success.
If the purpose of government venture capital is to invest hundreds of millions of taxpayer dollars in companies to boost the technology sector, then investing to develop knowledge may yield significant return in terms of improvements in the system.
Click here to read the study.
by Charles Plant | Aug 23, 2017 | Entrepreneurship
I just finished an Impact Brief on Public Sector Venture Capital and there were a number of thoughts I had while preparing it that I didn’t think belonged in a report so I figured I would include them here.
The report looked at the ability of BDC’s venture capital arm and MaRS’ Investment Accelerator fund to pick and nurture world class companies. These are two organizations that have invested in over $1 billion of government money in 500 Canadian tech companies.
As I was doing the research I talked with a number of other VC firms to get their perspectives as well. What I found in these conversations stunned me. It appear that very few VCs are looking back at the history of their investments to discover best practices either at investing or at growing world-class tech companies.
Several major venture capital funders have done absolutely no research on best practices and don’t intend to do so. One VC is planning to do some research. One even told me that he didn’t think it would be worthwhile to do this type of research as his companies were all different.
And then I thought about Google and perhaps the whole ethos of Silicon Valley. Google has initiated numerous projects to determine best practices within Google. An HBR article reports that Google initiated “Project Oxygen, a multiyear research initiative. It has since grown into a comprehensive program that measures key management behaviors and cultivates them through communication and training.” Project Aristotle was another study that looked at team effectiveness.
VCs like Openview regularly do research to help their portfolio companies and they share best practices publicly. CB Insights did research on why companies fail. All sorts of VCs blog regularly about the industries they are investing in and how to get better. Just check out websites for Bessemer or Andreessen Horowitz.
What the US VCs get is that research is essential to improve business practices. They are actively trying to get better.
In Canada there is virtually no practitioner based research on technology company best practices. There is virtually no research on investing practices. Governments across the country are investing over $5 billion annually to improve the performance of the technology sector and the application of technology but there is very little research to determine how we can improve these practices. If we’re spending so much money to get better, wouldn’t it make a little sense to spend some money to figure out how best to do that?
Shouldn’t we be trying to get good at getting better?
