Venture capital money continues to dry up

By Mark Noble | February 17, 2009 | Last updated on February 17, 2009
3 min read

It may be no surprise given the current economic climate, but investments in Canada’s venture capital market reached a 12-year low in 2008.

Venture capital investment dropped 36% last year, from $2.1 billion in 2007 to $1.3 billion in 2008, according to the industry’s statistical report released today by Canada’s Venture Capital & Private Equity Association (CVCA), which used data from Thomson Reuters.

The fourth quarter, which represented the worst of the stock market downturn, coincided with a big drop in venture capital financing. Between October and December, only $302 million in investments was doled out, a 43% reduction from the $526 million invested in the fourth quarter of 2007.

“These statistics demonstrate the declining availability of capital in the venture capital industry, which has real repercussions for Canada’s ability to drive innovation and to develop the knowledge-based economy we need to compete effectively on the global stage,” says Gregory Smith, president of the CVCA and president of Macquarie Capital Funds Canada. “The availability of VC dollars has been eroding for years, a trend that has been exacerbated by the sharp economic downturn. We are failing to capitalize on the potential of our entrepreneurs and small growth companies, which have traditionally been vital drivers of jobs and prosperity for Canadians.”

The most startling feature of 2008 was the retreat of foreign capital from the Canadian marketplace. During the heady days of 2007, when credit and leverage remained strong features of global finance, U.S. and foreign investors made up a significant proportion of the Canadian VC market.

In 2008, foreign venture financing deals all but disappeared. American VC funds and other foreign investors were responsible for $371 million worth of deals in Canada in 2008, less than half the $845 million they contributed to deals in 2007.

American and other foreign investors accounted for only 28% of all disbursements in Canada last year, compared to their 41% share in 2007.

The CVCA believes the decrease in foreign investments helps explain a decrease in the average venture financing deal size in Canada, given the importance of cross-border cash sources to venture capital syndicates.

Company financings averaged $3.6 million compared with an average of $5 million in 2007.

The retreat of foreign capital has left a declining domestic venture capital pool to fund the country’s start-ups. Canadian VC funds invested $954 million in 2008, which is down 22% from the $1.2 billion they accounted for one year ago. Canadian private-independent funds contributed $330 million to the market, which is only 8% shy of their $360 million in 2007.

Not far behind them were labour-sponsored venture capital corporations and other retail funds, accounting for $310 million invested and for a relative share of 23% in 2008. However, in real terms, retail fund activity fell 24% from the year before, when $406 million was invested.

These funds are only a shadow of the presence they once had. For example, data from Thomson Reuters shows that labour-sponsored vehicles were responsible for nearly $1.5 billion in new investment in 2003. There has been a steady decline in their presence, due to poor performance and a planned decrease in the tax credits available to investors in Ontario.

Increasing tax incentives to invest in VC funds is one of the pillars of a four-point commercialization program being proposed by the CVCA for governments to address what it calls “systemic obstacles to increasing VC investment.”

It’s also recommending improving the scientific research and experimental development (SR&ED) tax credit program, setting up a third-party managed fund-of-funds to invest in promising Canadian companies, and enabling greater use of government procurement/offsets to encourage domestic and foreign investment.

On a regional basis, the bulk of VC money continued to be dispersed in Ontario. Ontario VC activity involved $570 million invested in 119 companies, down 40% from $950 million in 2007. The province saw a small erosion of its national share, taking 43% of all disbursements in 2008 versus 46% one year ago.

Quebec saw a sharper proportional decline, dropping to 26% of total activity in Canada, from its 2007 share of 31%.

CVCA reports that IT start-ups continued to account for close to half of all disbursements in 2008, with 174 companies taking $644 million, as compared to $1.1 billion one year ago.

Clean tech energy companies, however, remained relatively steady in their ability to attract investors. Thirty-one companies financed with $187 million more closely approximated trends in 2007, when $198 million was invested. This gave energy and environmental technology sectors 14% of all disbursements, up from 10% the year before, well above the typical 4% average of prior years.


Mark Noble