In December 2005, Cyrium Technologies, a Canadian company founded in 2002 whose strategy is to become a leader in the design and production of high efficiency photovoltaic solar cells, raised $3 million (all numbers in Canadian dollars) from BDC and Pangea Ventures.

Meanwhile in the US, Nanosolar Inc., a firm founded in 2001 to develop light-weight, flexible and easily adjustable low-cost solar electricity cells, had completed a second round of $22 million to follow on their first round of $8 million.

These two companies, while not competing directly, operate in the same industry with similar objectives and similar development issues. The US firm however is able to develop its business with one key advantage; it has ten times the capital of the Canadian firm.

In 2005, Venture Capital companies in the US invested $27 billion in seed, early stage and expansion stage companies. In Canada, the total was $1.8 billion or 7% of the US total.

On the surface, it would appear that Canada lags the rate of US investment by only 3% based upon population. Behind these numbers however lies another problem.

The US VCs invested in just over 3,000 companies whereas in Canada there were 639 companies who received funding or 21% of the US number. The Canadian investment was spread over a much greater number of companies proportionately than in the US.

The result of spreading the investment out over a wide number of companies is that the average Canadian company did not receive the same level of support as the average US firm.

In the US, the average investment per firm was $8.9 million whereas the average Canadian investment was $2.8 million. By the time a company has received seed, early stage and expansion funding in the US, it has brought in just under $20 million of support whereas the Canadian firm has received just over $7 million.

The fundamental problem is how the invested funds are spent. The typical emerging software company in the US with revenue below $10 million spends 53% of its operating expenses on sales and marketing, 28% on research and development and 19% on general and administrative expenses.

Thus with $20 million of funding to spend on its development, the typical US firm will allocate $5.6 million to researchand development in its formative years.

Research and development in Canada is generally less expensive than it is in the US due to a lower dollar, lower salary levels, and generous tax credits.

“In the US, the average investment per firm was $8.9 million whereas the average Canadian investment was $2.8 million”.

Assuming that it is 50% less expensive to perform R&D in Canada compared to the US, this means that to have a competitive product, the Canadian firm will only need to spend $2.8 million on product development.

If it spends 19% of its $7 million on G&A, the Canadian firm will have spent a total of $4.1 million on R&D and G&A. Thus the Canadian firm now has $3.9 million left for sales and marketing.

The US firm on the other hand will have spent $5.6 million on R&D, $3.8 million on G&A and will have $10.6 million left for sales and marketing. Thus the US firm will have nearly three times as much money to spend on sales and marketing as its Canadian counterpart.

The unequal spending power is exacerbated by the fact that the Canadian firm will have to spend more on sales and marketing to get the same bang for its buck as the US firm.

The Canadian firm will have to establish remote offices in a foreign country, spend more to understand a non-native market, travel further to make sales and generally have a much more difficult time of generating sales momentum.

Over the course of a year, I meet hundreds of technology companies that are looking for capital to be able to expand their businesses. From those meetings, I have come to identify what I refer to as the quintessential Canadian technology company.

”...the US firm will have nearly three times as much money to spend on sales and marketing”

The company will probably be run by a product oriented founder, will have an excellent team of technologists on which it spends liberally and will have developed world leading technology.

Unfortunately the firm will also be small relative to its US competitors, will have slow sales growth, will spend little on sales and marketing and might not even have any full time sales or marketing staff.

Rates of return for venture capital investments in Canada for all measurement periods and for all stages of investing are in single digits or negative.

While the US venture capital industry can earn returns of 15% on a regular basis, the average annual return for VCs in Canada is -2.4%.

The Canadian Institute for Competitiveness and Prosperity in their March 2006 Report on Rebalancing Priorities for Canada’s Prosperity has identified that Canada has a significant innovation gap and that “Canada still fares poorly in R&D investments as a proportion of GDP”.

Their report identifies threecomponents of the gap and how it can be closed. Unfortunately the report fails to identify that the major problem with research and development is not the research itself but the commercialization of it.

“Rates of return for venture capital investments in Canada for all measurement periods and for all stages of investing are in single digits or negative”

There are ample funds and programs available in Canada to support initial research and development to launch a firm and to enable a firm to get its first product to market. However, the firm then needs to spend money commercializing its development so that it can afford further R&D.

Without the funds to commercialize a product, revenues don’t grow and the volume of R&D remains relatively modest.

As a country, if we want to increase the amount of money spent on R&D we will have to first spend more money commercializing the results. Right now, we are starving our emerging companies for capital.

This starvation causes Canadian firms to spend much less than their competitors on commercialization, which eventually stalls their growth, eliminates further spending on R&D, and decreases rates of return for investors.

As a country, we need to change our mindset and culture to embrace the commercialization of technology.

We need to develop government programs that will support commercialization as the final step in research and development.

“Right now, we are starving our emerging companies for capital.”

Finally, private enterprises need to concentrate their funding on fewer firms with larger investments to stop starving Canada’s emerging companies and to give them sufficient resources to commercialize their R&D.

Charles Plant is a Managing Director at Q1 Capital Partners, an investment bank that specializes in raising capital and mergers and acquisitions for firms in the technology, industrial product and consumer product sectors. Over the last 25 years,Charles has worked with over 20 emerging businesses as a founder, CEO, CFO orsenior advisor. Charles is also a course coordinator and lecturer at York University’s Schulich School of Business.