Transforming an innovative idea into a profitable business in the green and high tech industries requires high risk venture capital. Unfortunately, as sources of risk capital dry up, it is becoming increasingly difficult for Ontario's entrepreneurs to get their ideas off the ground. To help, in March the Ontario government announced a quarter billion dollar solution: the Emerging Technologies Fund ("ETF").
The ETF, a Ministry of Research and Innovation program, is intended to boost emerging businesses in Ontario's green, digital media and information, communication technologies, and advanced life sciences industries. Because the government will partner and invest side-by-side with venture capital and private sector investors, ETF funds will be considered a "co-investment", rather than a government grant or subsidy.
The McGuinty government's unique "private-sector" approach is aimed at attracting and providing incentive for private capital injections in emerging Ontario-based businesses. The ETF will be designed to reinvest its returns in new opportunities, thus creating a self-sustaining fund.
Under the program, once an investor has committed funds by way of a term sheet or commitment letter, ETF will match it, instantly doubling the funding to the business. It is expected that the province will cap its investment in any single business at $5M (for a total investment of $10M per business). Through the program, Ontario will invest up to $250 million in the private sector over the next five years.
The ETF is intended to provide immediate help to the green and high tech industries and ETF funds could start flowing as early as July 2009 – practically lightning speed for a government program. For funds to start flowing, two things need to be done:
- private sector investors must be qualified, and
- eligible businesses must be screened.
To screen and "qualify" investors for the program, we understand the government will retain the services of a third party advisor – probably an investment bank or financial consulting firm.
In terms of screening businesses that will qualify for funding under the program, the government will rely on the private investors to do all the screening, selection, and due diligence.
Clarifications to come
The goal of the ETF is clear: to drive start-up investment in green and high technology businesses in Ontario. Some important program details have not yet been announced, such as what "investment" and "businesses in Ontario" actually mean. Ministry officials are said to be working around the clock to determine these criteria and are reaching out to select stakeholders for advice.
While the specific criteria relating to the ETF have not been announced, for guidance we can look to how similar and complementary funds function. For example, we believe there likely will be two sets of criteria: one for businesses seeking funds and one for investors.
What businesses will qualify?
Though there will be no formal due diligence carried on at the government level, there will be requirements imposed on the company's business plan. For example, it is clear that the company must do business in one of the following industries: green tech, digital media and information, communication technologies, and advanced life sciences.
As well, the business' main focus should be the technology, rather than having the technology merely incidental to the company's success. The technology must be innovative, which means it must either solve a new problem or provide improvements to a current solution. Furthermore, the company must own the intellectual property for the technology and must intend to market it, not merely use it to generate more research and development.
To ensure the funds will be used to create quality jobs and provide economic activity in Ontario, for a company to access the ETF it will have to demonstrate it has a strong connection to Ontario. The government has stated that a business will need to have a "significant corporate footprint in Ontario". Further qualifying this is the requirement that the company needs to be "emerging". In other words, the corporation will have to be in its first ten years and either in the start-up, early stage of development, or at the pre-commercial stage.
To satisfy the significant corporate footprint in Ontario requirement, the fund manager probably will require the business to meet certain thresholds in terms of the amount and quality of employment and the location of the business' headquarters. A review of similar programs in other jurisdictions suggests that the ETF fund manager probably will require that the company employ at least 10 people, of which 2/3 will likely be expected to be in Ontario.
What investors – and investments – will qualify?
The ETF will be designed to attract experienced investors with a track record in the industry in which they are seeking co-investment. As mentioned, we believe the government will retain a third party advisor to screen qualified investors.
Because the government will not carry out its own due diligence regarding businesses that get ETF funds, it will be relying on the fact that qualified investors will perform sufficient due diligence before they risk their own significant capital. As a result, the role of the investor partners will be significant.
Though it is desirable for the managing minds of a company to invest in the business, such investments will probably not be considered for the ETF matching funds because the program's goal is to attract private investments for Ontario's green and high tech industries.
Regarding foreign investors, we expect the ETF will be structured to encourage foreign investment as much as possible because such investment provides a greater pool of resources for Ontario's industries. And, from the foreign investors' perspective, Ontario's no strings co-investor status will likely be attractive.
The ETF is a revolutionary public policy initiative that provides a myriad of short-term and long-term benefits: it will create jobs and economic activity now; it will provide a much-needed boost to Ontario's stagnant venture capital environment; it will establish Ontario as a preferred jurisdiction for domestic and foreign private capital in emerging technologies; and it will help carry Ontario's emerging technology companies into the future.