Lance Wiggs

As this post mentions Punakaiki Fund Limited it could be construed as an advertisement for our public offer for New Zealand residents. So here is the link to the Product Disclosure Statement and you can invest online at Snowball Effect or directly with us.

 

The main reason for the post about Trump yesterday was to make the point that the US economy is strong, and, as a friend who is in Boston just messaged me, “People will get on with it” and that “they are relieved it is over.”

But I want to dive deeper into the potential impacts for New Zealand, which are not all that bad, jokes about US emigration to New Zealand aside.

The guiding presumption is that Trump will downplay some of his more radical rhetoric – especially his foreign policy statements implying he would use nuclear weapons. If that happens then all bets are off, but he is a lot smarter and will be better advised than his campaign would lead us to believe.

Trump’s 100 Day Plan

Trump’s Contract with the American Voter is a good read to determine what we are potentially in for.

Trump wants to propose a constitutional amendment for term limits for congress members – but that will be very hard to get past those congress people themselves. The perverse result would anyway be more power to the funders, rather than less.

He also wants to reduce the payroll to government, which every Republican president wants to do and few to none have ever achieved, as the chart below makes clear.

Obama is the only recent president to lower the number of public sector jobs.

Trump also wants to renegotiate or exit NAFTA, label China a currency manipulator (which will kick in trade barriers) and not sign the TPP. These are all doable – even NAFTA, which requires use a letter and six months notice to the two counter parties.

Trump will also remove environmental protections, unleash development of fossil fuel projects and cease climate change mitigation efforts.

He intends, and with a Republican Congress he is likely to, to lower the corporate tax rate to 15%, allow offshore funds to be repatriated at 10% tax and lower tax for rich people.  That will be an interesting trick considering the promise to increase spend on military and a need to not overspend too much. On the other hand increasing deficits when long term interest rates are so low is not silly at all.

Obamacare is for the chop, but neither Trump nor Republicans have any credible alternative yet, so expect turmoil and plans written by health care industry lobbyists to dominate. Trump also promises to make FDA drug approvals faster, which has good and bad implications.

Finally there are a number of anti-immigration measures, including the fabled wall, deporting 2 million people, tighter immigration checks and suspending immigration from “terror-prone regions.” These have a concerning police-state overtone.

There is more, including changing the balance of power in the Supreme Court, funding for non-public schools, tax deductions for childcare and eldercare and PPP programs to invest $1 trillion in infrastructure. That last one could be interesting – the USA’s transport infrastructure, for example, is long overdue for an overhaul.

It’s not all workable – but elements will certainly get through.

Beyond the 100 day plan Trump has incited racism, sexism and a general anti-education sentiment in the USA. It’s worrying to think about where this will end, and the USA certainly has unfinished business with slavery, the civil war and indigenous Americans.

Implications for New Zealand

The main potential implications for New Zealand, I see, are changes in the US economy, changes in trade barriers and climate change mitigation progress.  The other policies, while huge domestically in the US, do not really change things in New Zealand.

We do, however, have to be aware of and deal very quickly with the real issues that Trump and Brexit voters are concerned about, lest we fall in the same direction. That’s up to all of the political parties here, and National especially as the government. They are doing remarkably well for a 3rd term right of centre government, but more is required.

We are lucky to live in one of (if not the) best places in the world, and our politicians do care about social issues as well as driving business.

The US Economy

A change in the US economy would affect demand for imports, global investment returns and pricing of local investments.

The economy is due for some turmoil but overall Trump is a pro-business president. The policies he is pushing for, along with the Republican House and Senate, will defang or remove business oriented regulations, like environmental and safety mandates. Those taxes on business and high net worth individuals will fall and little to change in reality for Wall Street.

On the downside some sectors and people will suffer, in particular businesses exposed to elements of health care, the environmental sector and, more critically, people with low income who need government support. It’s  a strongly held belief by many Republicans n power that cutting taxes at the expense of social payments is a good, and as Trump’s budget is ludicrous something has to give.

Meanwhile other sectors will boom, including, at least temporarily, industry exposed to fossil fuels and those infrastructure projects.

The US Equities Markets will be fine in the short to medium term. Investors are realising this, and, despite the dismay at Trump’s election, share prices are rebounding.

Indeed it would be surprising for a billionaire to do much to cripple the global investment markets – as that’s the primary way for billionaires to make money. I would not be surprised to see some market volatility as the reality of Trump’s appointees and policies become clearer over the next few months. But despite his rhetoric I don’t expect to see a sabre-toothed regulator placed over Wall Street, and expect other “business friendly” policies to emerge. I put business friendly in quotes as defanging regulators is a short term move – and tends to foster crises later on.

Meanwhile the sheer size of the US economy is hard to grasp sometimes. Their GDP is over $18.565 Trillion, and increased by $509 billion in the last year. Let that sink in – the USA grew, at $509 billion, by 2.8 times the size of New Zealand’s own GDP last year. The US GDP itself is 100 times as big as New Zealand’s GDP and the market is bottomless for New Zealand exporters.

Exporters to the USA

A change in the trade barriers would affect New Zealand’s relative ability to export and get good margins for products and (to a lessor extent) services in the USA.

Companies marketing to the US do so because of that vast economy size size. The economy growth rate is a relatively trivial factor versus the addressable market.

What’s more important is the confidence that US buyers have. New Zealand companies exporting to the US often do so on a basis of delivering something that is better and cheaper, and it’s in tough and turbulent times when buyers are looking for alternatives. So if times get tough we can rely on the size of the US market and hungry buyers looking for alternatives, and it times are good – well then times are good.

Trump wants to tear up trade agreements, and that means we can expect to see  high tariffs on imports. While that’s going to affect New Zealand companies exporting to the USA, our existing trade agreements with the USA are not that great anyway. Given that we have a poorer deals than Canada, Mexico or even Australia then we will gain comparatively if they are broken and the stasis quo remains with New Zealand.

The TPP won’t pass, although we could be surprised. It was a poor trade agreement per se, and especially for us as it skewed sharply to the USA with, for example, chilling copyright provisions dictated by the MPAA and RIAA. Overall it seemed too complex to deliver the comparative advantage to each country – economic benefits that Adam Smith and David Ricardo rightly pointed 200 years or  more ago.

Perhaps we now have the opportunity to recast TPP a treaty for the remaining countries, removing the US-imposed clauses before that happens, and adding maybe some more protection for domestic workers in each country. New Zealand could even take the lead on this, redrafting a simplified agreement that leaves in the benefits granted to every other country but takes out those demanded by the USA.

 

Net net – I see that New Zealand exporters of physical goods may be affected, and especially commodity exporters. But commodity exporters have it coming, and they should at least be well diversified, but more importantly adding more value to their products. (Fonterra – please call Lewis Road Dairy and ask about their margins.) High value products are less affected by price and tariffs, so it’s another nudge to New Zealand exporters to move up the value chain. Companies selling mainly services, such as SaaS, should not be affected, as these are too easy to deliver from anywhere without barrier.

Early signs for one hardware exporter that I know well are good – their own distributors are very positive about the future, perhaps seeing less regulation and tax as driving their businesses forward faster.

Climate Change

Trump’s climate change denialism is real – he has been consistent on this for years. Coupled with a Republican House and Senate, many of whom are who are underwritten by the Koch brothers, we can see that regression is certain.

The impact on New Zealand is the global impact – the loss of momentum to lower emissions and the acceleration of sea rise, extreme weather events and loss of habitat.

On the positive side, however, it’s increasingly clear that the switch from fossil fuels is becoming realistic without subsidies – especially if subsidies to the older industries were removed. Tesla and Wrightspeed are showing the way to a electric future that delivers better products (like faster cars), cheaper costs and reduced emissions. The price of solar generated power is falling fast, and once installed they are there forever. States, like California, meanwhile can and will keep their own incentives for lower emission approaches.

Here in New Zealand there is little we can do about the climate change policies of the USA – except for leadership by example. We do not have the funds to invest in the next Tesla, but we do have the ability to nudge, as Vector is doing, to a better future.

Impact on New Zealand based High Growth companies 

The high growth New Zealand based companies that are doing business in the USA, and I am not constraining this to those with Punakaiki Fund investment, are succeeding because they are providing disruptive services. A disruptive product or service does well in a disrupted society, as buyers are looking for change. Pushpay provides alternative easy payment mechanisms, Melon Health lowers the cost to insurers paying for delivering health care, Vend makes it easy for stores to set up and expand and Xero changes the way the accounts are done, while reducing costs.

There will be category winners and losers, absolutely, with Orion Health’s share price affected today, but overall high growth companies are far more concerned about the next sale than the overall economy.

They are, like every company, potentially affected by exchange rates. But it works both ways, as if the USD falls versus the Kiwi then we will probably see other currencies rise to compensate. Companies will also see benefit in reduced costs, especially for high cost things like Amazon Web Services (AWS).

Above all this shows, as Brexit did, that it pays to diversify your markets. Punakaiki Fund’s portfolio is only abut 15% exposed to the US market, so we are not expecting any material change. And for those bashing Xero’s relatively slow uptake in the USA – the same benefit applies to them.

However so far we’ve seen little negative change in currency rates or market indicators, but I feel for the people of the USA. This post is about the effect on business here in New Zealand, but I worry deeply about the effects of the divisive campaign led by Trump.

 

As this post mentions Punakaiki Fund Limited it could be construed as an advertisement for our public offer for New Zealand residents. So here is the link to the Product Disclosure Statement and you can invest online at Snowball Effect or directly with us.

 

It’s hard to see much hope for the world now, but let’s look for some brightness in the despair of the prospect of a Trump presidency.

10: The entertainment will not stop – especially when Trump gets his Twitter account back.

9: Trump clearly doesn’t like hard work, so don’t expect him to drive through major changes in legislation that require that.

8: The Republicans in the House and Senate have huge differences of opinions with Trump – so expect some issues will never be resolved.

7: At heart Trump is really a liberal on many social issues, so if he has a conscience don’t expect too much action on LGBT rights or abortion. Sadly he doesn’t seem to have a conscience.

6: It’s going to be a lot cheaper to travel to and buy things from the USA, just like the UK at the moment.

5: The US economy is vast, irrepressible and resilient – it can and will keep steaming ahead, despite what happens in Washington. Wait for the stock markets to drop 40% then invest. Or maybe 60%.

4:  Gun sales will fall, as they only rise with Democratic presidents, especially black ones.

3: Expect an abundance of news about the clueless and constantly churning staff working for and placed by Trump.

2: Fox News and their ilk will have nobody else to blame for their manufactured woes.

1: New Zealand tourism will boom – although we may have to enforce immigration law for US visitors.

 

Today someone in a van full of workers threw egg at me, while I was cycling to work. He was a lousy tosser, and the egg ended up on the street. It was as I was waiting to turn right into Commerce St from Quay St.

I chased the van down, much to their surprise, and the driver stonewalled and denied everything. I suspect I could have got more empathy out of the rolled up carpet in the front seat next to him – it was pretty obvious that someone in the van had thrown the egg.

I didn’t call the police – there was no time, and is it worthwhile to call 111 for assault with an egg? I didn’t even get a photo of the van, but here are the eggy remains after I returned from chasing the van.

Last week somebody stole my bicycle – it was locked up right in front of the ATEED, NZTE and Callaghan office building – and taken while I was inside NZTE’s offices assisting them help a number of high growth companies.

I got a lot of kind offers to help, including from someone inside ATEED. But there is no video track record of the bike’s last movements and the chances of recovery are slender. Do look out for those copper pedals though – they are quite distinctive.

Yesterday I was riding our tricycle down a temporary short one-lane road by Victoria park – put in place for the Auckland marathon. The driver of this NZ Bus car, which I caught up to later, wasn’t content with waiting a few seconds and honked and honked from behind me, even though there was no place safe for me to go. The trike normally carries our wee baby – this time it was just a trolley’s worth of groceries at risk.

These NZ Bus cars, by the way, are constantly illegally parked in the bus lane on Victoria Street West, opposite the park. I’ve yet to see one ticketed.

The day before this numpty driving a truck decided to do a multipoint turn in the middle of Quay St during the pedestrian phase of the lights in a weekend that saw a cruise ship in town.

None of these incidents were reported officially. Our family has tried that before. The worst incident was where a woman driving a car deliberately went through a stop sign, hitting and almost killing my wife who was on a bicycle. The driver was not charged with anything, despite a traumatic visit to the police station and provision of plenty of evidence. While the woman who was driving made a mistake, it was one that almost resulted in death and the onus was on the police to handle this with the correct emphasis. They did not.

I see plenty of other bad behaviour when I’m on my motorcycle, driving my car or walking.

Riding a motorbike has long been accepted as a risky endeavour and we all know that riders need to be constantly vigilant. We know that drivers will turn on front of us, even deliberately try to move towards us, and the recent spate of distracted phone watching drivers are a nightmare to navigate. Motorcyclists can spot lousy and distracted drivers within a second or two – and so can the police. They are not fooling anyone, including themselves.

People in cars, meanwhile, are well protected by infrastructure that favours them and strong safety systems in cars. Have a crash an you will almost certainly walk away, at least at city speeds.

But there is no protection for people walking across intersections when drivers of cars or trucks choose to run the red lights. There is increasing but still little protection for cyclists, who have far greater exposure to be hit by those cars. There is no mandate for side-protection on trucks to prevent tragedies that result in death. The distracted driving rules still allow for touching phones – whereas in NSW the far more effective rule is that you can only do so when passing it to someone else.

Accountability

What people do is driven by their values, and also to some extend by what they feel they can get away with. New Zealand has worked hard on changing the values associated with drink-driving, and backed it up with testing campaigns that are seen positively. However it’s still too easy to get away with distracted driving, red light running in Auckland (and really only Auckland) and driving dangerously near people cycling and walking.

And of course the few egg tossers are unaccountable for their actions.

I’m a big boy and able to cope with a lot, but we are talking here about potential and actual fatalities. We talking about children, babies (including ours), grandparents and commuters. We are talking about people walking to work, cycling in a new country and trying to get fit. It’s not funny to swoop near cyclists, to run red lights while tourists are crossing the street, to steal or to an egg tosser.

What can we do.

First – let’s keep installing infrastructure that separates vehicles and humans, and that encourages slower traffic. The shared spaces in Auckland are working extraordinarily well, and the physically separated bike lanes are encouraging a broad mix of people to add cycling to their mix of transport.

Secondly – let’s get serious about the magnitude of offences that are likely to cause fatalities and enforce them. Distracted driving in a downtown area feels, as a pedestrian or cyclist, a lot more dangerous than speeding, so why not elevate it to the level of dangerous driving?

Why not introduce the NSW rule about touching phones? Shouldn’t running red lights downtown with hundreds of pedestrians around be classified dangerous driving as well?

Shouldn’t we place the burden of guilt for injury of a person walking or cycling on the person driving the motor vehicle?

Thirdly – let’s use existing and new tools to change behaviour. Auckland is covered in connected cameras, and it should be relatively simply to turn on functionality that allows red light runners to be automatically caught, to review footage to follow up on egg tossers and dangerous drivers, and to provide that information to the Police.

Let’s also put in place processes where transport police are actively capturing evidence provided by members of the public over the internet – whether through a website or picked up from social media.

Finally let’s put in place processes to make sure that every incident results in an action, triaged by severity based on the level of hazard created. If this needs dedicated police then sobeit – but it will be a far more effective use of time than random driving.

We can do this. I was living in Melbourne when the introduction of speed cameras dropped the average speeds on major roads by 20-30 kph overnight. Nobody liked it, but less people died.

I am not advocating for a Police state – nor a constant citizen watch state. I am advocating for moving the needle so that we can reduce the most dangerous activities and help change behaviour before too many people die. We have a great opportunity to do this in downtown Auckland – so why not start there?

It is sad to see that the administrators called into Wynyard Group today. This should never happen, especially to what was a very well funded company.

The cause is made pretty clear from the revenue and expense chart below:

(Source – Wynyard annual and interim reports. Please don’t quote this – the 2016 half year numbers are annualised, not all the years overlap as they changed their year-end date, and this includes depreciation but excludes interest and tax)

In a high growth company the norm is to raise money based on future revenue growth. If that growth does not transpire then the value of the company falls, and sharply. Wynyard’s share price fell 88% before the trading halt as a result of promised growth not appearing.

The right thing to do is pretty obvious, but hard, and that is to stop the red bars’ steady march upwards before the funding runs out. However the more palatable alternative is to keep raising money, but that gets increasingly tough when the investors do not see revenue growth, as Wynyard found out. As you keep flailing the investment terms get increasingly toxic, again as Wynyard found out.

Wynyard’s revenue guidance excludes a huge potential government contract, and that is likely in jeopardy now, as are all existing contracts, which I would expect may have out-clauses that speak to one party being placed into administration.

The tough decision that was not made

The board is to blame here – not the management team. The board failed to plan for the contingency of the growth not occurring, and the expenses should have been dramatically reduced so that the funding could last longer, or forever.

The company had $14.7 million in cash, $8.9 million in receivables and $12.8 million in payables at the end of June 2016 – net cash of $10.8 million.

But they also reported negative operational and development cash flow of $28.8 million in the 6 months to June 30, 2016, and despite raising funds then they really should have panicked.

That same interim report, dated 6 weeks ago on 12 September 2016, noted:

The last round of VC investors into Theranos makes for somber reading. In March 2015 Theranos raised an estimated US$573 million for their 6th round, making a total of $750 million raised. Their 7th round, for $200m, has apparently blown up before completion. Theranos was selling a blood testing service that apparently needed tiny amounts of blood to work.

The 5 investors from March 2015 should be deeply ashamed, as should those who almost committed in the 7th round.

(Source: Pitchbook)

The Wall St Journal broke the story first, and a few weeks later it seems clear that their blood-testing technology is hokum, their partnership with huge pharmacy chain Walgreens now dissolved and the company under criminal investigation. The reputation of once superstar CEO Elizabeth Holmes is in tatters.

It’s every investor’s nightmare.

So how do you stop this sort of dumb investment happening?

At the earliest, and every, stage in investing the investors need to do their work. That means an end to end look at the company, and not just at the numbers and forecasts. Too often investors think due diligence should focus on tiny, mainly financial, details and they miss out on the obvious flaws.

My favourite example of investors missing the obvious was NZ Telecom’s sale of Yellow Pages for NZ$2.24 billion in 2007 to sophisticated private equity investors. The investors certainly looked at the numbers, but failed to look at the end users – who were already rapidly migrating away from paper pages towards online and mobile services. The result was huge losses for those investors – huge and very obvious losses for anyone that really thought about the future of phone directories.

For IP-related companies like Theranos it’s easy to talk fast and show the magic, so  you want to be investors who really understand the technology, and who can actually walk the floor, talk to the scientists and technicians, look at the patents and make sure it all works as they say it does. It’s clear several rounds of investors didn’t really do their job here.

With pre-commercial IP, which we see at Return on Science, it’s expected that there is a lot of uncertainty and  “I don’t know” answers about the business model, and how the IP will work in practice. That’s why around the table of the Return on Science investment committees are almost always at least some people who understand a particular technology and business being presented as well as people who understand investment, and usually both. Those committees are only recommending relatively small grants though – generally not even 1% of the the US$7m first round that Theranos took on board.

So we should look at the size of these Theranos investment rounds below and ask whether any investors knew what they were doing, or found it worthwhile commissioning independent experts who knew what they were doing to pore over the technology and industrial processes. Would you would commit these funds without a deep understanding and confidence in the technology?

(Source: Pitchbook)

Investors do take risks, but we should also seek to minimise the risks to the controllable things. For Theranos the earliest investors would expect to have a real risk of losing everything, and should have dived deeply into the IP, but were also backing the CEO and the team to execute well. The latest investors are no-doubt highly surprised that they will lose everything (it seems) and relied on the CEO and board telling the truth. It’s a shocking situation and yet they will all be asking how they could have prevented the loss.

It’s not often, I hope, that a company is built on what appears to be layers of fraudulent behaviour (that’s what the criminal investigation is about), and it’s a nightmare for investors when the layers of trust fall apart. So what can we learn?

3 Quick Learnings

So what I take from this is a reiteration of a lessons we should all know as investors. I’ve learned all of these the hard way, luckily with my own money rather than other people’s:

1. Do your own work: Don’t rely on other investors or advisors when making an investment commitment.
2. Look to the facts: Be extremely wary of investing in people who talk well but don’t deliver results, and actually touch the merchandise – visit the engine room of the company and make sure everything smells properly.
3. Treat every round as a new investment decision: Do not assume that because you or others have invested previously that the company is a good investment.

 

We can easily forget that most people don’t read Transport Blog, find The High Cost of Free Parking obvious or understand that great cities are great to walk in – and lousy to drive in. Many of us have lived overseas though, and we just tend to forget just how things worked over there and what is missing here. 

So here are 20 (not so) obvious things about cities, and Auckland in particular, that we should all remember.

1: Many people living in a small area makes for a better life for all. It’s more efficient, more fun and increases business, and that’s why people choose to live in big dense cities.

2: Large roads create moats that block parts of cities from each other and we risk losing the benefits of urbanism. Many of the motorways that carved up cities overseas are now being removed, and the same applies to ports. 

3: Parking spaces not only take up valuable land, but they also reduce the positive effects of urbanism. They are expensive and should be removed or charged for accordingly. 

4: All the great cities of the world are horrible places to find and pay for a car park. That’s a design feature, as they prioritize walking and public transport to cope with the demand for moving people.

5: Public transport takes cars off the road and increases, dramatically, the ability of a city to deliver people to and from work and shops, and with very limited use of land. It is far cheaper, based on both marginal and capital costs, to move people with public transport than cars. 

6: An empty rail line or bus lane is a good thing – the point is to make their lanes congestion-free so that riders can get to their destination faster.

7: Removing cars and car parks, broadening footpaths and installing shared spaces increases business (significantly) to the local merchants, and makes for higher value commercial buildings as well. People want to be in spaces that are friendly to people.

8: Apartments can be awesome places to live – and they should come in all shapes and sizes to cater for all stages of life. They are also intrinsically cheaper to build, supply with services and, with urban density, commute and shop from. You can generally survive without a car.

9: Driving to work is a horrible experience versus walking, riding and public transport – in that order. If you have the other options then take them.

10: To get people out of cars and onto cycleways and walking we need to provide pleasant and safe environments for walkers and cyclists. It’s not enough to do big projects – we need a network from homes to school, shops and work.

11: Driving kids to school is a confidence trick – switching back to kids walking and cycling will make everybody safer by removing cars from the streets, making kids healthier and providing critical mass of kids to react to and prevent any low probability but newsworthy predators. But we need to switch entire schools at a time to make this work. We also need to be smarter about buses for schools.

12: We make personal choices for transport that are not our own best interests, such as choosing to drive (and be traffic) rather than, say, walk. The right economics, such as variable tolls and parking charges and cross-subsidization of public transport nudge us into making better choices and save money for everyone. 

13: New Zealand has one of the world’s most efficient domestic airline systems. Getting from the airport to Auckand city though is embarrassingly poor – great cities  offer rail or light rail. 

14: Autonomous cars are still cars, and risk clogging the roads even more as they reverse commute after dropping passengers. Autonomous taxis are still taxis. Neither takes cars off the roads – people will still want their Toyotas, Fords, BMWs and Mercedes Benzes with their stuff inside, while those shared cars will need constant cleaning. 

15: Auckland has the potential to be one of the world’s great cities. We are rapidly building in population, especially downtown, and we need to invest to grow. That means increasing our debt funding, making sure the rates are set at the right level (they are amongst the lowest in NZ), building smart infrastructure to allow for density, removing trucks and cars by providing better alternatives and unleashing bigger buildings in and around downtown.

16: Allowing bigger buildings in your property zone will increase the value of your property – a lot. That’s free money. You may even find a developer who will buy your place for a lot of cash and give you a free apartment in their new development. 

17:  In large cities the houses with backyards, as we have in the leafy inner city suburbs, belong to a few extremely wealthy families. In Auckland the pressure is building to convert those houses to much higher value apartments. 

18: Global warming will make beach front property more marginal – but property overlooking the coast will always be valuable. 

19: Induced demand, where if you build it they will come, applies not just for roads, where new roads rapidly get clogged, but also for rail, light rail and bike lanes. The latter also increase the value of surrounding property. Build the bike lanes and they get used, and the evidence is clear to see. 

20: In short Auckland needs to maintain or increase rates as a percentage of home value, borrow more, unleash the ability to build bigger commercial and residential buildings, invest heavily in public transport including rail, light rail and bus lanes, expand the walkable areas and cycle lanes, look to move the port within 10 years, say, increase the cost and reduce the supply of parking and work with schools and businesses to acelerate the transition to walking, cycling and public transport. And they can use an abundance of evidence from Auckland and offshore to make these decisions.  

The reason Auckland is doing so well is that the current CEO and people that work for Auckland Council and aligned organizations as well as the private sector are working hard to achieve these goals. The central government is also largely aligned. The results, like the crowds in Britomart and Wynyard Quarter, the number of cranes downtown, the rapid rise in public transport, walking and cycling and increase in collective prosperity and delight in the inner city are clear for all to see.

However we need a Mayor and Council that support growth, that support investment and that support rather than constantly undermines the largely excellent work done by Auckland Council. We need Councillors who not only read their papers (and many don’t I’m told), but who also read and understand the vast body of work and international experience on urban and transport planning. We need Councillors who use, as National MP Simon O’Connor recently said to Parliament, reason, evidence and experts inform and make decisions. We need a Mayor and Councillors who are positive about the future of Auckland, who are inspiring and who have the skills and experience to do the work. 

We don’t need Councilors who are sports or media celebrities with no real qualifications for the role. We don’t need Councillors who say no to every proposal without reading or turning up to resident events. We don’t need Councillors who undermine the CEO and Auckland Council, such as those who voted against he Unitary Plan submission. 

It’s time to professionalise Auckland Council. Let’s make sure that there are enough high quality independent and party aligned candidates for all electorates. And if you are considering standing on the sort of platform outlined above – then please do so. I’m willing to help.

For a society that provides a full range of services aren’t we remarkably low-taxed in New Zealand? I was comparing notes with my Australian-based brother this week, and the differences are stark.

Our top income tax rate is 33%, and we have no capital gains tax, while property rates (for me in Auckland) are just 0.29% of assessed value. We also have GST of 15%.

In Australia they pay 49% top tax rate (45% + 2% +2%). They also pay tax on any capital gains – the net capital gains are simply added to the taxable income, but net capital losses can’t be deducted from income. The family home is exempt from capital gains, but ordinary investments are not. You can get some relief by placing your money into a super fund – and you can self-manage this – but money going in is still taxed at 15% and is limited. If you contribute too much then the excess is taxed at 47%, and if your total income is over $300,000 in a year then there is another 15%. GST in Australia is also more complex than here, though lower at 10%. 

Whew – as you can see it’s also a much more complicated system – you’ll probably need a lot more expensive advice than here in NZ.

In the USA the top tax rates are over 40% just for the federal component, then you add state tax, not to mention health insurance and all the other things that their state does not provide. It gets over 50%. Sure their system is so rigged and wretched so that the effective rate for the wealthy is lower – so be prepared to pay a lot to a CPA as well. Let’s not get started on the absurdities of cascading regional taxes, nor regional taxes on  goods and services. It’s all incredibly expensive, complicated, and biased towards the very very wealthy. 

I like it here – our tax system is understandable and efficient. Sure we can do better, but it’s worth pausing now and then to say “well done” to a series of governments. 

Crosspost from Punakaiki Fund.

New Investment: NZ Artesian Water

We’ve seen plenty of headlines recently about offshore companies bottling our water and making fortunes. So when I met Nelson-based Kiwis Andrew Strang and Wayne Herring through a Better by Capital engagement, I was eager to see how their New Zealand Artesian Water business (NZAW) was progressing. The answer was “very well”, and that they were actively looking for funds to grow.

We are very impressed by their supply strategy – working closely with the Tasman District Council – their product and their plant, as well as their plans for expansion. Their premium alkaline water, E’Stel, comes in elegantly designed bottles and also in boxes, and is mainly sold into China, although NZAW has supply contracts across the world. They have also developed a new blended-water product for China aimed at mothers using infant formula. For now their primary challenge appears to be scaling the business to deliver on sales demand. Investors living in or visiting the South Island can help with that demand – E’Stel is available at selected retailers there.

The brothers-in-law have a background in West Coast mining, and Andrew also has a background in the high end fashion and jewellery business and a lot of experience in Asia. Their unusual combination of experiences, combining New Zealand’s natural resources with fashion sense, trading in Asia and grit started to pay off from when the Prime Minister opened their plant in March 2015, and since then the company has grown quickly.

Andrew and Wayne know how to get things done, and their story will continue to attract attention as their business grows. We are delighted to be able to join them on their journey.

The investment
Punakaiki Fund has invested in a 11.8% shareholding in NZAW, and has options to bring the shareholding up to 20%. I’ll be joining the board of directors (as I will also do for Linewize).

But is this hi-tech?
We set up Punakaiki Fund to invest in all sorts of high-growth companies, but in particular those in technology, internet and that are design-led. We increasingly believe that quality high-growth companies combine most or all of these elements, and NZAW certainly uses design and technology to gain an advantage. Their bottles, for example are square-based and round topped, but with a curve and thickness that means they not only look good on the shelves, but they also stack higher in shipping containers and are reusable. Their infant water is a designed product – building on MIT research to deliver the optimum product for babies. Most of all though we see that their growth prospects are very strong, and that our funds will help them a lot on their journey.

At Punakaiki Fund we like to keep things simple, and we encourage other investors and all founders to do the same.

However in past years the contracts used for many NZ-VIF/SCIF deals have been arguably quite toxic against founders, and these can make it very hard for investors, founders and the next round investors.

But things are getting better, and it’s good to see the NZ-VIF/SCIF standard documents posted on their website.

We have also observed that these contracts are negotiable to much simpler form, and encourage founders and investors to do so.

Help is available from Simmonds Stewart, who have represented companies we have invested into. They have marked up several SCIF documents, including the latest SCIF term sheet, which I highly recommend founders and investors in this space consult.

However Punakaiki Fund goes further, and we believe the rest of the industry should to.

• We would like to see contracts that are more founder-centric and less investor-centric;
• We would like to see contracts that trust the boards and founders and not be prescriptive about what the business does and retain actions;
• We would like to see contracts that say less, and rely on the excellent NZ law to provide investor protection;
• We would like to see simpler, shorter documents that are easier to understand (and sign). (We would like to see lawyers paid less and do more deals.);
• We would like to see terms where companies receive a net sum from investors and do not have to pay any kick-backs (6% in the SCIF world), investor legal fees or for any investor-directors; and
• We would like to see more deals done – and simpler contracts will help that happen.

So I have taken the blue pen to the Simmonds Stewart mark-up, and here is a  SCIF Term Sheet mark-up from the perspective of LWCM and Punakaiki Fund. Tell us what you think.

New Zealand’s traditional leadership in agriculture is due to our land, climate, hard work and invention from generations of farmers, and our universities and business that have supported them with increasingly valuable technology.

But our position is under threat, not today, but in the medium term certainly. The threat is that high quality food will be grown essentially anywhere for lower cost of inputs, and that global demand for meat will fall. Perhaps something’ll come along to make it easy replace milk as well.

High Density Gardening

There is a trend towards growing plants in more controlled environments in agriculture (CEA). The neat trick with high density gardening is that the control of temperature, energy and climate not only reduces the amount of inputs (water, energy and so on) but also allows for control of insects and pathogens. And when you control the access of pathogens then you don’t need so much fungicides and pesticides, if at all. The result is not only faster growing plants, but food that is almost organic in its lack of pesticides and other additives. It can be delicious.

At the moment it is relatively rare to see crops grown using tightly controlled environments for the whole lifecycle. But observe in the supermarket that some crops, such as tomatoes and blueberries, are now available – and incredibly tasty – year round. I suspect the same is happening with many high value flowers. These crops are grown in glasshouses, but there is, apparently, still a good gap between current practices and true CEA.

The goal, still fairly seldom seen, is vertical farming, with leaders like Plantagon and AeroFarms. With this very high intensity farming there is no reason why the farms need to use a lot of land footprint – a farm can be on floors of a tall building, with controlled LED lighting delivering the light-based to the plants.

But there is a problem, as it costs money to power those LED lamps, while on traditional farms the plants receive free energy from the sun.

The answer is tied up in the lowering costs of renewable energy, such solar panels, and batteries. These costs are already at to the point where it makes little sense to build traditional power plants, with Warren Buffet bragging in his latest letter that

“Berkshire Hathaway Energy (“BHE”) … … has invested $16 billion in renewables and now owns 7% of the country’s wind generation and 6% of its solar generation. Indeed, the 4,423 megawatts of wind generation owned and operated by our regulated utilities is six times the generation of the runner-up utility.

He also showed slides showing the precipitous fall in prices for storage batteries and solar panels. These curves will keep going, so while today it’s hard to economically justify building a thermal power plant, at some stage soon it will not be economical to even fuel a thermal power plant. Once we reach and pass that point it’s clear that generating and storing the power to drive those LEDs will be relatively cheap and a relatively low capital or opex cost for a vertical farm.

So Malthus  can wait a while longer it seems. But the problem is not solved yet, as this Guardian article shows the energy requirements for indoor crops are very large.

Better Meat

But we also eat meat, and as the more of the world enters the middle class the demand for grass and grain eating inefficient methane belching animals will continue to grow. We can gain more efficiencies and control effluent and CO2 by keeping animals inside, and that’s done in many countries. If that’s the future for meat and milk then New Zealand has no structural advantage over any other country, and the resulting products will be priced accordingly at very low or negative margin.

There are alternatives – The Economist has a video article, The Meat Makers, on two companies with different approaches to replacing meat. One which is attempting to grow meat in-vitro and the other is trying to use plants to create a beef substitute. The video shows poor progress for both companies, but it does show that a lot of investment is going into moving directly from plants into meat. In New Zealand SunFed Meats is attempting the same, and seems to be making great progress turning peas into chicken.

Now if we combine the two trends together it seems logical that someone will figure out how to grow a plant that is able to be easily process into substance that we find very close to meat. Will it be tasty? I suspect that for many years a very good steak will continue to attract demand, but would not be surprised to see meat eating consigned to the same shameful dustbin as cigarettes within the next 50 years.

Malthus is wrong again

When I was younger, many years ago, I remember reading Green literature about the end of days. The World was going to run out of resources and food, and quoted Thomas Malthus, who wrote in 1798:

That the increase of population is necessarily limited by the means of subsistence,
That population does invariably increase when the means of subsistence increase, and,
That the superior power of population is repressed, and the actual population kept equal to the means of subsistence, by misery and vice.

Malthus was right, but he also thought that population would increase exponentially and food production linearly. However productivity of food (and other) production improved exponentially over the ensuing years and the techniques above will continue that trend. It’s a future where we can produce more with less, as a globe, and one where there is no need for our plants at least to not be tasty and fresh.

Existential crisis

All these trends are great for the world, but will they also trigger an existential crisis for New Zealand? If anybody anywhere in the world can use small amounts of energy, water and nutrients to create the same quality food as we can here then why would anyone buy from New Zealand? If good-enough meat made from plants is able to substitute for a large amount of meat eaten globally then won’t the demand and price for our cattle and sheep fall? And surely someone will figure out how to more efficiently produce milk from plants?

The future of New Zealand is unknown, and these trends could be decades away. But we should be leading and not reacting late to these trends. We do have a good Agri-Tech sector, with many companies helping traditional farming get more efficient, and others like Sunfed Foods and Autogrow, who make controllers for glasshouses, aiming ahead of the curve. We should support them.

We should also focus on the quality end of food production, aiming to be the purveyor of the best food in the world rather than shifting tonnes of powder and meat. We’ve moved a long way in this direction over the years, but our polluted rivers are evidence that we can  no longer collectively hold our heads high.

Or perhaps there is another path – fast adoption of these intensive techniques to increase production and lower land and other resource use per output, followed by the return of some of the less productive land under grazing to native forest and birds. That’s a New Zealand we could all live in.

 

The New Zealand Venture Investment Fund was set up 14 years ago with the best intentions – to foster an early stage investment sector in New Zealand by being a fund of funds. It’s has $250 million for VC and PE funds, but only $129.7 million of that had been invested to June 2015 and $100 million of it is an underwrite facility.

NZVIF  later added the now $50 million Seed Co-Investment Fund (SCIF) which co-invests alongside accredited angel investors. As at June 2016 they had placed $38.2 million of that.

It’s been a long while since NZVIF was formed, but even with time the results to date for the fund itself are pretty unspectacular. When I as at McKinsey there was a phrase – “directional correct” – which meant that someone had tried to do the right thing, but ended up down the wrong path. Is NZVIF directionally correct?

The latest investment report to June 2015 is just released. (As an aside it is months late versus the June 14 report, which was released in November 2014.) Back in 2014 was Jamie Ball at NBR wrote a scathing summary, and this year gives little to cheer about again.

Let’s look at the two parts of the business, the fees on fees, the road ahead and some comments about whether this is personal.

1: NZ-VIF VC Fund of Funds

The VC fund portfolio reported $120 million invested into funds and a Net Asset Value of $93.2 million as at June 2014. In June 2015 that was $129.7 million invested into funds and a value of $99.8 million. That means they added $9.97 million in cash, but lost $5.17 million asset value, for a average rate of return of (1.74%) – or negative 1.74% – per year.

In comparison Punakaiki Fund has raised $12 million and has a net Asset Value of over$16 million, as we did this in less than two years. We use the same IPEV standards for valuation and our IRR for the original April 2014 investors was over 50% per year when we last officially released data in November 2015. It’s quite remarkable to think that Punakaiki Fund’s value today is already a sixth of the value of NZVIF’s VC fund as at June 2015, and we have not received any funds from the NZVIF fund of funds nor had over 12 years of investing returns for the fund.

NZVIF accepts that the early performance was poor, and breaks down their VC investments by vintage. The latest report shows that the original investments from 2003 to 2005 saw an annualised return of (5.47%), and a loss of 30% overall to June 2015. Looking at the two reports however I see that in 2014 NZVIF reported $65 million was invested in 203 to 2005, but in 2015 that historical figure has climbed to $67 million. The return was reported as a loss of 35% in 2014, so things are improving.

But that’s a lousy result overall. In 2003, for comparison, I was trying to buy shares in Trade Me, and Xero launched in 2006. I wonder if the conversation with Trade Me would have been different if I’d had access to a $10 million fund.

The second wave of investments, was from 2007 t0 2012 (2014 report) of 2007-2014 (2015 report). There were five funds in this cohort in 2014, and six in 2015. The annualised returns for NZVIF were 8% in 2014 and dropped to 4.36% in 2015. Neither of these are acceptable for early stage investors, and what’s happened is that NZVIF, under their mandate, had limited their upside by allowing funds to buy out the best investments for near the investment value. So for the rather late-stage investment in Xero by Valar, for example, the NZVIF money was essentially a free extension of their funds for a few years. Valar didn’t need extra cash to make a return, a great return, but it sure was nice that NZVIF was there to support this offshore fund. NZVIF unfortunately gets essentially no return from the deal, which is why I use the “buy-out adjusted” returns to the NZVIF fund rather than their unadjusted returns. Those unadjusted returns for the period were reported at 26% per annum in 2014, but fell to 12.67% per annum in 2015. That was a 2.11 return as at June 2014 and a 1.46x return as at June 2015, remembering that this is funny money, not reality.

As good as that sounds, it’s not great for early stage investing.

For comparison during the first 2007 to 2012 period I invested in Define Instruments (solid), 200Square (still selling houses), Pocketsmith (growing well over the years), Vend (over 600% returns, including more cash out than invested), Valuecruncher (failed), Lingopal (in quiet mode), and Pacific Fibre (we tried), as well as some sweat-equity firms like My Tours (doing very well), Groupy Deals (exited to Yellow), Powerkiwi (2nd in Deloitte Fast 50, contract bought out by Powershop), AllAboutTheStory (closed) and others. Later on I invested in Syft (4x cashed out return), and then Punakaiki Fund (52% up so far.) I just took a very brutal ruler to those investments, and valuing rather harshly the unrealised investments I still see over 400% or 500% return on investment (one company valuation could drive the that a lot higher). Of the over $900,000 off that I invested only $150,000 can be deemed a failure, and some of that is still being worked out.

So while I was making four or more times the money invested – the NZVIF fund of funds was actually losing money operating in the same space. And meanwhile other early stage investors with larger amounts at their disposal did extraordinarily well. Take a look at the shareholder registers for Xero or Vend.

Meanwhile NZVIF stated on page 3 of the 2015 investment report that “no private venture capital funds have been established over the last 15 years without NZVIF’s involvement.” At LWCM, the manager of Punakaiki Fund, we were somewhat incredulous to read this claim. We have not exactly been hiding under a (flat or otherwise) rock.

2: SCIF

The SCIF fund, which operates deal by deal, had invested $29.7 million to June 2014, and $38.2 million to June 2015. That’s an increase of $8.5 million year on year. Punakaiki Fund invested, for comparison, about $10 million in the 21 months since launch in April 2014.

SCIF is not self-limited by the same clawback mechanism, and neither, as I understand it, are the new NZVIF VC investments. That’s good.

The average SCIF investment per company was $310,000 in June 2015. That’s a lot lower than us at Punakaiki Fund, which is averaging near $700,000 invested and $1 million in asset value per company.

The SCIF returns are fairly sad though, with NZVIF reporting just 1.04% annualised return in June 2015. That’s even lower than bank debt, but at least it is positive. The SCIF investments vary by partner – they have 15 or 17 (depends how you count) and only 8 are delivering positive returns. I suspect one or two of those will be very successful, and the rest marginal.

Overall NZVIF estimates that the SCIF portfolio returns on investment will be between 0.8 and 1.5 times the money invested, by 2026. Read that again. SCIF is saying that after 10 years they are promising, at best, an annualised rate of return of 4.1%. This is not successful early stage investing.

3: The Fees on Fees

The returns from both parts of the fund are lousy – and I accept that NZVIF is trying as hard as they can to downplay the value of their investments and there should be plenty more upside. If their approach to valuation is, as they state, “conservative” and they are carrying assets at lower values than their co-investors then then everyone needs to re-read the IPEV guidelines, which are pretty clear on using fair values. (We use them at Punakaiki Fund too.) The accountants and auditors (Audit New Zealand) for NZVIF should have strong fairness opinions about the valuation methodology and the individual valuations.

However you cut it, the reported returns from NZVIF’s VC Fund of Funds and SCIF are unacceptably low for early stage investing.

But we have not yet mentioned fees. NZVIF’s 2014 annual report and 2015 Annual Report show that in NZVIF received $2.33 million from the government in 2013, 2014 and 2015, and they spent $4.4 million, $4.6 million and $5.3 million  in expenses in those three years respectively. A significant part of that, $1.9 million in 2013 and 2014 and $2.6 million in 2015, was for “fund management fees and costs paid to fund managers”. I don’t know what that means – was this for external people to manage their fund of funds? Or was it paid to the funds that they have invested in? Either way it doesn’t appear to be matched in the revenue line. Is it taken from the investment principal?

With $137,500 spent on directors fees, $1.33 million on employee benefits, $1.0 million on “other administrative expenses” and $120k on auditors the basic costs to run NZVIF (excluding the “fund management fees and some other items) was $2.58 million. That represents 1.9% of the funds under management, while the full $5.3 million of expenses represents 3.9% of the fund under management. I am not sure how this works, but I suspect (and hope) the the 3.9% represents both layers of fees – those incurred directly by NZVIF and those paid to their VC fund managers.

NZVIF is a fund of funds, and even the SCIF part relies on others to do the work. The VC funds that they invest in and the angel clubs and small funds that they invest alongside with SCIF charge their own fees beyond those above. The end result is that the overall fees to the investor (us taxpayers) are very high.

Investors don’t mind high fees when the returns are great, but in this case it’s tough to take. NZVIF is charging a lot more than a funds on funds investor should, and while they would argue that they perform a a lot more services than just funding, it’s hard not to point at the tepid results and ask questions.

I feel frustration that NZVIF is accepting and promulgating these low returns and high fees as acceptable for early stage investing. I understand their need to justify their mandate, but it’s arguably creating a chilling effect for newer funds, like Punakaiki Fund, to convince larger investors that the asset class is amazing. And it is amazing.

4: The road ahead

The good news is that some of the NZVIF investments are going better as at the end of 2015, but it’s unclear what the “buy-out adjusted” returns were at that stage.

It’s also great to see some new funds coming on line, with Chintaka Ranatunga looking to close GD1 II soon, and the ICEAngels closing a fund between $5 and $10 million, and others circling. But we are still hundreds of million short – at Punakaiki Fund we are overwhelmed with deals and could place $50 million easily within 3 months, if we had it.

NZVIF itself is in transition, and with a new CEO yet to be announced there is an ideal chance to make a solid change in structure and mandate.

Last year I commented to the NBR that I’d like to see five things:

1. Equality: Invest on equal terms to other investors into funds – with no buy-back provision. My understanding is that this has now happened.
2. Simplicity and speed: Impose no conditions on the funds, such as contract criteria, and fund structure, investment process etc. (The VIF conditions were dreadful). Invest or don’t invest based on the offer, and make decisions quickly. My understanding is that the terms are a lot better these days, but it’s still dreadfully slow for VC funds to raise money from all investors. 
3. Quantity: Have a strong bias to invest at least something into any local fund which is investing in the target markets/stages. Not done – we are still waiting for a call. I suspect this article will delay it further.
4. Performance-led: Invest small amounts at first into many funds, and reinvest progressively larger amounts into funds that perform. Not done – the GP/LP structure used by funds means VIF can only invest in lumps when new funds are raised. This can take years.
5. Reporting: Commission outside experts to deliver reporting on the overall early and growth-stage funding markets in NZ, placing the NZVIF funds in the list next to private investors and non-aligned funds. Not done, but it is good to see the second investment report from NZVIF. I expect the numbers will get better.
6. and a bonus 6th: Report NZVIF progress to the public on a deal by deal and fund by fund basis, with ability to do so as a pre-requisite for any investment in a fund. Not done – and to be fair this is hard as companies don’t like releasing results.

To those I would add three new suggestions.

1. Lower the management costs for NZVIF to say 0.5% or 1% of assets under management, more normal for a fund of funds. Ask the leadership to restructure accordingly. That means an annual budget of $650k to $1.3 million, well under the $4.6 million today; or
2. Pass the entire fund to an existing government-owned professional fund manager, and if the government wants to invest in more funds or deals then the fund manager can allocate the funds. The Superfund is the perfect vehicle for this (ACC is an alternative), but the asset class is very small for either shop. One option is to move say two people from NZVIF into Superfund and have them managed there; or
3. Run a tender to ask for proposals to run the fund and pass the fund to the private sector. Selected the manager based on the response in costs and evidence that new ownership would drive higher returns for the fund.

The final alternative is to keep going, but it should be clear by now that more of the same is not necessarily the best course.

5: It’s not personal

I commend everyone inside NZVIF and in the funds they have invested into. Everybody works hard to change NZ’s investment climate and to deliver returns for investors and founders. Some people in the ecosystem have gone well above and beyond.

This is an attack on a dated mandate for NZVIF, a structure that is unwieldy (though getting better) and in an ecosystem that has marched far ahead.

As investors, advisors and taxpayers we should be unafraid to call out when we perceive there may be an issue, in this case with a business. It can make things tough when people don’t understand that this elephant hunting is never personal, but over time essentially everyone respects that things do need to be called out, and an intervention is better than no intervention.

In this case I’d really like NZVIF to succeed, and I’d really like to see a lot more funds in our ecosystem – we need them. But at the same time we need to broaden the ecosystem away from NZVIF. Punakaiki Fund has shown that it can be done from the ground up, as have many high net worth investors, while Milford Asset Management have done the same as a larger investor top down.

The high growth investing ecosystem still needs to earn the right to have the major brokers and banks get behind the space, and the only way we will do that is to show consistent and strong returns, resetting the standard for what proficient early stage investing can achieve.

I love it when investors in our ecosystem make great returns. Here’s to the early investors in Diligent, the folks who backed Xero pre-IPO, the few and the brave behind Adherium and the countless quiet investors who back the thousands of companies we never hear about. Let’s keep investing into great companies.

And let’s hear it for the founders – all of this energy is focused on helping founders start and accelerate the growth of companies. We have an abundance of founders and great companies in New Zealand – we need to get on with giving them what they need.