Where are Canada’s startups? 165 foreign buyouts since 2004

In March 2009, Waterloo, Ont.-based Research in Motion Ltd. acquired Certicom Corp., a Mississauga, Ont. technology security company, in what seemed a rather routine purchase of a Canadian tech startup. The purchase stands out today because a Canadian company bought a Canadian startup, which is rare. Of the roughly 165 Canadian companies bought out between 2004 and the end of 2012, most of them startups, RIM's purchase of Certicom was the only acquisition by a Canadian company in that eight-year period, according to a list of acquisitions compiled by the Branham Group and published this month on the website of the Information Technology Association of Canada (ITAC). The remainder were acquired by larger companies based in the United States, as well as in Europe, Japan, the United Kingdom, and India, according to the list. Experts say the trend is an obstacle to building innovation and a stronger digital economy in this country. “here is a clear sense in the industry that we are selling companies more quickly than we are growing replacements,” Karna Gupta, president and CEO of ITAC, wrote in an article attached to the list of acquisitions. Information technology sector listings, as a percentage on the TSX, have declined from 8 per cent in 2004 to 1.2 per cent today, Gupta wrote, showing “a vicious cycle in motion” as investor disinterest in Canadian tech becomes normal and companies in Canada are undervalued. “Unfortunately we lose them way before they've had a chance to grow into something that really contributes back to the economy,” said Adam Chowaniec, founding chairman of the nonprofit network Startup Canada, which was launched last year to promote Canadian entrepreneurship. “When a tech company gets acquired, the only piece that people want to keep is the technology, or the IP piece. All the sales, marketing, business development stuff just gets thrown out the window, which is unfortunate because it's the part that we need to build up the most, the supporting elements,” he said in a phone interview. Helene Joncas, vice-president of business development for the Eastern region at the Wavefront commercialization centre, agreed, saying Canadian tech companies are acquired before they’ve reached maturation or full value. Most of Canada’s tech startups have a difficult time growing beyond 10 people, she said. “We need to have companies who grow to become large companies, so that we can have a good wireless innovation ecosystem in Canada,” she said. Gupta wrote that one of the key problems is gaining access to international markets. Canada's market is too small for most companies to be successful, and is comparable to doing business within a single U.S. state like California. Other central challenges for startups are access to capital and talented professionals, he said. Chowaniec said there is a need for a cultural shift in the way Canadian entrepreneurs see their companies. “We're not valuing our companies well enough. We value them less than our U.S. counterparts,” he said. Gupta, in the ITAC article, cited a February 2012 analysis by Byron Capital Markets that found the average publicly traded Canadian tech company is valued much lower compared to those in the United States, despite higher profit margins and growth. Canadian software companies, on average, were valued at a 23 per cent discount, and hardware companies at 34 per cent. Canadian tech companies, he said, “are an excellent bargain.” Gupta wrote that the problem in Canada is deepened by the rules of Canadian securities regulators. The Ontario Securities Commission (OSC) gives shareholders, not the company board, the final decision on hostile takeovers, while in the United States the boards of public companies have more power to take preventative measures like diluting shares to stop hostile bidders. Chowaniec agreed, saying the OSC's rules tend to favour the interests of investors over companies, whereas the American rules tend to put the companies over investors. “It's much easier to acquire a Canadian company than it is to acquire a U.S. company,” he said. Startups’ venture capital investors may also push for a sale independently of what the company founders want. Joncas said that, due to the limited availability of funding in Canada, startups facing a cash crunch look to venture capital, and venture capital investors, at some point, are interested in “an exit." “If they’ve gotten some funding from VCs , some of the VCs are very interested in getting an exit, because then of course, they get their money back and they get their return,” Joncas said. Sandy Robertson, managing director of the Collingwood, Ont.-based Georgian Angel Network (GAN), said in a phone interview that acquisitions of startups, in general, aren’t a bad thing. They are part of a good, “self-perpetuating” cycle, he said. For one thing, they provide capital to the selling entrepreneurs. When a company is acquired or sold, the money is recycled, and can help them form a new startup or project, he said. Some startup founders are “serial entrepreneurs,” meaning they live to start a company, build it, and sell it, he said. When these entrepreneurs grow tired of the startup cycle, they can settle down to become angel investors. “I see companies that are now in maybe the third company that a particular entrepreneur has started,” he said. “So it is certainly another element to the whole lifecycle of startups.” Robertson said angel investors do not provide enough capital to build the next Google or RIM, and as a company’s demands for fresh capital grow, startups must turn towards other sources, like venture capital funds. That usually means new ownership, and more often than not, foreign ownership. The issue is not takeovers, it’s foreign takeovers, and one solution is to support more Canadian venture capital. “I think it’s a valid concern that policy makers have about how do you keep young Canadian startups Canadian,” Robertson said. “One of the solutions is to support venture capital .” The Conservative government’s 2012 federal budget allocated $400 million to help increase private sector investment in “early-stage risk capital” and support the creation of large-scale venture capital funds in Canada. Michelle McBane, investment director of the Investment Accelerator Fund (IAF) at Toronto-based accelerator MaRS Discovery District, agreed with Robertson, and said acquisitions allow entrepreneurs to join a larger organization, learn from it, and bring valuable skills back to the startup community. “The fact that some companies exit early, may or may not be a bad thing, particularly if the entrepreneur is going to stay on, going to learn, going to contribute to the community and create a new company or invest back into other companies,” McBane said in a phone interview. Some startups don’t have the scale or the momentum to become a large company like RIM, and it makes sense for them to sell early at a lower price. “That entrepreneur, the second time around, could grow into the next RIM,” she said. “It’s an opportunity for them to learn and to go get some experience.” She added: “We have to think of it as a wagon wheel, then a car—an evolution … Not every company is meant to be a huge company.” Ted Hastings, CEO of Waterloo, Ont.-based digital media company Rebellion Media, said in a phone interview that though Canada’s best tech startups get bought up, the situation has improved in the past five to 10 years. “The companies that are selling out earlier in their growth stage are more often—than they were a few years ago—staying in the Canadian ecosystem,” Hastings said. He said Canadian startup BufferBox, though it was acquired by Google, will continue its growth inside Canada. “Which is good because historically, I think a lot of companies that got picked up early on were quickly relocated to the Valley or elsewhere and we lost that talent,” Hastings said. Google Inc. in November acquired Kitchener, Ont.-headquartered startup BufferBox, which allows customers to shop online and pick up their parcels from a local, green BufferBox. Ottawa company Headwall Software Inc., which specializes in assisting customers to develop and deploy complex software systems, was also acquired by Massachusetts-based data migration and information governance solutions provider BackOffice Associates LLC, in July. The terms of the deal were not disclosed in the release, dated July 11, 2012. Ian McLaren, CEO of Headwall, said in a statement that the merger would enable the startup to offer a more comprehensive service to its clients. “Being a part of BackOffice Associates creates an ideal synergy, particularly given that we currently serve clients including some of the top U.S.-based, multi-national companies,” McLaren said. Hastings said the country’s technology ecosystem continues to improve. “It’s not there yet,” he said. “But if we stay on the same path, or at the same speed with which it’s improved in the last few years over the next few, I think you’ll have the right overall ecosystem of access to angel funding, government support and a selection of VCs that are Canadian focused.” McBane’s words of advice for young companies and entrepreneurs? They should always be conscious of who are their potential acquirers, and when they’re developing a product or an idea, ensure the market is buying into it. “You should make sure the products you’re developing and your roadmap fit into their bigger view of the world and their bigger strategy,” she said. —With reporting by Simon Doyle at sdoyle@thewirereport.ca and Danika Grenier at dgrenier@thewirereport.ca and editing by Simon Doyle. This is the second of a three-part series on Canada’s tech startups. The first, on funding, is available here. Look for the third part, on Canada's tech hubs, in the days to come.

Where are Canada’s startups? 165 foreign buyouts since 2004

Broadcast | January 16, 2013

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