What is the role of public policy for funding entrepreneurs?

I’m at the annual Quebec City Conference where I’m attending the Public Policy Forum on Venture Capital and Innovation. I understand that last year’s conference concerned itself with what to do about the turmoil experienced throughout the financial sector. A year later, “the returns [of venture capital] are disappointing even against reasonable benchmarks” as understatedly observed by Prof. Thomas Hellmann of the University of British Columbia who is one of the conference organizers and speakers.

Against this backdrop where the venture capital industry appears to be shrinking, the spotlight was shone on the critical role of angel investors as important financiers of new businesses. A recent BC Angel Study confirms previous data that show angel investors bring not only capital to companies but also credibility, contacts and networks as well as their deep understanding of specific market segments gleaned from their own entrepreneurial experiences.

Angel investing is here to stay. Businesses have always benefited from personal monies. Most businesses become going concerns just from the investments they get from their own circle of friends and families - and only from the angel investors when that extra funding boost is required to lift the business to the next level.

The prominence of angel investors and venture capital (VC) firms is a fairly recent phenomenon as the role of technology became more central to the entrepreneurs' business models. After all, funding drug development from a university spin-out or developing an enterprise software business was obviously beyond the investing capabilities of most entrepreneurs' networks of friends and family.

No matter what the state of the economy, it is unlikely that angel investors - or any investor type - will disappear from the financing ecosystem entirely. Friends and family - and the occasional angel investor - will continue to be the first sources of funding for the entrepreneur. As technologies become less expensive and less central to the success of the underlying business models, there is less need for the entrepreneur to tap into larger investment sources such as offered by the VC firms. We're already witnessing this in social media applications. However, we will always have a need for the deep pockets of angel investors - and even deeper pockets of VC firms - for businesses that require such investments to grow and succeed.

The deliberations at the QCC are focusing on what role public policy should play to ameliorate the venture capital industry. I believe the role of governments should be minimal as to allow the market forces determine the financing models that will best serve the investment needs of early stage companies.

To be or not to be … a public company

“Should I take my company public?” is a question I often encounter. More dreadfully: “We’re vending our (early stage) company into a public vehicle” (shudder!).

Many entrepreneurs are cognizant of the desire for exits or some other liquidity event amongst angels and other early stage investors. These entrepreneurs feel that being a public company serves the purpose of liquidity (for the investors) and raising big sums of capital (for the entrepreneur). For early stage companies, going public may or may not be a good idea for the entrepreneurs or for the investors.

When does it make sense to be a public company?

• Strategic quality – The company has a clear strategic vision and the business plan to execute on that vision to make money. It has a demonstrable competitive advantage; and can sustain this competitive advantage into the future. The core business is capable of sustaining growth and shareholder value in the future. Its capital needs to meet its growth plans can best be satisfied by the public markets.

• Operational quality – The company should enjoy growing demand for its products. It should demonstrate the ability to keep growing its market share. Its infrastructure and operational processes should be aligned with its strategic direction.

• Reporting quality – The company must be able to predict and forecast based on good business planning. It must be credible in its message to financial audiences to ensure trading activity that warrants its corporate performance.

• Receptive public markets – Are the markets ready for your company to go public?

Too often, entrepreneurs only consider the receptiveness of the public markets without paying enough attention to the strategic, operational and reporting qualities of their company. Without these qualities to sustain its share price, the newly public company quickly languishes on the markets and has great difficulties in raising additional capital.

I can count the number of happy endings to early stage companies who went public before achieving any significant milestones on a single hand – and considering the number of early stage companies that have gone public since the late 1980’s when I started keeping track … well, you can do the math.

Believe it or not, the angel investors I hang out with are in this business of angel investing because they really, really (!) want to help the entrepreneur’s business to succeed. The thrill of helping to build and grow truly great companies may actually supersede their other investment priorities. Going public makes sense only if the benefits to the entrepreneurs and the investors are sustainable.