EQUITY INVESTMENT : Understanding Angels

For many would-be Kiwi entrepreneurs the rocket fuel for growth is angel and venture capital equity investment. So says Colin McKinnon, executive director of the New Zealand Venture Capital Association (NZVCA).
McKinnon is also the voice behind Fuel for your business: An entrepreneur’s guide to angel and venture capital funding which hit the bookstands in the middle of last year just as the world’s financial markets were unravelling at the seams.
His central message still stands. In New Zealand, angel and venture capital investors represent two of the most important options for private companies whose top-notch growth potential comes packaged with sky-high aspirations.
Angels are high net-worth individuals who, traditionally, have travelled alone. In the past decade in New Zealand they have started banding together into networked groups of professionally formed businesses.
Written into their collective DNA is desire to venture some of their dosh on what others may consider high-risk enterprises. They also gain satisfaction from sharing their commercial acumen, contacts or business
knowledge with players at the seed and start-up phase of their commercial life.
McKinnon says the 2005 creation of the $40 million Seed Co-Investment Fund (SCIF) catalysed growth in local angel activity and helped spawn number of angel networks around the country. Ten angel groups are now accredited co-investors alongside the SCIF which is managed by the New Zealand Venture Investment Fund (NZVIF).
In the angel sector, at least, top-line metrics would suggest McKinnon’s message is getting through.
When the Young Company Finance Private Finance Index fired out figures for first-half 2009, they showed angel investors had injected record $30 million into young New Zealand companies. That was more than the amount invested in the whole of the previous year. It’s 50 percent more than the amount invested in the first half of 2008, and four times as much for the same period in 2007.
Most of the dollars went into software and related services, pharmaceuticals, biotechnology and life sciences, and technology hardware and equipment.
Not bad, you’d think, for sector which is itself still in early start-up mode. For the angels have only recently alighted on the New Zealand business landscape and they, like the companies they support, are still learning how best to flap their wings in unison.
Andrew Hamilton, CEO of The Icehouse business growth centre, cautions against too much optimism around the figures. Wrapped up inside the top-line figures, he says, are an unusually high number of repeat investments. “The figures also contain the first or second deals of number of seed funds and angel groups that have only been established in the past year or so. The truth is that for start-up company to raise
investment it’s still quite challenging; especially if you’re raising money for the first time.”
These Young Company Finance Private Finance figures are collected from the Escalator service funded by New Zealand Trade and Enterprise, NZVIF, NZVCA and the Angel Association of New Zealand (AANZ). Hamilton, who doubles as the AANZ chairman, says they represent about half the local angel activity.
In Fuel for your business, McKinnon suggests angels tend to invest geographically close to their homes: “usually within 100 kilometres”.
Many new angel groups are now hovering in the regions. Upstart Angels for example, services the Otago-Southland area. Powerhouse Ventures looks after early-stage Canterbury companies and, Venture Accelerator enables angels at the top of the South Island to link arms with local businesses.
Other angel groups match nationwide scope with specific area of interest. The newly formed AngelLink national angel investment network, for example, aims to back New Zealand high growth technology ventures and pinpoints life sciences, engineering and ICT.
Connected through the University of Waikato’s commercial arm, WaikatoLink, AngelLink’s members include some of the country’s leading biotechnology and high technology investors: Neville Jordan, prominent science, technology and engineering investor; angel investment company Movac, an early investor in TradeMe; investment fund K1W1; and ICT angel investor Sparkbox.
While there is some overlap with angel investment, venture capital tends to seek out more developed companies gearing up for growth spurt.
Hamilton says the venture capital sector has been quiet as number of funds approach the end of their 10 to 15 year investment cycle.
“A lot of funds were created around 2000 and they will be looking to get their money out. But this is not such good time to do that.”
The New Zealand Private Equity & Venture Capital Monitor 2008 shows total venture capital investment slipped 19 percent to $66.1 million in 2008.
“Both mid-market private equity and venture capital deal values were lower than financial year 2007, yet have held up well relative to historic averages,” says the report.
Martin Riegel, chief financial officer and chief operating officer at Fast-50 phenomenon NextWindow, points out that fund managers struggle with New Zealand business owners’ lack of track record.
“To be fair, there haven’t been many repeat success stories. Everyone talks about Rod Drury and Xero because he’s been successful in building tech business and capitalising on that, and he’s now doing it again. But we need to be aware that venture investors like to invest in previous successful management teams because they know how to get things done.”
Ralph Shale, director at corporate finance adviser iGrow, dismisses the notion that the world economic climate should shoulder the blame for current investor caution. “I’ve been in the game for 10 years and it’s not really any different now in terms of external influences or drivers,” he says. “We’ve always had something: We had 9/11 and SARS and number of economic crises. So the investment market has never been static. There is no such thing as ‘normal’ for the investment market.”
New Zealand, Shale says, is constrained by its small size and we must accept that our companies will need to look offshore for funds at certain stage. “Australian companies have to as well. But because their domestic market is so much bigger than ours they can grow to about three or four times the size of New Zealand companies before looking offshore for funding.”
He challenges the negativity around the idea that New Zealand may lose its locally hatched businesses offshore. “We don’t have the capital base here to support them and why would we want to do that? If you look at the Israeli venture capital model – which New Zealand partly followed – almost all [of the successful companies] had cornerstone international investors.”
Shale encourages New Zealand business to reframe its thinking. “Our companies must go offshore in order to grow and we should accept that international investors can bring lot of value.”
Maybe, he says, we can generate enough momentum to create an eco-system in New Zealand. “A lot of company’s value is created in its early stages. Maybe that’s what we should be doing.”
The good news, according to Hamilton, is that New Zealand syndication rates are ahead of international best practice. “There’s lot of cooperation in the New Zealand investment space: especially in the early stages. Our syndication rate is over 50 percent. That means one in two deals will have networks or groups co-investing together and that’s fantastic because it means the groups are talking together,” he explains.
“When you have multiple eyes looking at deal you get better perspective on due diligence and on what the company needs to do. When company runs out of money or has an issue you’ve got wider group of people who can support it through that phase. And from an investor’s perspective they can get more balanced portfolio.”
Hamilton’s ICE Angels group has injected around $20 million int