Three facts should concern Canadian technology companies and their investors:
- Canada has not produced a single Unicorn* company since 2015 (*enterprises with valuation > $1 bn)
- Canada’s innovation ranking is 22nd (behind Finland, Sweden, Israel, Norway, Singapore, Belgium and Ireland) – all of which have smaller populations than Ontario
- Canada ranks behind New York, California and Massachusetts in number of and ability to grow/scale companies (adjusted on a per capita basis)
Since Unicorns, tech innovators and high growth companies are invariably funded by investors, let’s take a look at Canadian vs. US VCs: Canadian venture capital IRR (internal rate of return) between 2007 and 2016 was 4%. US VCs achieved 10% IRR for the same period.
Firstly, who is to blame for Canadian tech sector startups/scaleups underperforming when compared to so many other jurisdictions? Are Canadian founders/CEOs making mistakes? Or are investors making poor bets? The answer is a bit of both, and they tend to reinforce one another’s bias with groupthink.
Investors want high returns. They tend to invest in companies that plan on stellar revenue growth. It turns out that tech companies, anticipating what investors wish to hear, can create some pretty exuberant revenue forecasts. The average annual growth forecasted by tech companies that Plant surveyed was 160% – which is double the average CAGR of all Unicorns! (Recall, Canada hasn’t produced any of those since 2015.) Plant coined this phenomenon, the phantasmagorical forecast.
The groupthink continues. Investors weren’t born yesterday, so their inclination is to hedge on the phantasmagorical forecasts and fund their deals with less capital, less frequently, and at a later stage than their more successful American counterparts. This produces a very predicable outcome: with less funding, the target companies achieve lower and slower growth, reduced valuations and impaired ability to raise follow-on capital. An easy way to eyeball the relationship of investment to revenue growth (and IRR outcome) is the investment velocity ratio (investment $millions/years in business). 35 Canadian tech founders (averaged) believe they’ll need $3.5 million in funding to grow revenue from $1.4 million to $20.7 million over three years, respectively. That’s a velocity of about 1.2 ($3.5 million divided by three years.) Kik Interactive is a rare Canadian tech Unicorn. Their velocity is 112. The Canadian CAGR expectation is an astonishing 144% with investment two orders of magnitude below evidence-based reality.
Successful US tech companies have another thing going for them over Canadian “Tortoise techs”: marketing. High-growth US tech companies raise sufficient initial capital to support marketing spending equal to product development. This 1:1 spend ratio is from Day One of funding. At the point of product launch, the successful US company typically increases marketing spending to a 2:1 ratio over product development.
Not so Canadians. Investors typically fund product development. Marketing comes into play as an afterthought when the product is launched in the form of promotional activity. Market fit and value proposition weaknesses often come to light, spurring product enhancement and redevelopment effort, requiring additional investment. This scenario often leads to an investment down round, or worse. Many Canadian innovations are simply replicated and outpaced by better-funded players. Or the startup fails, blaming “lack of funding.”
The above scenario is borne out by the Impact Centre, which surveyed the presence of a dedicated and qualified head of marketing in startup and scaleup tech companies. Canadian companies love the compromise of “dual role” positions e.g. VP Sales & Marketing, VP Marketing & Business Development, or Director of Marketing (reporting to VP Sales and Marketing.) Job site http://www.indeed.com is chock-a-block with these hybrid roles. Moreover, close examination of VP marketing resumes in Canadian tech startups reveals fewer experienced players with a track record for building growth companies in technology.
In contrast, US technology companies don’t mess around. They employ a dedicated head of marketing i.e. CMO, early on and the resumes are reflective of the mission at hand: success in growing a technology company. Marketing isn’t a useful thing when starting up a tech company – it’s essential.
Five takeaways for startups and scaleups that want to succeed:
- Large investment returns (IRR) in tech require high growth
- High growth requires high investment velocity – 5-10 times the Canadian average
- Spend the same on marketing as development from day one.
- Double the marketing/development spend ratio at product launch
- Assign a qualified head of marketing with tech startup experience early on