Link to original article

Venture capital-backed companies are caught between a rock and a hard place

The economic downturn has created a drought in venture capital financing that has some companies across the country predicting bankruptcy by the end of this year.

In Atlantic Canada, where venture capital is already scarce, retail investors are holding on to their purse strings, which means companies will find it hard to get cash, said Thomas Hayes, the president and chief executive officer of GrowthWorks Atlantic Venture Fund Ltd., a venture capital firm that has $33 million in regional assets under its management.

"What we're finding, and this is our peak selling season, is the retail investor has taken hits in terms of their own portfolio values and they're becoming increasingly risk averse so that has been challenging for us as a retail venture capital company on the fundraising side," Hayes said.

Companies that rely on venture capital for revenue while growing could take longer to achieve profitability, Hayes said.

"The worst thing we can do is run out of capital and not be able to support them during these challenging times."

A recent survey of CEOs in the biotechnology sector shows that 50 per cent of emerging firms lack the cash needed to stay open past the end of 2009, while 25 per cent don't have enough money to make it past June.

Kasia Majewski, spokeswoman for BIOTECanada, the industry organization that commissioned the survey, said the recession has meant firms are looking for money that's not there.

"The vast majority of (financing) is through venture financing, and because the markets right now are closed ... most of them are contemplating significant reduction in their operations or closure," Majewski said.

Gregory Smith, the president and CEO of Canada's Venture Capital & Private Equity Association and president of Toronto-based Macquarie Capital Funds Canada Ltd., said today's economic crisis has meant companies cannot evolve to the next stage of growth - acquisition.

"So they're forced with, 'We can't raise more money to grow and we can't exit to a strategic buyer.' Some companies are going to be fighting for their existence in 2009," Smith said, speaking after a private equity association reception in Calgary where he met with industry leaders on the economy and the state of the venture capital sector.

Smith said the current recession is only the icing on the cake for his industry.

"There is this structural problem that exists with the fund flows with venture capital in Canada that existed prior to the economic crisis in Canada and the economic crisis is going to serve to further enhance this problem," he said, pointing to a January report from his association, sponsored in part by the Business Development Bank of Canada, Industry Canada and provincial government partners.

Venture capital investment in Canada plunged 35 per cent between 2003 and the third quarter of last year, while venture capital in the United States grew by 17 per cent, the report said.

Gilles Duruflé, the independent consultant and former senior partner in charge of venture capital investments for Quebec's provincial pension plan, Caisse de dépôt et placement du Québec, said in part, the decline of venture capital investment in Canada is due to provincial governments withdrawing from tax credit programs targeted at individual investors who support labour sponsored venture capital corporations.

"The second dimension is cyclical. It is the impact of the present turmoil on the financial markets and the present recession," Duruflé said.

The report highlights the importance of venture capital-backed companies, which generate sales of $18.3 billion annually and export 70 per cent of their sales, four times the average export ratio of the Canadian private sector, according to Canada's Venture Capital & Private Equity Association.

Duruflé pointed further to the importance of supporting the venture capital industry.

"When you have successful tech entrepreneurs who sell their companies for large amounts of money, most of the time they reinvest part of that money in a new generation of companies," he said.