Venture Capital advances drop 33% at BDC in fiscal 2010 part 2

I know more than I knew last week. And I’ve got Philippe Mercure, a La Presse journalist, to thank for that.

It took me far too long to review the annual financial statements of the Business Development Bank of Canada. But once I did, I discovered what many tech and lifescience entrepreneurs already knew: Venture Capital advances had dropped substantially for the 12 months that ended in March, 2010. By 33%. During the dark days of a national start-up and VC capital crisis in fact.

My post delved into the topic a bit (see prior post “Venture Capital advances drop 33% at BDC in fiscal 2010” Sept 21-10), and generated some industry reverb with tech lawyer Suzi Dingwall Williams, Waterloo’s Gary Will, etc. Mr. Mercure read it as well, and wrote a piece on the topic entitled “Capital-risque: la BDC a été chiche pendant la crise” or “VC: BDC has been stingy in the crisis” for those of you who stopped taking French in Grade 9 or 11 (article translation here).

Being an important and respected French-language newspaper, Mr. Mercure easily got very senior BDC execs on the phone to talk about the apparent ongoing reductions in the allocations being made available for deployment to BDC’s hard-working internal VC team. The answers were illuminating (translated by Google, with a couple of fixes). From La Presse:

The Business Development Bank of Canada (BDC) has loosened the purse strings to make loans to entrepreneurs in Canada during the financial crisis. But she was much more stingy on the side of venture capital, slashing by a third its investment for the second consecutive year.

At the unveiling of his annual report last month, the BDC had prided itself on providing the help to Canadian companies during the credit crisis by increasing its overall support of 53% during fiscal 2010, ended March 31 last. [NTD: that’s a 53% increase in traditional loans authorized versus the prior fiscal year]

Jacques Simoneau, Executive Vice President, investment, BDC, said that neither the lack of capital or lack of opportunities that prevents the BDC to invest in venture capital, but the fact that all other industry players have withdrawn from the market. Investing alone, he said, would be too risky and inconsistent.

“We are able to play our role in the market, but there are far fewer actors than there were. Actors who have capital to invest, we count on the fingers of our hand,” he said.

By refusing to invest because others refuse to invest, is there not a danger of a vicious cycle? “Yes,” admits Mr. Simoneau. Until we see attractive returns in a few companies to show that venture capital is still an attractive investment, it will be a little wheel in this one. We’re in a cycle of restructuring.”

Although this isn’t a new theme (see prior post “What happened to the VC $ at BDC?” June 18-08), what’s amazing about this rationale is that it is so diametrically opposite to what is touted elsewhere in the BDC’s 2010 annual report. Here are some excerpts:

When the recession struck, we helped more.

The credit crisis and recession hit entrepreneurs hard. How did BDC respond? Quickly and ably. We lent more money in the last year than at any other time in our 65-year history: $4.4 billion. (NTD: And an additional $3.7 billion on new capital for car leases)

Q: Is BDC different from private sector financial institutions?
Yes. Our reason for being is the success of entrepreneurs, not the creation of quarterly returns for shareholders. This is a very important distinction; it means we have the latitude to come up with solutions that entrepreneurs need.

Why? Because when entrepreneurs take risks and innovate, the national economy is strengthened. Canada benefits from their
success. And sometimes they need help in sharing these risks.

Remember that our clients’ challenges dictate ours. We strive to provide what they need. And because their needs are constantly evolving, we have to keep innovating. So BDC’s future looks to be
more of the same: effective, efficient, flexible support for Canadian businesses.

In the world of BDC’s lending activities, the fact that BDC stepped in to fill the gap when the major banks dropped their lending by $25 billion (see prior post “Canadian corporate bank loans hit new 39 month low” Sept 25-10) is something they are proud of; and will be promoting to the Members of Parliament during the upcoming BDC Mandate Review. I know this because the BDC Art Department used something like a 48 Font to make the point in the annual report.

In his La Presse interview, Mr. Simoneau said that it wasn’t that BDC didn’t have the capital that led to the 33% reduction in dollars deployed in the VC sector, it was the fact that other industry players had withdrawn from the market.

That’s the rub of the double standard mindset. The 2010 annual report is replete with statements about how BDC back-filled those parts of the economy where banks had withdrawn from the market. For some reason, there’s a double standard in VC Land, where the absence of sufficient syndicate partners is actually the reason to play turtle. To pull back. To worry about “profits”, even though elsewhere in the BDC Annual Report there’s pride the BDC’s loan losses are “5x” higher that of traditional commercial banks (pg. 19). You can count the number of large Canadian banks on the fingers of your hands as well; why is the fact that there are fewer syndicate partners than five years ago a reason to exit the VC playing field?

But it’s worse than that. Again, from the Annual Report: Our reason for being is the success of entrepreneurs, not the creation of quarterly returns for shareholders. Whether that’s what the taxpayers and private sector lenders think is fair or appropriate is debatable (see prior representative post “‘Bruce’ the mindless eating machine” May 31-08). Regardless, if BDC isn’t interested in making a private sector-like ROE, why the unique pressure on the VC asset class during the worst recession since 1932? As Mr. Simoneau advised La Presse:

“Until we see attractive returns in a few companies to show that venture capital is still an attractive investment….”

I recognize that BDC has lost more than $300 million on their VC investments over the past five years. Management counstants from McKinsey are pouring over that fact right now on behalf of BDC’s Board of Directors (see prior post “An idea for McKinsey & Co.” July 8-10).

I’ve been saying it for years, and BDC refused to admit it until last week. If your company has run-rate revenue of $36 million and are nicely EBITDA-positive, such as an attractive public company like Terago (TGO:TSX), the BDC is desperate for your business. Even if that means the Crown has to drop their loan price and tailor its structure so that it can beat the live term sheets of banks and speciality finance firms; that’s just not “complementary”, now is it?

That’s part of how they’ve grown their balance sheet by 100% over the past few years. Taking “profitable” business from guys like us and the chartered banks; against the requirement of BDC’s Act of Parliament that requires it “to complement” the private sector.

However, if you’re a tech or lifescience start-up entrepreneur, an Angel investor, or a Venture Capital firm, you’re sadly out of luck. Less than 1% of the total capital advanced last year by the BDC went to your space ($58 million, as compared to $4.3 billion in new loans largely for the traditional economy and $3.7 billion for car leases), despite the fact that IT, Biotech and Lifescience make up a far larger slice of the economy than that.

There seems to be a desire in the Risk Management group to do the easier deals. The ones where the private sector is often already well-equipped and willing to play its role. The double standard of reducing VC investments by 33% at the same time as authorizing $8 billion of new capital for the rest of the economy appears to confirm everything I’ve been railing about for the past four years.

At least “Bruce the Shark” is now admitting to it.

MRM