Crossing the valley of death \u2013 that perilous period between building a business and scaling it up \u2013 is an unfortunate rite of passage for Canadian entrepreneurs. <\/p>\n
Startup founders in other countries don\u2019t suffer in quite the same way. But the dubious distinction that has held our businesses back for decades is finally being addressed. <\/p>\n
The funding gap facing fast-growing companies in this country, infamously known as the \u201cvalley of death,\u201d is treacherous. Companies say there are options for smaller financings or investments up to a few million dollars, and many more choices in the tens of millions of dollars.<\/p>\n
But there is a desolate space between roughly $5-million and $25-million full of startups struggling to secure money to help them scale. It\u2019s the point where many do not survive. <\/p>\n
And those that do are often left permanently disadvantaged, with scant resources relative to their international peers, dragging down economic growth and exacerbating Canada\u2019s productivity crisis.<\/p>\n
It all \u201cleads to a type of stagnation, where companies don\u2019t outright fail, but they don\u2019t prosper either,\u201d Hans Knapp, co-founder of Vancouver-based venture capital firm Yaletown Partners Inc., recently told<\/a> a hearing of the standing Senate committee on banking, commerce and the economy. <\/p>\n \u201cRather, they trundle along a path of mediocrity, lacking the financial and human capital to properly reach their full potential in the face of international competition,\u201d he said.<\/p>\n Prime Minister Mark Carney\u2019s government has made a point of supporting larger Canadian businesses in the wake of protectionist U.S. tariffs and the subsequent need to bolster Canadian sovereignty. But virtually no effort has gone into fixing a failed financial ecosystem that has long forced innovative Canadian companies to either sell early or move abroad before they can grow to the point of attaining the national \u201cchampion<\/a>\u201d status that attracts Ottawa\u2019s attention.<\/p>\n Now, after gathering months of testimony and written submissions from dozens of expert witnesses, the Senate banking committee is on the cusp of releasing a report<\/a> offering solutions to this uniquely Canadian problem.<\/p>\n<\/p>\n Data from the Organization for Economic Co-operation and Development ranks<\/a> Canada third from the bottom<\/a> among developed countries in terms of both percentage of small- and medium-sized business lending as a share of total lending and of absolute value of loans per capita. That means Canadian SMBs have a harder time getting loans than their peers in other countries and that when they do, those loans tend to be smaller and more expensive.<\/p>\n The problem is only getting worse: investment in Canadian growth-stage firms fell to near zero <\/a>in the last quarter. Meanwhile, hundreds of Canadian SMBs plan to seek financing<\/a> in the coming months to take advantage of surging federal defence spending.<\/p>\n Open this photo in gallery:<\/a><\/p>\n Hamid Arabzadeh, co-founder and CEO of Ranovus, says despite his company’s progress, his experience with the Canadian capital market ‘highlights significant structural gaps.’Ashley Fraser\/The Globe and Mail<\/p>\n Hamid Arabzadeh is among a growing chorus of Canadian entrepreneurs urging Ottawa to act quickly.<\/p>\n In his testimony to the Senate and in multiple interviews with The Globe, Mr. Arabzadeh described the struggle of finding growth capital for Ranovus Inc., the company he co-founded 14 years ago in Ottawa that manufactures semiconductor components used in artificial-intelligence infrastructure. Somewhat ironically, Ranovus products are built in a foundry that was once a part of the now-defunct Canadian technology giant Nortel Networks.<\/p>\n Today, his company has 160 employees, hit break-even last year with revenue projected to double this year and boasts a valuation of roughly US$1.5-billion.<\/p>\n \u201cDespite Ranovus\u2019 progress, our experience with the Canadian capital market highlights significant structural gaps,\u201d Mr. Arabzadeh told the Senate in April, noting that only 17 per cent of the US$160-million that Ranovus has raised has come from Canadian investors. <\/p>\n Unable to find proper funding at home, he ended up going to California to get the growth capital he needed to cross the valley of death, he explained in an interview. Only then, he said, did major Canadian investors such as OMERS Ventures and the Business Development Bank of Canada (BDC) provide funding.<\/p>\n \u201cThere is a lot of follower capital in Canada but no lead investors,\u201d Mr. Arabzadeh said. <\/p>\n Raising capital in Canada, he said, usually provides \u201cmoney that is just enough for you to validate what you\u2019re doing,\u201d but not enough to scale up.<\/p>\n \u201cThen the next phase, when customers ask if you can scale, but you don\u2019t have any dry powder so you have to do a road show that will take six months or nine months,\u201d he says, \u201cand that is the valley of death.\u201d<\/p>\n While Canadian startups are out trying to raise cash, foreign rivals end up eating their lunch. Patrick Desrochers, co-founder of Ubiweb Media, a digital marketing agency that serves the small- and medium-sized business community, told<\/a> the Senate it can take up to a year to secure growth capital, such as a loan from the BDC. <\/p>\n \u201cSometimes that\u2019s just too long, and the opportunity is gone,\u201d Mr. Desrochers said. \u201cThat can be the difference between us being able to pivot and be competitive in the Canadian and global markets and us being chewed up by a U.S. competitor.\u201d<\/p>\n Even when Canadian entrepreneurs survive the valley of death and manage to build a multibillion-dollar business, the country\u2019s limited growth funding ecosystem often forces them to sell their business to a foreign buyer before it can finish scaling.<\/p>\n \u201cI wish I could keep it Canadian,\u201d Martin Th\u00e9riault lamented in an interview with The Globe<\/a> shortly after selling his business, Quebec City-based safety equipment maker Eddyfi Technologies Inc. to American welding company ESAB Corp. for roughly $2-billion in cash earlier this year.<\/p>\n \u201cI don\u2019t think we have enough Canadian businesses,\u201d Mr. Th\u00e9riault said. \u201cBut quite frankly at two billion Canadian dollars there is not a whole lot of people who could buy this company in Canada.\u201d<\/p>\n The issue is not a lack of money. Senator Colin Deacon, who is a member of the banking committee, did an analysis for an earlier report that found the federal government gives out roughly $4.5-billion a year to support innovative Canadian companies through more than 130 different programs. <\/p>\n \u201cBut how it is being piecemealed out is happening without any understanding of how it will enable these companies to gain traction,\u201d Mr. Deacon said in an interview. \u201cIt is not an incentive for the private sector to start getting involved, they are crutches being handed out.\u201d<\/p>\n The Senate heard several ideas for how to incentivize more private-sector lending and investment into growth-stage businesses, which are expected to appear in the forthcoming report.<\/p>\n Leverage pension fund investing<\/p>\n Among the more novel proposals involves a plan to open the seemingly bottomless pockets of Canada\u2019s world-leading pension funds to SMB lending. The challenge, industry experts say, is that no matter how much attention Canadian pension funds pay to domestic investments, they are simply too large to give SMBs the time of day.<\/p>\n \u201cThese organizations are of such a scale, they need to deploy $200-million to $300-million per relationship,\u201d Dino DeLuca, chief operating officer of Calgary-based private equity firm TriWest Capital Partners, told the Senate. \u201cThey don\u2019t have the staff to devote all the research and the diligence to make an investment of $15-million, $20-million or $30-million. It\u2019s $200-million plus.\u201d<\/p>\n Open this photo in gallery:<\/a><\/p>\n Private Debt Partners’ managing partner Jeff Deacon wants to address the problem of growth capital by creating the Canadian Private Debt Growth Fund.Cole Burston\/The Globe and Mail<\/p>\n To address that scale issue, Private Debt Partners founder Jeffrey Deacon is pitching the creation of what he calls the Canadian Private Debt Growth Fund. (Mr. Deacon is the nephew of Senator Colin Deacon. His uncle recused himself from asking questions during his nephew\u2019s testimony.)<\/p>\n Pension funds would be able to contribute several hundred million dollars each to the fund, which could then be dispersed by members of a consortium of private lenders. <\/p>\n Mr. Deacon said consortium members would need to put up at least half of the loan themselves, meaning if Private Debt Partners wanted to lend a Canadian company $20-million through the program, it would have to contribute at least $10-million of its own capital in order for the growth fund to cover the other $10-million.<\/p>\n To minimize the pension funds\u2019 risk, Mr. Deacon\u2019s proposal would have Ottawa guarantee half of their exposure to each loan, or up to 25 per cent of the total. <\/p>\n Mr. Arabzadeh of Ranovus told the Senate committee that getting a government backstop for the pension fund\u2019s contributions \u201cis a very cost-effective means for the federal government to stimulate investment in intangibles-intensive, innovative companies\u201d since the feds would not have to build more bureaucracy and would only have to pay anything in cases where loans are not being repaid.<\/p>\n The fund would rely on an advisory board with representatives from the government, the lending consortium and the pension funds to determine which lenders could have access to the fund \u201cbecause once a lender is admitted they need to have complete oversight over their investment decisions,\u201d Mr. Deacon said of his proposal.<\/p>\n \u201cThat is critical. We can\u2019t have the government or the pension funds in the weeds on investment decisions,\u201d he said. <\/p>\n Mr. Deacon has already started building a coalition of private lenders \u2013 including TIMIA Capital and FirePower Capital \u2013 willing to participate in the fund and he said the more lenders he can convince to join the better.<\/p>\n If successful, Mr. Deacon predicts that over five years the fund could generate between $3-billion and $5-billion in new lending capacity focused exclusively on Canadian SMBs. That is money, he told the Senate, that the private debt industry needs in order to keep up with demand. <\/p>\n \u201cAs I sit here today, there are 12 businesses and $70-million across seven provinces worth of transactions that we don\u2019t have the capacity to fund,\u201d he said of Private Debt Partners.<\/p>\n Mike Wallace, CEO of TIMIA and Trevor Simpson, head of private capital at FirePower, both said in interviews that they also have multiple companies in their pipeline that they are unable to fund, solely as a result of their own limited resources.<\/p>\n James Padwick, a partner at law firm DLA Piper who has worked with private lenders for years (Mr. Deacon refers to him as \u201cthe godfather of private debt\u201d), said taking the due diligence away from the pension funds would help address their scale issues.<\/p>\n \u201cYou can\u2019t take an 18-wheeler to deliver a pizza,\u201d Mr. Padwick said in an interview. \u201cThey have a big infrastructure, for them to look at smaller opportunities is too costly and inefficient.\u201d<\/p>\n Senator Cl\u00e9ment Gignac, chair of the Senate committee who has decades of experience as an economist, said in an interview \u201cthis kind of a growth fund, which does not necessitate a new institution whatsoever, I think would be very interesting.\u201d<\/p>\n \u201cI like this recommendation very much, but I could not presume what the decision of the committee would be as we still need to have a discussion among us if we will support such a recommendation,\u201d Mr. Gignac said.<\/p>\n Open this photo in gallery:<\/a><\/p>\n Mr. Deacon said that he has discussed his idea with Canada’s largest pension funds. But getting them to give significant funding and cede control of how that money is spent will be difficult, he added.Chris Young\/The Canadian Press<\/p>\n Mr. Deacon said in an interview that he has had \u201cgreat discussions with the Maple Eight\u201d about the idea (referring to Canada\u2019s eight largest pension funds), but getting them to write massive cheques and cede control of how that money is spent will still likely be a tough sell. <\/p>\n The challenge has only grown more acute as the private lending market has been plagued by a growing number of private fund managers that have blocked investors from cashing out<\/a> their holdings.<\/p>\n The funds under pressure are geared toward retail investors and promise the ability to make regular withdrawals despite those funds largely holding illiquid assets \u2013 such as shopping malls or office towers \u2013 that are difficult to sell, Mr. Deacon wrote in his prepared remarks to the Senate, in hopes of addressing what he described as \u201crecent headlines about distress in parts of the private credit market.\u201d<\/p>\n \u201cThe growth fund is built to be the structural opposite of what is failing and what we\u2019re reading about in the papers,\u201d he wrote.<\/p>\n Beyond making more money available to SMBs in a way Mr. Deacon argues is structurally sound, private lenders also boast the ability to deploy money quickly.<\/p>\n Ottawa-based Ranovus develops technology for artificial intelligence infrastructure. Mr. Arabzadeh holds the Odin 32 chip, left, the Odin 64 chip, right, in his hand. <\/p>\n ASHLEY FRASER\/THE GLOBE AND MAIL<\/p>\n Mr. Arabzadeh said in an interview that Export Development Canada spent \u201csix months running us around\u201d before backing out from offering Ranovus a $10-million loan. Private Debt Partners and FirePower Capital were then able to put together a $20-million debt financing round for the company in just one week. <\/p>\n \u201cWith that $20-million I went and expanded our facility, hired more people, all the things I needed to do to get ready for the scaling,\u201d Mr. Arabzadeh said. \u201cAnd that is what has allowed us to still be here.\u201d<\/p>\n The EDC declined to comment on its relationship with Ranovus.<\/p>\n Mr. Desrochers of Ubiweb, who told the Senate getting traditional lending can take up to a year, had a similar experience with private debt.<\/p>\n \u201cPrivate institutions were able to provide lending to us in 15 to 30 days. My jaw dropped; that\u2019s how fast it was,\u201d he said in his Senate testimony.<\/p>\n \u201cIt made all the difference, when we were under attack by a competitor, to be able to allocate the resources within our business and organize ourselves properly to put ourselves in a competitive position.\u201d<\/p>\n Launch new \u2018fit-for-purpose\u2019 banks<\/p>\n Canada\u2019s own banking sector is ill-equipped to close the valley of death funding gap by itself.<\/p>\n Darren Hannah, senior vice-president of financial stability and banking policy at the Canadian Bankers Association, said it plainly when he told the Senate: \u201cIt can\u2019t be a bank solution alone \u2013 clearly.\u201d <\/p>\n Jim Balsillie, the former BlackBerry Ltd. co-CEO who now chairs the Council of Canadian Innovators, told the Senate he believes part of the solution needs to involve launching entirely new banks built specifically to serve SMBs, also known as small- and medium-sized enterprises.<\/p>\n \u201cCanada should enable the creation of at least five or six new SME-focused banks designed to serve our business community with appropriate risk models and financing tools,\u201d Mr. Balsillie told the Senate. \u201cCanadian SMEs need fit-for-purpose banks to address their needs and begin closing this gap.\u201d<\/p>\n Other countries already do this. In the U.S., lenders such as Live Oak Bank, Huntington Bank and Enterprise Bank & Trust specialize in lending to small, medium and privately held businesses.<\/p>\n In Britain, Allica Bank Ltd. focuses exclusively on serving businesses with between five and 250 employees.<\/p>\n Canadian SMBs, Mr. Balsillie said, are not just underbanked; they are also being overcharged.<\/p>\n Miwako Nitani, a University of Ottawa professor whose research relates to the financing of entrepreneurial firms, submitted analysis to the Senate that showed the average interest-rate spread for bank loans between large and small business across other OECD countries is 1.05 per cent. In Canada, the spread is 2.26 per cent.<\/p>\n<\/p>\n For example, if a large business received a loan at a 5-per-cent interest rate, a small business receiving a similar loan at the average OECD spread would pay 6.05-per-cent interest. In Canada, that same small business would have an interest rate of 7.26 per cent on its loan.<\/p>\n Canadian SMBs are indeed paying more for bank loans than their counterparts in other developed countries. Introducing more competition, Mr. Balsillie said, is the only way to get Canada\u2019s larger lenders to offer more affordable financing to SMBs.<\/p>\n \u201cAttempts in the past to hector our big banks to meaningfully close these gaps have unsurprisingly failed because they are being asked to do something they are not designed to,\u201d he said. <\/p>\n In response to a Senator\u2019s question, Mr. Balsillie added: \u201cIf you put two or three de novo banks in there that start to take business away from them, they will behave.\u201d<\/p>\n Peter Routledge, who leads the country\u2019s main banking regulator \u2013 the Office of the Superintendent of Financial Institutions \u2013 has made speeding up the process of starting a new bank in Canada one of the main priorities<\/a> for his tenure. Still, the process of building several new banks from scratch \u2013 as Mr. Balsillie envisions \u2013 is certain to be a years-long endeavour.<\/p>\n Tax and regulatory incentives<\/p>\n In the meantime, changes to federal tax rules could incentivize more investment in SMBs much more quickly.<\/p>\n The National Angel Capital Organization, an industry group that represents more than 4,000 early stage investors across Canada, gave the Senate several recommendations<\/a> to consider. NACO proposes defining a new category of business that it calls the Canadian Sovereign Scalable Company, or CSSC.<\/p>\n To qualify as a CSSC<\/a>, a business must have either received at least $150,000 in angel or venture capital from a NACO member or a qualified VC fund within the previous 24 months, or be Canadian-headquartered, knowledge-based, with IP-intensive and high growth potential.<\/p>\n NACO would like Ottawa to introduce a 30-per-cent refundable tax credit for investments made in CSSCs.<\/p>\n The national credit would be stackable on top of existing provincial incentives \u2013 B.C., Manitoba, Nova Scotia and New Brunswick already offer credits to early stage and small business investors ranging from 30 per cent to 50 per cent \u2013 with a combined cap of 50 per cent, roughly in line with the Seed Enterprise Investment Scheme in Britain.<\/p>\n NACO also recommends allowing investors to defer capital gains on profits from CSSC investments, as long as those proceeds are reinvested into another CSSC within 12 months. That would encourage what NACO calls \u201ccapital recycling.\u201d<\/p>\n For public companies, expanding the flow-through share tax credit<\/a> to other sectors \u2013 as Toronto Stock Exchange operator TMX Group Ltd. has been urging<\/a> for years \u2013 would also help incentivize more investment. Currently, the federal 15-per-cent mineral-exploration credit allows resource companies to transfer tax deductions<\/a> associated with their exploration work to their shareholders. That in turn allows shareholders to offset their tax burden from elsewhere in their portfolios. <\/p>\n Companies across the economy, from agriculture to aviation to artificial intelligence, would stand to benefit from having flow-through shares apply to their sectors. <\/p>\n \u201cThere are ag tech companies that are developing very novel and important new technologies that are important to our future of agriculture in Canada,\u201d Jim Dale, CEO of investment dealer Leede Financial Inc., told the Senate, adding that there are many industries that have long prerevenue periods where they\u2019re spending money but not earning money.<\/p>\n Another idea that both Mr. Arabzadeh and NACO recommended is a domestic version of the U.S. Qualified Small Business Stock framework. The QSBS deduction exempts all capital gains (up to either US$10-million or 10 times the initial investment, whichever is greater) made on investments in businesses with up to US$50-million in assets from federal taxes. <\/p>\n Senator Colin Deacon called it \u201cindefensible\u201d that Canada is continuing to apply an industrial strategy that fails to recognize the reality of the modern innovation economy, though he and Mr. Arabzadeh are hopeful that the government will adopt many of the Senate committee\u2019s forthcoming recommendations.<\/p>\n \u201cWe have a massive productivity issue in Canada,\u201d Mr. Arabzadeh said. \u201cFrom the productivity perspective, we lose so many companies and it is because of financing.\u201d<\/p>\n","protected":false},"excerpt":{"rendered":"Crossing the valley of death \u2013 that perilous period between building a business and scaling it up \u2013…\n","protected":false},"author":2,"featured_media":749394,"comment_status":"","ping_status":"","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[15],"tags":[64,63,99,198,21369],"class_list":["post-749393","post","type-post","status-publish","format-standard","has-post-thumbnail","category-entrepreneurship","tag-au","tag-australia","tag-business","tag-entrepreneurship","tag-yesapplenews"],"_links":{"self":[{"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/posts\/749393","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/comments?post=749393"}],"version-history":[{"count":0,"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/posts\/749393\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/media\/749394"}],"wp:attachment":[{"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/media?parent=749393"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/categories?post=749393"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.newsbeep.com\/au\/wp-json\/wp\/v2\/tags?post=749393"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}