New Zealand’s annual $2.1 billion funding gap

Hi Lance, $22.5m of angel investment in last 6 months – and that’s just the deals captured by YCF.  Throw in Pioneer’s new VIF $150m fund and things aren’t too moribund.

That’s a comment I received via email after a comment I made about the poor amount of funding in New Zealand on the Nine to Noon radio show yesterday. The comment refers to a press release by the NZ Venture Investment Fund (VIF) that headlines “Angel Investment bounced back“, with 95 angel deals last year to June and $36 million invested.

The $36 million quoted is an average of $384,00 per investment, but as an aside only $3.3 million of the last 6 months’ $22.5 million invested was for first rounds. I noted also that the 95 deals in the last year includes 24 quick follow-on deals with companies already in the list, and that they are often tranches, so in reality it’s 71 companies for an average of just over $512,000.

That’s nice, but it’s not enough. In fact the funding situation is woefully inadequate, so let’s walk through why I think so.

1: Anecdotes: The founders are not getting funding

I’ve spoken to hundreds of founders over the last few years, but it took Southgate Labs to come up with some better evidence for the number of opportunities out there.

They launched Rabble.co.nz on the 2nd of September, targeting early stage and high growth kiwi software companies who are “most likely to create the future“. Two weeks later and the number of companies listed is 242. The list is not exhaustive by any means, and excludes technology, biotech and other companies. (I’m not affiliated with the site at all)

Turning to the line by line Young Company Finance (YCF) reports issued by VIF, we see that the matching category for the rabble is “software and services“, and that 21 of the 71 companies that received funding in the last year were in that category. So there is room for more a lot more Rabble categories.

As I write this, the Rabble includes just 7 of those 21 companies, which is evidence that the Rabble is under-reporting the size of the community, as indeed you think it would be after only 2 weeks.

But that’s not the story. Many of the companies on the Rabble site are far too large for angel funding, and they need more substantial dollars. Perhaps they have never needed early stage funding as they used lean startup techniques or self-funded, or perhaps they obtained funding from elsewhere.

So we turn to our Venture Capital sector. However that’s not coming to the rescue very quickly, as there were only with a handful of deals delivered in the last year. I know of two from Movac.

Overall the word I hear from founders is that we have a genuine market gap in the $500,000 to $5 million range. It’s getting better, but there is still plenty of scale required and many companies out there that are potentially investable that do not have access to funding. 

2: Facts: The funding gap versus the USA

US and NZ Angels

Angels are high net worth individuals investing into early stage deals. A quick search reveals, as expected, that USA Angel funding is huge, with this article from EquityNet quoting giant statistics:

U.S. Angels invest a total of around $20 billion per year in around 60,000 businesses.

This is verified by the Center for Venture Research’s 2012 report, showing $22.9 billion was placed into 67,030 investments by angels. (As with New Zealand, the formally tracked investments are suspected by many to be dwarfed by the informal market.) On a population-adjusted basis that would mean New Zealand angels would need to invest US$321 million (NZ$387 million)  into 940 companies each year to match the USA.

Given that even when we had “bounced back” to $36 million as measured by NZVIF, that’s a gap of $350 million in angel investment each year. Let’s make the assumption that this is consistent over the last five years, so that means we were missing $1.75 billion in angel funding over that period.

The average US angel investor, by the way, invested US$85,000 each last year, call it NZ$100,000. That’s a nice benchmark for considering whether someone is acting as an angel investor or not.

US Venture capital

The USA’s National Venture Capital Association shows 841 active firms with 1269 funds at the end of 2012, with $20 billion in funds raised during the year, and $200 billion in VC funds under management. 

On a per population basis New Zealand should have raised US$314 million each year, and have US$3.14 billion in VC funds under management from 12 active VC firms with 18 funds, averaging US$110 million per fund.

The reality is starkly different.

New Zealand Venture Capital

The NZ Private Equity and Venture Capital Association lists seven Venture Capital firms, but it’s not that simple, and we need to look at each member:

  • One of the list is NZVIF itself, which is a fund of funds, not a VC firm. So that reduced the 7 to 6.
  • The next is Cure Kids Venture, but on their website they clearly state that they are a small investor in the angel space attracting SCIF money, they don’t state their funds under management and their investments are listed in the YCF report, with all the other angels, so that’s 5.
  • The West Coast Development Trust is a member, but as far as I can tell is one of the regional trusts with a broad array of investments, and is not active in VC space. So that’s 4.
  • iGlobe Treasury has $31 million under management, however the fund was raised in 2003, but they show just 6 investments in their portfolio, the last news on their website is from 2003, are deemed inactive and so that’s down to 3.
  • BioPacific Ventures was founded in 2005 and operates in Australia and New Zealand, and “covers the spectrum from agriculture to food to health & wellness“. However they state “as BioPacificVentures approaches the end of its fund-cycle the portfolio now comprises only 6 companies“. Direct Capital, who it seems drive the fund, show seven BioPacific portfolio companies, with the last investment made in 2008, five years ago. They are inactive and so that’s 2.
  • Pioneer Capital raised a $150 million fund in July this year. Their previous fund invested into SLI Systems at the right time, as well as MOA and Orion Health. They invest into more mature companies in general, and raised money from institutions like the NZ Super Fund as well as NZVIF. As the NZ Super Fund press release states “Our investment capital, with a target range of $10 – $30 million per investment, is primarily designed to fund expansion, which may include acquisitions“. So while arguably Pioneer Capital Partners are not a VC fund as they are later stage, let’s leave them in the VC list.
  • Movac has a fully invested $20 million fund and raised a $42 million fund in July 2012 for early expansion. However in the year and a quarter since then they have made just two four investments, and one of them was a signalled follow-on investment from their previous fund. I expect one or two more to come soon. (Updated after a tweeted clarification from Movac’s Mark Vivian. The Movac website is out of date.)

So that’s just two VC firms in New Zealand. But NZVIF’s website also lists TMT, Valar and No. 8 Ventures.

  • TMT is another fund co-led by Direct Capital. TMT’s last investment was in April 2005, 8.5 years ago. I see it as inactive as an investor.
  • Direct Capital itself is a well regarded PE firm that raised $325 million in 2010, their fourth fund. They list 10 companies in their current portfolio, with the last investment in 2011. However they state that they have made 40 investments since 1994, and that they target investing between $10 and $60 million per deal for companies with over $30 million of revenue. This means they are playing well above the VC space and is not counted as a VC. Excluded.
  • Endeavour Capital self-identifies as a “leading private equity company”. They tried to raise a new fund in March 2009, but it seems this did not succeed. The latest investments I could find were from March 2008. Inactive.
  • Valar Ventures does not appear to be active in New Zealand at the moment – their website points to a global search. However they can well sit back well after investing twice into Xero, well before the recent valuations. NZVIF states that they are a $40 million fund. Inactive in NZ.
  • No. 8 Ventures is fully invested, and has been for some years, and are working through the four or so portfolio companies, including Martin Jet Pack. Inactive.

So with Movac ($42 million), Pioneer ($150 million) and let’s add Valar ($40 million) we have $232 million of active domestic VC funding, all raised in the last two years.

However to match the USA’s raise of $20 billion each year in population adjusted terms, New Zealand needs to raise US$314 million, or NZ$381 million, each year.

It seems like we are not doing too badly until we realise that there has been no other venture capital raised since 2007, and that Pioneer is mainly a private equity player. Including Pioneer we have an average of just over $80 million raised each year over the last five years, which $300 million short of the total required, or $1.5 billion missing in VC funding over the last five years. 

Private Equity

The NZVCA lists 20 private equity firms, but only a handful are based in New Zealand, including Maui (raised $250m in 2012), Direct Capital ($325m in 2010), Knox Partners (?), Waterman (last raise 2010, $125m total), Kinfolk (new, backed by several HNWI, ?), Pioneer ($150m in 2013) and Pencarrow ($124m in 2011). That’s a total of $964 million from 2010 to 2013, or let’s call it an average of $250 million per year.

Those numbers sound big, but compare them to the size of private equity funds raised in the USA, which totalled $43 billion last quarter, and over $100 billion for the last 12 months. In NZ terms that’s equivalent to NZ$1.7 billion of new funds each year. So as big as those private equity firms seem, there is a funding gap of $1.45 billion each year versus the population adjusted US equivalent, and if we assume that 2009 and 2008 were similar (although they were probably close to zero) then the overall five year funding gap is $7.25 billion.

Or to put it another way, over the last 5 years we are missing the creation of 22 extra Direct Capital’s.

Overall Funding Gap

So overall we have an estimated five year funding gap of:

Angel: $1.75 billion
Venture Capital: $1.5 billion
Private Equity: $7.25 billion
Total: $10.5 billion, or $2.1 billion per year

Each of the three categories is important, as each category can be used to grow companies. The most important issues to solve now though are the angel and venture capital funding gaps, a collective $3.25 billion, or $650 million per year. Access to this capital will help accelerate New Zealand’s economy dramatically, but it has to be wisely placed. Let’s make sure it comes from New Zealand as well, as that will have a far great overall impact on our economy.

Now there are a lot of caveats here in this very back of the envelope calculation. Please let me know where it is wrong. I’m sure, for example, to have missed out some key players, and the angel investments in particular are substantially undercounted. The collective statistics miss, for example, the $8 million that Vend raised this year, the emergence of Milford Asset Management in the private investor space and offshore investment into NZ.

However I would hazard that the USA has the same measurement problem, underreporting a vast unmeasured market for angel and private funding market, and even if not, the funding gap is still vast.

3: It’s trivial compared to what we need

The real issue at stake here is the size of the prize versus the size of the investment. Sir Paul Callaghan wrote and talked about the need for New Zealand to generate $40 billion of technology-led exports, and I believe this is an achievable goal.

The good news, in my opinion, is that many or most of the companies that will generate those export dollars in the future already exist. They will need to keep growing, and for a long time, and the challenge we all face is that they need funding and support as they do so.

To get there both as individual businesses and as a country we need to think at scale, and not be content with patting ourselves on the back at the small flow of small deals. We need to increase our ambition, our funding and our strategic playground.

We can start by addressing that $650 million annual early stage funding gap, and we are making a start with Punakaiki Fund, which closes on Wednesday 2nd October

About Lance Wiggs

@lancewiggs
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One Response to New Zealand’s annual $2.1 billion funding gap

  1. Hi Lance-
    I appreciate your analysis and concern over the amount of private equity available to Kiwi entrepreneurs. As you may know, I am a long-time US angel who has spent some time in New Zealand over the past decade.
    While your general thesis of a shortage of capital for entrepreneurs in New Zealand may, in general, be correct, I think it is inappropriate to compare the VIF data on Kiwi angel investment to Jeff Sohl’s US data collected by the Center for Venture Research. Jeff surveys private investors in the US and extrapolates that data to the entire US. The CVR report points to 250,000 angel investors, funding 60,000 companies with $20+ billion annually. As Scott Shane has pointed out in Fool’s Gold, these numbers seem to be accurate but are surely not reflective of US angels who join groups as is measured by the VIF data for Kiwi angels. Shane suggests that Sohl’s data includes those private investors who may invest only once or perhaps even only $1000 per company. It also includes angels who typically invest $500,000 to $5 million in startup ventures. Less than 10% of Sohl’s angels joins groups and probably invest $1-2 billion per year. So, you are comparing informal startup investment in the US (which probably includes a significant fraction of friends and family investment) to investment in New Zealand by angels who join angel groups and are therefore measured by VIF and Young Company Finance. A better comparison would be the VIF Kiwi data to the US Halo Report, published by the (US) Angel Capital Association and the Angel Resource Institute in their Halo Reports for US angels in groups.
    I have looked closely at Kiwi angel investing over the past five to ten years and find the level of investing comparable to similar populations in the US (such as Boston metro and the states of Oklahoma and Wisconsin – where we have segmented data for US angels). But, as you rightly point out, a greater fraction of current angel investment in New Zealand is follow-on investment in companies previously funded by Kiwi angels. Of the hundreds of Kiwi entrepreneurs that angels have funded in the past decade, only a precious few have enjoyed attractive exits. (We angels are investors, after all, so getting to an exit is critical to our continued engagement in this asset class!) Kiwi angels find themselves supporting their existing portfolio of companies with follow-on funds, rather than funding new startups. Yup…it is a shame that all that money is not being used to fund new company formation, but it often takes multiple rounds for companies to achieve the milestones necessary to exit.
    As you know, formal angel investing (through angel groups) is rather new to New Zealand. It appears that some of the early Kiwi angel investments are now exiting and more will enjoy attractive exits in the next few years. This will benefit entrepreneurs, angel investors and New Zealand, by providing capital to continue to support the ecosystem. It is a safe assumption that many exited entrepreneurs will then become investors in new startup and, in fact, expand capital sources for entrepreneurs in New Zealand.
    So, we agree that the $30-$50 million that Kiwi angels are investing in startups over the past five years has shifted from primarily in first rounds to supporting existing portfolio companies with follow-on funding. That is not surprising to me, considering the stage of development of the angel community in New Zealand. Where we might disagree is the level of activity of the Kiwi angel community to those in the US and elsewhere. It is my sense that Kiwi angels are more active than most communities of equivalent population, especially considering the geographic diversity of New Zealand angels.
    Respectfully,
    Bill Payne

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