New Business And The NZ Venture Investment Fund
Wednesday, 31 October 2001
Hon Pete Hodgson Speech Notes
[Address to Bell Gully hosted seminar on venture capital, Wellington]
You’ve invited me to explain how the Government’s New Zealand Venture Investment Fund will contribute to economic growth and the formation of successful new companies.
To do that I have to start with the big picture.
The Government understands that for the economy and new businesses to thrive, we need to create an overall environment where innovation flourishes.
We’re confident that New Zealanders have the necessary drive and talent. But we know that New Zealanders haven’t been as successful as we need to be in commercialising good ideas.
Strong and well-directed public and private investment in research, science and technology is very important. But it is not enough in itself to foster a knowledge economy. We need an innovation system that transforms ideas into marketable new products and services.
The concern that much of the research and technology generated by our innovation system is not fully exploited – or not exploited at all – has not been unique to New Zealand. In recent years many industrialised countries have confronted it. So we are not alone in taking steps as a Government to speed up the commercialisation of R&D.
If any of you were at the Knowledge Wave Conference you would have seen a consensus forming that New Zealanders need to develop a greater sense of urgency about lifting our economic performance. We need to hit the accelerator to catch up to the rest of the developed world, which is steadily pulling ahead of us.
Building a larger, more effective venture capital industry was one of the recommendations from that conference. It put forward four specific actions:
New Zealand financial
institutions to invest 10 percent of their assets in
SOEs to invest 10 percent of their assets in relevant VC industry funds
Seek increased investment in New Zealand VC from offshore institutions
Create a VC industry body, led by players with real capital to invest
The Government is considering the recommendations that relate to us. We're looking at how they can inform the draft national innovation strategy put up to the Prime Minister by the Science and Innovation Advisory Council.
But the point I want to make is that while venture capital is important, it is also just one of a number of fronts on which New Zealand must move if it is to achieve the prosperity we all want. The Knowledge Wave conference recommended action in many other areas as well, from immigration to education to regulation. Venture capital is one economic lever amongst many.
We’ve set up the Venture Investment Fund with capital of $100 million, which will be co-invested with the private sector. The investment targets are seed-stage and start-up New Zealand businesses based on technology or high value-added goods and services.
The aim is to accelerate the development of the venture capital market in New Zealand. Venture capital has been growing rapidly in New Zealand in the last couple of years or so, but we found general agreement that it's still thin at the seed and start-up end of the spectrum.
Given time that problem might have fixed itself, as the venture capital market matured. But we’ve decided to do what we can to accelerate that development because we don't think there's any time to waste.
It’s a temporary intervention. When we’ve help build the extra capital — and more importantly the management expertise — that the market needs at the seed and start-up end, the Government will be gone.
We're in to complement the existing private sector players, not compete with them. And we're in for just a few years, not indefinitely.
I’m going to assume that you understand the basics of the operating model we've chosen, with the drop-down funds, governing board and various criteria around investments. The details have been public for a while now and I understand many if not most of you will have picked up what you need to know.
Instead I want to come back to your initial question – How will the fund contribute to the formation of successful new companies?
Part of the answer is that venture capital is a kind of vacuum cleaner for commercially valuable innovation.
With a thin venture capital sector, good ideas will often end up chasing money — and some will go begging. The evidence, mostly anecdotal, is that that is the situation in New Zealand.
It is much more efficient to have money chasing ideas. If we thicken up the venture capital supply, we increase the demand for ideas worthy of investment. For investors, the market for those ideas becomes more competitive. Venture capital becomes more adventurous.
One consequence, of course, is that not only the best bets will be funded. More risky ideas and enterprises will attract investment. And some of them will fail.
Failures are not just okay. They’re essential.
If we found that none of the proto-businesses invested in by the Venture Investment Fund fell over, we would know that we weren’t doing what we set out to do. We wouldn’t be in venture capital, but something further down the risk scale. We would be investing in ventures prospective enough to attract funding from elsewhere in the finance sector.
Successes, of course, are more than okay. But the prospect of successful ventures does raise a further question: Where will the capital for their next stage of development come from?
We have been very conscious of this issue in designing the Venture Investment Fund strategy.
As a result of our dialogue with the VC sector during that process, we broadened the initial brief of the fund from seed capital to cover both seed and start-up funding. This was precisely because we were alerted to the risk of pushing a flush of start-ups into a VC market that might not have the capacity to take them on.
So what about successful start-ups that need expansion funding?
I don’t know, frankly, if that’s going to be a problem. If it is, it’s a problem I’ll be very happy to have created. Because it will be the problem of a burgeoning, innovative economy with a very promising future.
If there are capital requirements that the New Zealand finance sector has trouble meeting, foreign direct investment is likely to be at least part of the solution.
I doubt that promising companies that have made it through the high-risk seed and start-up phases will be unattractive to overseas investors if their only problem in attracting New Zealand capital is that it is over-subscribed.
Of course I would like to think that New Zealand investors will step in. I would like to think that our sharemarket will become more attractive as New Zealand companies improve their performance.
I do expect that allowing the Government Superannuation Fund to invest in the share market will help strengthen it. So will our moves to provide better protection for smaller shareholders.
If FDI is required, nevertheless, it will be welcome. The Government has already stepped up its efforts to attract it, by expanding the FDI activities of Trade New Zealand.
The recently released Tax Review has further possible implications for investment in New Zealand.
Although tax is not – or should not be – the main driver of decisions on where to locate investment, it can exert some influence at the margin.
The review recommended reducing the tax burden on foreign investment into New Zealand, especially direct investment. It also looked at ways of targeting new foreign investment.
Michael Cullen has remarked on the attraction that cutting tax for non-residents has for a finance minister, which is that it’s far less expensive than cutting the rate to everyone.
But these ideas raise issues requiring further work. How could we ensure, for example, that a lower tax rate would apply only to new activities?
This work and more will go on in the next several months.
We are cautious about any departure from the broad base, low rate approach to taxes, even for the sake of international competitiveness. But nor will we be too quick to decide that nothing can be done with taxation to encourage New Zealanders and others to invest in our country’s future.
One last thing.
Central and local government are not the only possible sources of innovative support for new businesses.
The financial sector, the legal sector, the business community in general have their part to play. And there are business opportunities in servicing business growth.
As we’re hosted by a law firm tonight I’ll mention an example from the legal sector that caught my eye recently.
Apologies to Bell Gully … it’s from one of your competitors.
Simpson Grierson has recently launched a scheme they’re calling Equifee, which stands for equity for fee.
I understand it provides for “new economy start-up companies” - precise definition unknown – to get legal advice in their early phase in exchange for equity rather than cash.
We all know how expensive lawyers are. I expect some start-ups will find this an attractive option. And although Simpson Grierson might take some losses on it, they will no doubt find themselves with a few winners on their hands as well.
It looks like a good idea to me. It looks like the kind of initiative New Zealand business can use. And it’s simply business spotting an opportunity, not Government spotting a market gap.
I’m sure New Zealanders have what it takes to start and grow the new businesses our economy needs. The Government is seriously looking, all the time, for initiatives like the Venture Investment Fund that will help. The business community has a powerful sense of urgency about lifting performance and finding growth opportunities in areas it hasn’t necessarily searched before.
In this country we possess natural advantages and a can-do attitude that older economies find hard to harness. With this new fix of determination I believe our economy is beginning a transformation that will surprise everybody, including ourselves.