Friday 25th October 2019
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Venture capital is at least on the agenda of New Zealand's mainstream fund managers and some have gone much further than that.
Milford Asset Management calls its efforts "private equity" but its investments, initially through its Active Growth Fund and now through its $150 million Milford Private Equity Fund II, do fit squarely within the $2-20 million range that many regard as a funding gap for new ventures in New Zealand.
Associate Finance Minister David Parker has said the government's $300 million Venture Capital Fund Bill will address that perceived funding gap, that he's convinced does exist, for companies that have outgrown the angel funding stage.
Milford director Brooke Bone says a couple of the fund's investments have been $5 million but that it typically aims for about $10 million.
"We don't really invest in venture capital," Bone says, although he acknowledges that four or five years ago Milford did support some early stage companies and that it continues to support their development.
Although VC investment is often focused on technological developments, Milford's smaller investments include $8 million in a chain of childcare centres and $5 million into a waste collection business that turns over $45 million a year, both well-established businesses with positive cash flows.
But, unlike some NZ private equity firms, Milford's fund can invest in companies with negative cash flows.
The waste collection business has a technological aspect to it in that a lot of effort goes into looking at how to deal with waste more efficiently.
Bone still has about $70 million available from the fund to invest, but it isn't only money he's offering and he requires that Milford have a seat on the board of a company his fund invests in.
"That model seems to work a lot better for us. We can bring to bear and help those companies in many ways because of our broad range of experience."
Milford does have a secondary goal to help grow NZX and Bone observes that about half the companies he invests in are bigger than 50 percent of the companies already listed on NZX.
The recent capital markets review was sparked by the continuing decline in companies listed on NZX and provided 42 recommendations aimed at turning this around.
They ranged from the tax treatment of KiwiSaver funds, saying that contributions shouldn’t be taxed, only withdrawals, to getting rid of the requirement to include financial forecasts in offer documents.
Bone says it is likely some of the companies he's investing in will list on NZX at some stage – point-of-sale technology company Vend is a case in point.
"We would like to list a number of these businesses but we want to do it well," he says. "Enough of them are large enough now that they're producing cash so they're not necessarily under any time pressure to go to the market."
Some have already listed, with mixed success. Wellington-based Volpara Health Technology bypassed NZX and listed on ASX in 2016 because, the company said, it wanted to be part of a financially deeper market. The initial public offering price was 50 Australian cents per share and they were recently quoted at A$1.705.
Then there was Orion Health which listed on NZX in November 2014 but was taken private again early this year. Its shares peaked above $6 shortly after its IPO but the price paid when it departed NZX was just $1.224 per share.
The most famous example in New Zealand is, of course, Xero, which floated in 2007 after raising $15 million and now, having abandoned NZX in favour of ASX, has a market value of A$9.3 billion.
While there have been other successes – Pushpay is worth nearly $900 million – there have also been plenty of losses in the listed space such as Wynyard.
Harbour Asset Management managing director Andrew Bascand has a long history of investing in fledgling ventures, both in his current position and in previous roles, and can attest to how risky such investment can be.
He supported Genesis Research & Development, a company that aimed to develop a treatment for psoriasis, among other fields of research, which listed on NZX in 2000 but which finally failed in 2010 for lack of both scientific success and funding.
Some estimate the likelihood of success with such investments may be one in 10 so anybody deciding to invest in the sector has to be ready to experience such failures.
Bascand notes that he invested in both A2 Milk and Pacific Edge in 2003. Nobody could have predicted then that A2 would become one of NZ's top 10 companies with a market capitalisation of more than $9 billion after finding success in selling infant formula to the Chinese.
"A2 spent 10 years doing nothing. That shows you how patient you have to be."
Pacific Edge, which has developed blood tests to detect bladder cancer, is still hanging in there, although shareholders are probably sick and tired of it looking promising but never quite getting to the nirvana of profitability.
Pacific Edge lost $18 million in the year ended March and is sitting on $138 million of accumulated losses.
Wellington Drive Technologies is another slow burner in which Harbour still has a stake. It has reported small first-half and nine-month net profits this calendar year but is yet to deliver a full-year bottom-line profit. Its accumulated losses at June 30 were $114.5 million but, undeterred, it is now asking shareholders to give it another $5.3 million via a rights issue.
But Bascand is among those who agree that there is a funding gap for early stage companies in New Zealand and that there's a big question about whether the larger fund managers, particularly those with KiwiSaver funds should be investing in the sector – Harbour doesn't have a KiwiSaver fund of its own, but it does invest money on behalf of KiwiSaver managers.
"We've given this a lot of thought. In 2020, I would expect Harbour to be looking in a very serious way at, how do we lift our investment in the VC sector," he says. "We are getting more resources to look at that part of the market."
The firm currently is looking at five possible deals but hasn't decided to invest in any one of them yet. "It's not a question of throwing capital at the wall and hoping some of the mud sticks."
Frank Jasper at Fisher Funds Management says his company doesn't have any exposure to VC or private equity but "we are exploring this and thinking about the best way to attack it.
"The space is attractive, not so much because I think there are massive risk-adjusted excess returns over and above listed markets on offer, but the opportunity to participate in the growth of companies that may never make it to a listing would expand our investible universe," he says.
But he thinks Fisher would need to be taking chunky stakes and to be a hands-on contributor to whatever companies it invests in, rather than just dabbling here and there.
"I do think that the expertise you bring to bear is important – we are conscious that to be a 'good' owner of private businesses needs more than just providing capital. It's also about contributing to business strategy, developing improved financial disciplines and adding rigour to corporate governance."
Jasper doesn't think Fisher is fully geared up to make such commitments yet, although it does have some expertise in these areas.
But he doesn't think the problem for VC in New Zealand is lack of capital. "Is the world short of money? I think the opposite is true. The challenge is finding good ideas."
Mint Asset Management managing director Rebecca Thomas is still "looking with interest" at the sector and would be more likely to team up with another manager with expertise in the sector, rather than going it alone.
"The failure rate is extremely high" and investing in early stage ventures needs a degree of sophistication to manage the risks, Thomas says.
That's also the approach Nikko Asset Management would take, says NZ managing director George Carter.
"It requires specialist skills and knowledge to do it. Jumping into it without the correct skill set and knowledge is a bit foolhardy."
It's also costly in terms of the intensive management required and that makes it difficult for a manager such as Nikko because of the current pressure on fees.
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