Given private equity’s contribution to the economy, more can be done to support growth beyond the initial venture stage
A lot has been written about Canada’s competitiveness gap against the US in the context of tax. But a new paper focuses on a different area: private equity and its role in supporting the Canadian economy.
“Compared to US firms, Canadian companies have lower productivity, and fewer grow into large businesses,” wrote authors Daniel Schwanen, Jeremy Kronick and Farah Omran of the C.D. Howe Institute. At the same time, there’s been a dearth of initial public offerings (IPOs) within Canada over the last three decades; correspondingly, those who own promising Canadian start-ups and young companies often “exit” by selling their stakes to large foreign entities rather than support their growth in Canada.
“At a time when IPOs have been in decline, private equity deals have picked up the slack in supporting entrepreneurs looking to grow their firms,” said Schwanen. The resources provided through private venture capital and private equity, the authors found, have been vital in nurturing growth, jobs, investment, trade, and productivity in the Canadian economy.
Drawing on data provided by the Canadian Venture Capital and Private Equity Association (CVCA) over the 2013-2018 period, the authors examined the impact of a large range of recent deals — 100 deals under $500 million, 69 between $500 million and $1 billion, and 85 over $1 billion. They found that:
- Smaller deals were heavily focused on both domestic and international growth of Canadian companies;
- Mid-size deals were more diversified as to their ultimate direction, including proportionately more foreign investment in Canadian companies; and
- Larger deals involved proportionately more Canadian investors looking abroad to buy.
The paper also found a correlation between the size of deals and the industry sector. Smaller PE deals tended to be very supportive of high-growth/high-productivity sectors of Canada’s economy, based on sciences and engineering, as well as traditional industries such as food products and mining. Consumer and retail ventures, as well as those involving oil and gas and power, were more concentrated among mid-size PE deals; cleantech and financial-sector deals, as well as those focused on business products and services, were relatively concentrated within large deals. Large- and mid-size deals also had similar concentrations within the auto and transport, and real estate sectors.
The positive role of PE in Canadian economic development, the authors noted, has been supported through public and private initiatives including the federal Venture Capital Catalyst Initiative and the Canadian Business Growth Fund. But more could be done through measures that would “increase quality investment opportunities and the depth of equity markets in Canada, and at the same time increase the chances that firms will remain in Canada.”
The authors recommended:
- Introducing measures to lift the tax on capital gains incurred when selling shares of certain small businesses, in line with those in the US Small Business Jobs Act of 2010. “Early returns suggest that investment in SMEs and the number of investors have increased since this policy was put in place,” the authors said;
- Opening more Canadian infrastructure investments to private investors, the lack of which is partly why liability-driven Canadian institutional investors invest very actively in foreign infrastructure; and
- Reorienting the Small Business Deduction toward young and growing firms, as opposed to all small businesses, in order to encourage rather than disincentivize growth.