$40m VC cheque hard to bank

A Government attempt to create a brighter future for innovative young firms by underwriting $40 million of venture capital investment could turn out to be a "blank" after the New Zealand Super Fund turned its back on the sector.

The underwriting decision, made last month, was designed to allow the Crown-owned New Zealand Venture Investment Fund (NZVIF) to invest an additional $50m in venture capital funds. It last week called for expressions of interest from fund managers which would each invest between $10m and $25m on its behalf in "emerging New Zealand technology companies which need capital to expand".

However, under the terms of the NZVIF scheme, the private sector fund managers would need to find investors willing to match the government money dollar-for-dollar.

NZVIF has invested $109m in six venture capital funds since it was established by the Labour government in 2002 to boost the country's hi-tech industries. But Colin McKinnon, chief executive of the Venture Capital Association, says that in the current economic climate fund managers are struggling to raise matching private capital.

One, Endeavour Capital, was promised $20m from NZVIF in March last year to establish a new fund, but hasn't yet been able to call on the cash. Endeavour had hoped to start investing in businesses at the start of this year and close its fund off to investors mid-year, but it has not yet raised sufficient funds.

Chairman Neville Jordan attri-buted the delay to the "general economic environment", but that comes on top of the reticence of institutional investors to dip their toes into the venture capital market.

The NZ Super Fund, which has $16.4 billion under management, announced in October last year that it might invest $30m to $60m in private equity funds that would provide expansion finance to young firms . Endeavour Capital is understood to have responded to a request for proposals from fund managers.

But hopes within the venture capital industry that the Super Fund might allocate some of the money to venture capital funds, triggering a wave of other institutional investors to follow suit, have been dashed.

The Super Fund announced in July that it would invest $30m in a fund run by Waterman Capital, which Mr McKinnon describes as an investor in established "heartland" businesses. Super Fund spokesman Paul Gregory says more investments in private equity funds will follow, but it is not considering making any investments in venture capital funds, which specialise in higher risk but potentially more lucrative earlier-stage investments.

"The returns have to be there for us to get invested, because our job is to maximise our returns without undue risk."

Mr Jordan would not comment on the Super Fund's stance. But he says Endeavour has received good interest for its new fund from overseas investors – particularly in the United States and the Middle East. If New Zealand institutions don't "wake up", more innovative technology companies will "migrate offshore, following the money", he says.

"You see that starting to happen already. Investing in property and `selling paper' to one another is a `closed system'. It doesn't earn foreign exchange which the country needs. Our interest is in companies based on research and development that are exporting and there are many companies that make ideal investments in that space."

Endeavour's existing i-Cap venture capital fund has invested in technology businesses that include mobile payments company GFG Group, secure email firm SMX and pharmaceutical company Proacta.

Mr McKinnon says the fact that the Super Fund hasn't yet invested in a venture capital fund is probably "entirely rational".

"Investors have got a lot of options they didn't have a few years ago, including investing in `distressed assets' that are showing good returns."

He says it is encouraging that the Super Fund has made a "step towards the middle from the top" by investing in a private equity fund that makes smaller invest-ments. At the same time, angel investors – rich individuals – are moving "up from the bottom", making larger investments and clubbing together to form "super angel" funds, including one in the US which has US$40m to invest.

"This space in the middle that we call venture capital is going to be filled somehow. Right at the moment, it is hard to do it with the old closed-end fund models, but investors are pushing into that space from either end."

Even so, it is difficult for firms to raise capital in the range of $2m to $10m, he says, "not just in New Zealand but overseas as well".

Mr McKinnon says it is good the Government has put more money into NZVIF, but confidence among private investors is "the constraining factor". The Venture Capital Association is looking at whether mezzanine funds, popular in Australia, which provide loans to businesses as well as equity, could play a role.

"In two years' time in 2012, if GDP is picking up again and people have forgotten about the `South Canterbury Finances' and have started raising their eyes to the horizon thinking there are good times ahead, then the conversation might be completely different."

A light on the horizon – Mr McKinnon expects NZVIF-backed venture capital funds will soon announce good "exits" from a couple of their investments, proving they have been capable of picking some winners for their investors, which include the taxpayer.

- © Fairfax NZ News