Data Shows Capital Supply and Networking Challenges Affecting Fundraising in Canada
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Gordon Hargraves, Senior Partner at Novacap, a Quebec-based private equity firm, was still amazed by how fast his company raised its largest-ever fund 100 per cent virtually.
“Some days we would have 12 to 14 hours of video calls,” Hargraves said. “If it was during the pre-pandemic days, we’d be traveling all over the world to these meetings.”
Novacap officially launched its sixth TMT fund in September 2020 and closed it in February 2021 at CAD $2.38 billion, nearly two times its target size.
The pandemic has brought turbulence and uncertainty to the economy and changed how private capital firms raise money. Canadian venture fundraising had a record-breaking performance since the beginning of the pandemic, whereas fundraising activities of private equity slowed down. However, both asset classes have been raising larger funds than ever before. In addition, the pandemic has taken divergent tolls on mature and emerging fund managers.
VC Fundraising Is on the Rise Despite Slight Dips
VC fundraising has been on an upward trajectory since 2018. Despite the ongoing pandemic disruptions, capital raised for venture funds by Canada-based firms rose to an exceptional height in 2020, with an aggregate of CAD $6.76 billion across 29 vehicles, according to Pitchbook data. This record-high commitment almost equates to dollars raised in 2017, 2018, and 2019 combined.
Janet Bannister, Managing Partner of Real Ventures, attributed the dynamic VC fundraising scene partly to the outstanding performances by young Canadian technology companies and to an increase in digital adoption since the start of the pandemic.
“The venture capital asset class has outperformed almost every other asset class and as a result, more money is flowing into venture funds,” Bannister said.
Another strong drive for more Canadian VC funds is that a sufficient supply of institutional capital has flown down to the Canadian venture capital ecosystem through programs like the Venture Capital Action Plan (VCAP) and the Venture Capital Catalyst Initiative (VCCI).
Launched in 2017, the VCCI program supports the ecosystem by leveraging government money. In 2021, the federal government renewed the program with a CAD$450 million commitment. One of the three streams of investment will allocate in large funds-of-funds that will support Canadian VC fund managers.
These government-sponsored venture capital programs were implemented to attract LPs back to the asset class in the wake of the 2008-09 financial crisis and rebuild the domestic venture capital industry to support the Canadian innovation ecosystem. VCAP and VCCI have been very successful in supporting these objectives. However, the industry’s impressive development is still early and thus fragile. The renewed VCCI program will help cement these gains, especially if it is rolled out quickly.
The continued importance of government involvement through programs such as the renewed VCCI is evidenced by the slight drop in fundraising in 2021. In that year, Canada’s VC firms raised CAD $4.16 billion across 28 vehicles, marking a 38 per cent year-over-year decrease in raised capital.
“Presently we are ‘in between’ these Fund-of-Fund programs and thus the only funds raising presently are those that can do so entirely without (or with only very little) support from the VCCI program,” said Hans Knapp, Partner at Yaletown Partners.
PE Fundraising Slows Down After Crest
Canada’s private equity firms have also experienced ebbs and flows when raising funds in the past five years.
The market saw the most active PE fundraising activities in 2019. More funds were closed, and more dollars were raised than in any year since 2017. According to disclosed data from Pitchbook, the total value of 25 funds exceeded CAD $21.67 billion.
After reaching its peak, the PE fundraising market experienced a downturn in 2020 and 2021. In 2020, Canada’s PE firms closed 18 funds and raised less than half of the previous year’s total.
The sliding trend continued in 2021 as only 13 funds closed, recording the lowest fund count in five years. Despite the decline, the disclosed total fund size of 2021 was almost the totals of 2017 and 2018 combined, reflecting market growth.
Rob Connoly, Chief Financial Officer of Westcap Mgt., believed that the peak in 2019 was “coming off a very low 2018.”
Connoly said the fluctuation was due to the normal cycle of fundraising. After 2019, the numbers “dropped down again in 2020, and started recovering in 2021, but are still not yet hitting the higher numbers,” he said. “As we move post-pandemic, LPs may be able to establish relationships with newer GPs. And we may see new LPs enter the asset class or existing LPs increase their allocation to the asset class.”
Another possible reason for the downturn might be fewer funds raised by firms who hadn’t had a matured GP-LP relationship pre-pandemic. “It’s a people business and they want to get that gut-level check, particularly from people that haven’t met before,” Hargraves said.
Fewer but Larger Funds
Though fund counts lessened, the private capital asset classes have kept the momentum in raising capital. The divergent trends imply a significant growth in median fund sizes. Analysis of disclosed fund sizes from Pitchbook shows that the median PE fund size jumped to CAD $500 million in 2021, a five-year record.
Connoly believed that the increased fund sizes are one consequence of fundraising during COVID. “The LP investors in 2020 and 2021 went to the GPs they’re more comfortable with and they wrote bigger cheques,” he said.
Small-to-medium funds used to dominate the PE fundraising market. In 2017 and 2018, 56 per cent and 73 per cent of funds were under CAD $500 million respectively. In 2021, more than half of the funds were over CAD $500 million.
Since 2019, Canadian GPs started to show their capability to raise multibillion-dollar funds. Four PE funds closed that year surpassing CAD $1 billion. Brookfield Capital Partners garnered the most attention by securing total equity commitments of CAD $12 billion, the largest fund raised by a Canadian PE firm since 2017.
This momentum kept rolling in 2020 and 2021, as five more multibillion-dollar PE funds have been raised.
The fewer-but-larger phenomenon can be also observed across the venture capital ecosystem. Despite fewer funds closed than the previous year, the median VC fund capital crested at CAD $121.73 million in 2020. It was also the first year that Canadian VC investment firms were able to raise an over-billion fund.
In February 2020, Toronto-headquartered venture capital firm Georgian closed its fifth fund with over CAD $1.12 billion commitments.
In 2021, Georgian also closed its new Alignment Fund, valued at CAD $1.3 billion, the highest amount of dollars raised by a Canadian venture capital firm so far.
A major driver for bigger funds, according to Bannister, is that many firms are moving into later-stage investing. “They would like to invest significantly in the later stages of their best-performing companies, which requires the ability to write larger cheques and thus, larger funds,” said Bannister.
Alex Baker, Managing Partner at Relay Ventures, attributed the ability to raise larger funds to the success of investing in Canada’s early-stage companies, and by an oversupply of great Canadian companies.
Canadian VC funds have substantially invested in seed rounds since 2012. These VC-backed companies have been successful and grown exponentially, being capable of raising subsequent rounds of financing, Baker said. “So now, we as Canadian funds, are reaping the rewards of those investments.”
First-Time VC Funds Are Still Promising
2020 was a record year for venture fundraising, but first-time VC funds haven’t been keeping pace with that growth.
Pitchbook data shows that only eight first-time venture funds closed in 2020, a 50 per cent year-over-year drop. The downturn continued in 2021 with even fewer dollars raised in total.
Inability to travel and meet potential LPs in person definitely has challenged emerging fund managers. More importantly, established vintage funds raising more money has left limited capital for LPs to allocate to new funds. Here too is where continued government support through the renewed VCCI program could assist the innovation ecosystem, enabling the continued support of new and emerging managers.
“The success of the venture capital asset class means that many firms are raising larger funds sooner. As a result, many institutional investors do not have the capital to invest in new firms,” Bannister said. “They are fully allocated with their existing portfolio of firms and do not have the capacity to invest in new ones.”
Regardless of the setbacks, Canada’s venture capital market still has substantial space for debut funds and budding managers. “The market is still developing and responding to an absence of representation of GPs across the full VC spectrum, by stage, sector, and industry type,” said Knapp.
Every year since 2017, at least one-third of VC funds closed were first-time funds, taking up more than 20 per cent of total dollars raised by Canadian VC firms, outperforming their counterparts in the U.S. and Europe.
“So once COVID restrictions go away, there will be a huge opportunity for new managers,” said Hargraves.