The Musings of a Canadian VC

AKA This is Roger Martin, reporting from Mars part 2 (see prior post “This is Roger Martin, reporting from Mars” November 25-08)

Editors Note: this post in a guest blog:

“I heard yesterday that the Martin Prosperity Institute was releasing their Ontario government funded research entitled “Ontario in the Creative Age”. The $2.2 million research, commissioned by Premier McGuinty, was tasked with providing “recommendations to the Province on how to ensure Ontario’s economy and people remain globally competitive and prosperous”. The Martin Prosperity Institute is affiliated with the Rotman School of Business at the University of Toronto, with the main writers of the report being Roger Martin, Dean of Rotman School of Business, and Richard Florida, a professor also at Rotman School of Business.

This morning I also read the Wellington blog posting “Venture returns shine through”. I couldn’t help but see the correlation between these two stories.

There are many reasons why the venture returns of Canadian (as well as most other regions) venture firms lag behind those of a handful of mostly Silicon Valley based firms. I will leave the analysis and comparison of these returns to others. I do want to say though that some ill-informed academics, as in the above post, believe correcting this perceived ‘gap’ is a simple matter of ‘supply and demand’. Reduce the amount of capital and the returns will improve. The supply of potential companies to invest in is fixed, and with less capital, only the better ones will get funded, and likely at more attractive valuations. That may perhaps be true, and may help the returns of the small handful of venture firms that can secure fund commitments from the ever shrinking list of potential LPs. But how does that “ensure Ontario’s economy and people remain globally competitive and prosperous”?

I would put forward that the challenge in Ontario’s technology economy (and the venture industry that funds a subset of it) is not directly one of capital. It is instead a lack of entrepreneurship and new company formation that is at the heart of this problem. Solve the later challenge, and the prior will resolve itself.

The real problem begins when we send our young people to post-secondary school institutions, where the deans of these universities almost all measure their success on graduate placement rates. They consider their primary job to be factories churning out employees for companies, as opposed to training leaders and owners of businesses. Ask a student at Stanford, in the heart of Silicon Valley, what their goals are, and they will tell you it is to start a company. Ask a U of T or U of W student, and it is to get a job at an established company. I know – I saw first hand how my undergraduate university was optimized to create engineers and software developers for large employers.

The solution according to the $2.2mm “Ontario in the Creative Age” study? Increase post-secondary school spending so the province can increase enrollment in colleges and universities from the current 40% to 60%. Nothing wrong there, but that’s just going to create employees for companies that aren’t hiring.

Educate someone to be an employee, and they will fill one job. Educate them to be an entrepreneur, and they will create 10 jobs. We can’t just hope that some of these graduates will start their own companies and become employers.

The real solution? Increase the supply and quality of entrepreneurs and companies that claw themselves to the $2mm revenue run-rate on sweat and blood. Change the culture in our post-secondary school institutions from one of risk mitigation to one of risk taking. Instill in students that there is no better time to become an entrepreneur than when they graduate and have little to lose and everything to gain. And if it doesn’t work out (which it wont for most), they will have learned some incredibly important life skills, and can either try again, or at that point get a job with a large company. In the study that Premier McQuinty commissioned, the word ‘entrepreneurship’ was mentioned only once in the body of the report, and only in the context of its correlation to diversity. The concept of new company formation wasn’t discussed at all! Who do they think are going to create all these new jobs?

To put perspective on the challenge we face, for 2008, according to Thomson Financial Canadian data, 19 technology-based Ontario companies received ‘Early Stage’ funding (of those 11 were initial investments while the remain 8 were follow-on investments). So Ontario only created 11 ‘new’ companies that were worthy of venture funding in 2008? That is shameful. Remember also that based on venture metrics, it is likely that only 2 of those companies will become successful. While I don’t have access to ‘scrubbed’ US data, from what I can make out from NVCA and Venturesource data, there were between 564 and 848 early stage companies that received funding in Silicon Valley in 2008.

Venture capital is but one possible step in the evolution of a successful company. It most certainly is not and should not be the first step. The first and most important step is getting smart people, at the point where they have the least to lose, to take the plunge and start companies. We need to change our educational institutions and conservative culture to encourage and reward the young entrepreneurs that wish to take this path.

The irony in all of this is that the academics referenced above, despite their good intentions, are in fact part of the problem.”

Guest VC Blogger