Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce

Issue 22 - Evidence

The Standing Senate Committee on Banking, Trade and Commerce met this day at 3:45 p.m. to examine the present state of the domestic and international financial system.

Senator E. Leo Kolber (Chairman) in the Chair.

[English]

The Chairman: Good afternoon ladies and gentlemen. This part of the investigation is meant to wrap up our study. There may be another meeting because now that venture capital people are hearing what we are doing and some of them want to show up. We are asking these people for submissions, which will be vetted by the staff. The summations will be sent to all senators, and we will choose a couple of them. We have been at this study for a long time and, and I think that you agree we should put it to bed.

The first witness is from the great City of Winnipeg.Doug Davison is from Crocus Investment Fund. We will allocate one hour to each of the two witnesses. You have an hour that you may use as you like. I strongly suggest that you keep your remarks to 15 minutes and leave time for questions. Please proceed.

Mr. Doug Davison, Senior Vice-President, Crocus Investment Fund: I appreciate your invitation to appear before you today on behalf of the Crocus Investment Fund and as a representative of the Canadian labour sponsored venture capital industry.

Tragic world events, the current state of our economy and the nature of your recent deliberations have allowed me to reflect on something that I believe that you need to hear clearly. That is, how one venture capital fund purposefully conducts equity financing according to regional needs and to lever additional capital for local benefit and growth.

Mr. Chairman and senators, I believe that with the imminent completion of your upcoming report, you have an extraordinarily unique opportunity to make a statement to support regionally beneficial growth in our economy. The purpose of my statement to you today is to assist in this opportunity.

I will provide you with a very pragmatic, ground view, of one labour-sponsored fund's actions and outcomes. I hope this will be a contribution to our common interest, which is a pressing one at the moment, in assuring growth, stability and the preservation and deepening of the foundations of democracy in our economy.

I will take no more than 15 minutes with this presentation to allow time for questions.

The Crocus Investment Fund is a member of an alliance of other funds in Canada. That alliance consists of the Solidarity Fund of Quebec Workers in Quebec, Working Opportunities Fund in British Columbia, whose representatives will be before you this afternoon, the First Ontario Fund in Ontario and the Workers Investment Fund in New Brunswick.

In addition to that alliance, there is an association of labour sponsored investment funds in Canada. Together we represent the 32 labour sponsored funds in Canada.

You have already received some information that is material to the deliberation before you. In August 1999, the alliance made a presentation to Chairman Kirby. That document is included within the distribution materials that I have left with the clerk in these folders for you. Mr. Chairman, I would ask you that if it is not already there, that that document previously submitted in August of 1999 be part of the record of your committee.

The Chairman: It is already.

Mr. Davison: You have also received regular industry data. The material that I have on my slide it is now dated by at least one period. I will not go through it in the interests of time.

We intend to make available to you further documentation before the deadline for written materials to the committee. You will have those as well during your final task of preparing your report.

There are several issues before us now. There is a need for a new economy with new capital. There is a need for that capital to be deployed and equity financings to be undertaken in a manner that is purposeful. There needs to be regional impact and community relevance out of those equity financings and those deployments of capital. There needs to be a lasting outcome associated with those equity financings. We need to report carefully to shareholders, other interested parties and eventually to the public. We need to be regularly reporting facts. Above all else, we need to encourage growth, particularly at this time.

I would like to give you a pragmatic, on the ground view of a region of the country, and the manner in which one particular labour sponsored fund works within that region.

I would like to walk you through who Crocus is and give you a brief glimpse of what our future looks like.

Crocus, operating in Manitoba, has 30,000 shareholders, more or less. It is slightly over 30,000 people that have invested and composed our fund. We have roughly $170 million in assets in our fund, and of that $170 million roughly $125 million is in active investments. We have invested in approximately 60 Manitoba companies, and they are widely diverse. There are a significant number of those companies that are active in new technologies, particularly in information technologies and life sciences. I can go through some of though details with you later.

We have a style of operation with our fund that is focused significantly on the concept of employee ownership within our investee companies. It is not a precondition of our investment, but it is an aspect of what we are doing with respect to the approach that we are taking to value adding services, productivity issues and profitability within our portfolio.

There are more than 2,500 people who are now employee owners within these approximately 60 companies. That number of people represents about 26 per cent of the employee population within our investee companies.

We believe that we are operating venture capital with a difference. In Manitoba, we focus significantly on following our investment dollars on synergies between the businesses within which we have invested. We have created a CEO round table for that purpose. Each CEO of an investing company is a member of that round table.

We are operating what we call "venture capital plus." Like most equity takers, we are focussing strongly on productivity and profitability issues within our businesses, pursuing business strength as well as the building of our share value.

When you see this phrase, "business strength," in connection with the Crocus Investment Fund, you need to appreciate that we deliberately undertake a structured approach to value-added services with our companies. Those value-added services are provided in three basic areas. The first includes corporate financing advice and the leveraging of follow-along corporate financing activity beyond our dollars. The second is a range of work related to corporate governance questions. The third is value-enhancing management practice and productivity improvements.

The references to enhanced management practices and employee ownership plans are particularly aimed at that issue of management practice enhancement within our companies. For this purpose, we have established a structured program of certified training for managers within our investee companies with the University of Manitoba, and we are now conducting a certificate in participative management within our investee companies. At the same time, we are pursuing, where conditions call for it, the structuring of employee ownership programs within the companies. The combination of those two things is a significant contributor to the productivity and profitability of those companies, and ultimately adds to the share value of our business.

Crocus is now nine years into the business. We are the major supplier, but not the only supplier, of venture capital in Manitoba. Largely as a result of activities such as ours, the Chamber of Commerce and various governments in Manitoba, there is now a competitor to the fund active within Manitoba known as the ENSIS Growth Fund. We look upon that local competitor as a healthy part our business community. We are not the only supplier, but at 54 per cent, we are the major supplier of venture capital within that province.

We are operating our fund as a venture capital plus company and we are pursuing effects that eventually relate to the economic development of our province. Therefore, many our staff are incented to perform their activities in a manner that contributes positively to the economy of the province. We consider ourselves to be an economic development company.

Issues of management expense ratio, MER, are key and various people's deliberations around these funds and all equity funds. At Crocus, our MER is at 3.54, which is lower than the average in our sector. More important, the issue of MER is one that is largely driven by the style of the activity of the business. In our cases, all of our due diligence research work is done in association with our investments on an in-house basis; it is not bought. We do not buy reports that are generated by others, but we actually do the due diligence ourselves.

The Chairman: What is MER?

Mr. Davison: MER stands for management expense ratio, which is basically the cost of running our fund as a proportion of the overall assets of the fund.

Our value-added services take time and resources. These are the factors that contribute to the MER being what it is in these types of businesses.

I want to point out that the results of our work and spending the amount of time that we do with an individual CEO as we are making up our mind whether to invest in a company, indicate that the time is well spent. Results pay off.

In the kit that I have left with you today, there is a press article from yesterday's media in Winnipeg that refers to some of those results. Some of the CEOs of our companies are consistently winners of the Ernst and Young Entrepreneur of the Year awards. We take our time to find such people and such companies. That takes time and resources, and is a contributor to the MER.

I draw your attention to two issues indicated on this chart. The first is in the column, "Crocus Without Tax Credit." This is performance data of our fund compared to the Nesbitt Burns Small Cap Index. That is one key measurement of our benchmarking of our activities. Our performance without tax credits included, exceeds that small-cap index on a multi-year basis.

The second issue is the bottom line of the chart that I have labelled "Three-year Risk." That is actually a measurement of volatility. The lower the number is in your three-year risk, the better you are doing in respect of taking the fluctuation out of your performance for your shareholder. Having a three-year risk measured for us at 7 per cent, compared to 18.7 per cent with Nesbitt Burns Small Cap Index, is indicating that by a factor of more than 2, we are less volatile - more stable. Our investment tends to be more stable for investors than many of those investments that the Nesbitt Burns Small Cap Index would reflect.

Senator Fitzpatrick: How do you measure these factors? Are they measured on publicly traded companies? Are they measured against net asset value? How do you make these measurements?

Mr. Davison: Our performance is measured by the return of our fund as a fund that is invested in those 60 companies that I refer to. It is all driven by the performance of those companies. When our portfolio of investments actually performs to a calculated degree on a year-by-year basis, it drives our share value.

Senator Banks: The measurement is share value?

Mr. Davison: That is correct.

Senator Fitzpatrick: Is the share value based on the net asset value of the company, or is it on a market value basis?

Mr. Davison: It is on a market value of the companies in which we are invested.

Senator Fitzpatrick: Are they not publicly traded companies?

Mr. Davison: By and large, they are not publicly traded companies.

Senator Tkachuk: Your comparison is against small-cap companies from where? Is it against the CDNX small-cap companies?

Mr. Davison: The one I have on this illustration depicts the Nesbitt Burns Small Cap Index, which would be a national measure of small-cap investing activities.

The Chairman: I am a little confused by your charts and I have been reading charts for a long time. On the performance highlights chart, it looks like in the first year, under Crocus without tax credit, the investor would have lost 7.8 per cent of his money. Is that what you are saying?

Mr. Davison: My 7.8 per cent indicates that the value of our fund, measured on an one-year basis, has lost 7.8 per cent of its value.

The Chairman: Is it also true that after seven years, the return to the investor was 3.6 per cent overall? Was that figure averaged?

Mr. Davison: It was 3.6 per cent measured on a seven-year basis. That is correct.

The Chairman: After you have invested your money forseven years, your return is 3.6 per cent; is that correct?

Mr. Davison: That is correct.

The Chairman: I understand tax credits, but compared to other mutual funds that is fairly abysmal; is that correct?

Mr. Davison: That is true compared to a variety of other instruments, but compared to yet other instruments it exceeds their value. We are in the middle of the pack.

The Chairman: What about government bonds? I am not trying to hassle you, but it is difficult for me to understand this information, as an investor.

Senator Fitzpatrick: I still do not quite understand how you determine the market value. Is this on an appraised basis, or on the basis of a sale of these companies, or is it on the basis of measuring the net asset value? You indicated that they are not publicly traded companies, so it is not over-the-counter or under-the-counter trading.

Mr. Davison: I will try to answer your question. I am not a valuation expert myself and I am not designated with the Canadian Business Valuator designation.

A privately held company, without being traded in a market and therefore not having the ability for a market to measure its value, receives a designation of its value, in effect, by a valuator. There are many different kinds of methods that can be undertaken to perform that valuation calculation. Four or five are apparently are of a classic nature with respect to the valuation community. In our case, every single one of our investor companies runs through a regular cycle of valuation requirements on a pre-set schedule that we establish. We will do those activities on an annual basis, sometimes more frequently if we think there are issues that require more careful tracking than an annual valuation would conduct. Third parties conduct those valuations.

On some issues we will conduct those activities on an in-house basis if it is not a significant matter, or a significant scaled company. However, our approach to valuation is to make sure it is all as objectively calculated as possible according to accepted practices of a professionally designated certified business valuator.

Senator Fitzpatrick: Am I correct when I say that you have certain criteria you use to measure the value and you either have an in-house or an outside consultant do this evaluation on a periodic basis?

Mr. Davison: That is correct.

The Chairman: I am totally unclear here. As backdrop to this discussion, I think we need more clarity. If someone invests money in your fund, how much do they have to contribute?

Mr. Davison: It is a minimum $500 investment.

The Chairman: What does someone get for that $500?Do they get a share of something?

Mr. Davison: Yes, they are acquiring a share in our fund and a tax credit.

The Chairman: Do they get a share Crocus?

Mr. Davison: Yes.

The Chairman: Is that listed anywhere?

Mr. Davison: Yes, it is listed.

The Chairman: Therefore, at some point can they sell?

Mr. Davison: Yes.

The Chairman: Does the listing reflect the value of the underlying asset?

Mr. Davison: That is exactly correct. The one clarification I would make is that within these kinds of funds there is what is called a hold period, currently of eight years, so redemption can take place within those eight years only under extreme circumstances, financial hardship or death for example.

With respect to the issue of job creation, many of these funds certainly exist for the purposes of having positive effects in an economy around the question of jobs within regions. In the case of our fund, we have measurements conducted on a regular basis of jobs saved, created and maintained. Unfortunately, the job number that is anticipated to be undertaken by a company with which we have already invested is not shown on this chart. I will add that number in a moment.

As of September of this year, since the inception of the fund we saved 276 jobs on that top line, created 4,089 on the second line, maintained 5,427 jobs, and we currently are anticipating that within the next 12 months investments already made will also be generating an additional 1,399 jobs. Our total reported number of job creation, therefore, is 11,191.

An important issue related to this job creation number is that there is a certain efficiency that pertains to this type of job creation effect with these kinds of funds. In the case of the Crocus Investment Fund we create a job with each $20,740 of funds that are invested. The average in the industry, and the average with public activities associated with job creation, is in the neighbourhood of $30,000. We are creating these jobs at a much more efficient rate than most others.

This chart shows the wide diversity of the holdings within our 60 companies. They are widely diverse within the sectors of the Manitoba economy. From the point of view I have been reading in your deliberations, you have a series of points that have been made to you with respect to the issue of liquidity and pacing.I want to tell you that with respect to the Crocus Investment Fund we have $170 million roughly in our capital pool at the moment. Of that, $125 million is currently actively invested. In other words, that is 73.5 per cent of our pool of assets. With respect to our pacing issues, there are various degrees and types of pacing that legislation requires each of the 32 funds in Canada to proceed with. In our experience, we are always at least one year and one quarter or two quarters ahead of any of the three levels of pacing requirement that we live with. That is a matter of conscious behaviour on our part.

I have noticed references in some of your proceedings that some people are contending that labour-sponsored investment funds have liquid or non-performing assets at level somewhere in the order of 40 per cent. In our case that is factually incorrect by a significant margin. We have a liquidity rate, if I can call it that, of roughly 26 per cent, not 40 per cent.

The Chairman: I will ask you to stop your presentation now. If there is time we can go back and you can explain more things, but you have hit the highlights enough for the senators to ask their questions.

Senator Tkachuk: On your performance highlights, you mentioned the number of jobs created and you mentioned the number of jobs saved. I know that there is supposed to be a social aspect to the labour venture capital funds, but when you say jobs created, are you including all employees within the companies you invested in, or a percentage as compared to your investment versus the owner's investment or other partners invested?

Mr. Davison: These would be jobs created directly as a result of our investment in that company.

Senator Tkachuk: It would be the whole company. If I invest $100,000 and you invest $100,000 and there are50 employees you say that is 50 jobs created even though I invested half the money myself; is that correct?

Mr. Davison: That is correct. We are talking here about the jobs in a company that are created in that company as a result of our, and periodically others', participation in the investing activities in that company.

Senator Tkachuk: What is the reason that you are out there trying to save jobs with people's investments? I am not sure I understand that.

Mr. Davison: In our case, the job-saving number pertains largely to the number of jobs entailed in one company that we happen to be approached by during a situation of distress by that company and its owner at that time. This is going back a few years now. The company is still in our portfolio and is one of our better performing investments at this time. That number of 276 is almost exactly the number of employees in that company at a time when they were being approached to be bought by an American concern who it was known had the intention of actually buying the company, closing it for the purpose of establishing market share for themselves inside their own market and moving that company, in that case, to the United States.

Crocus was approached by the management group of that company during a time when there was an opportunity to take a look at an investment turn the situation around. Crocus established an investment in that company. It bought an interest in the company and saved those jobs in Manitoba. Almost all of the 276 jobs that I referred to pertain to that one situation.

It is not that our fund is pursuing some kind of a social policy agenda with respect to finding distressed companies and saving jobs in them that might otherwise be lost. That is not our intention. However, in that one case, that company happens to be in a key sector within Manitoba's economy. That was the effect of our investment. It is something we are extremely proud of.

Senator Tkachuk: In Saskatchewan, there is one of your sister funds that gets a tax credit federally and provincially. Do you get a provincial tax credit in Manitoba?

Mr. Davison: The 30,000 people that are our shareholders receive a federal and provincial tax credit, 15 per cent from each government. This is the case with all labour-sponsored funds in Canada.

Senator Tkachuk: Do some provincial governments make it a little higher? At one time in Ontario, one could invest $5,000 and get $4,500 back in a tax credit, which was higher than in other provinces. How did that work?

Mr. Davison: I believe you are correct. There is a somewhat variable experience province by province. There is not a large number of variables here.

Senator Tkachuk: It was where there were NDP governments in Ontario, B.C. and Saskatchewan. Alberta does not have a provincial credit at all.

In Saskatchewan, there was a golf course going broke so they went into competition with other investors to win that golf course. That seems to be a bad use of venture funds. There were other people willing to buy the golf course, but they came in higher because they have all this money from investors to pay a little more than some of the other business people would have paid to save it.

Do you do similar things? Do you have a certain requirement for investments such as real estate, versus other kinds of investments?

Mr. Davison: My colleague from British Columbia happens to be here and he will address that issue further in a few moments, but in Manitoba we are actually prohibited from making certain kinds of investments. Certain other kinds of investments are ineligible for a benefit of being qualified in our pacing requirements. This gets very complicated. There are defined limits around the things we can and cannot invest in. Those limits are generally conceived by governments in association with the fact that they have tax credit expenditures to support the individuals that compose these funds who otherwise would not be investors in the kind of economy we are talking about. I think that is a key point around this issue of tax credits and what their meaning is for individuals as well as businesses like ours.

In our case, we are prohibited from investing in real estate, in primary agriculture production and in primary mineral production. All of those prohibitions are established by governments to protect the investors in funds like these. To give an extreme example, they do not want such funds used as a rough equivalent for the savings and loan type of problem that occurred in the United States. In such situations you have investors who are extremely exposed to, for example, mortgage markets. These individual investors are rather modest with their means, investing on average about $2,500 a year in these types of funds. The governments that support these with their tax expenditures, in the form of those 13 and15 per cent tax write-offs, do not want individual citizens subjected to those kinds of risks. That is why those prohibitions sometimes exist.

We actually undertake investments on a multi-tiered basis if we can. If we can be part of syndicated investments within new technology issues, for example, and make a new company come alive that otherwise would not have access to capital in our kind of market, we will do that. I could name you a series of examples in our portfolio at the moment, most of them in the biomedical and life sciences areas, where that has been the case.

I know the people in British Columbia will talk to that point as well. It is a major feature of the way they undertake their activities. I hope I have answered at least some parts of your question.

Senator Tkachuk: Yes, you have. I may come back to it.

Senator Furey: I want to get a little clarification. When you were talking about performance highlights, I was not sure if I understood you correctly when you were talking about being more stable. Were you talking about the company being more stable or the rate of return being more stable?

Mr. Davison: The experience of the investor inside a holding period of eight years with returns that generally exceed those that will be available by other types of equity investments that that investor would have had a choice to make, are relatively more stable over a period of years than other kinds of investments.

Senator Furey: Is this because you are investing in lower risk companies?

Mr. Davison: I believe it is a combination of factors. In our particular case, lower risks were somewhat being established by virtue of there being extremely careful due diligence with respect to the types of investments we undertake.

I believe the kind of issue that the senator and I were just talking about with respect to the prohibitions also contributes to that.

The issue of there being an eight-year hold period for these individuals' monies within our fund contributes to that as well. It particularly has been the case in the last two years with respect to our fund and others in our sector. Aside from that performance chart that I had before, when we have looked at our multi-year, even year-by-year, returns and tracked them in association with organizations such as Bell Charts and Globe Fund, and compared all of them to the performance of the TSE 300, we have seen in the last two years much less volatility for this kind of investment than there has been in the markets.

I do not think that is necessarily a bragging point about labour-sponsored funds. It is a reality of the way the market has been working.

Senator Furey: Do you have any idea what percentage of your fund would be high risk and what would be average to low risk?

Mr. Davison: I do not know how I would measure that. We have a particular approach, as I have been saying, to our due diligence at the front of an investment process. It mirrors the activities of other kinds of venture capitalists.

In our case, it also includes, a special activity with respect to what we call social auditing. This is a deep examination of the practices within the company that have to do with the manner in which they run their business. Are they exposed to inordinate degrees of health and safety risk? Are they exposed to inordinate degrees of regulation confrontation, if I can put it that way, with respect to a variety of the issues they confront in the running of their business?

We try to eliminate all those factors that would cause that company to be at high risk in the due diligence examination, partly through that social auditing we do, in addition to the strictly financial due diligence activities. At the front of the process, we try to take as much risk out of the investment equation as we possibly can before we even make the decision to invest.

Senator Furey: Are you mandated to make certain high-risk investments or spend a certain amount of money on seed capital and start-up costs?

Mr. Davison: I suppose it is generally correct to say yes to that, with the exception, as I was saying earlier, that we are prohibited from making certain kinds of investments, which would typically be prone to extremely high risk. However, no one comes to us from any organization, whether it be government or other bodies outside our management structure, and says to us, "Thou shalt undertake this degree of risk investing versus that degree of non-risk investing."

Senator Furey: It is not tied to anything like tax credits?

Mr. Davison: No it is not.

Senator Furey: I am looking at a August Financial Post report, and I am comparing your return over a five-year period to WOF's over a five-year period. There is quite a huge difference. Yours is at 3.3 per cent. From looking at your performance highlights, I would presume that this is without tax credits. To compare apples to apples, I am assuming theirs is without tax credits and reported the same way. Theirs return 13.6 per cent.

I realize that they are the only company in B.C. and that you have competitors. Is that one of the reasons for that difference or are they more involved in higher risk investments and higher return investments?

Mr. Davison: I would leave that to my colleague from British Columbia to address. I am not familiar enough with their numbers to answer that.

Senator Furey: I realize there is a huge difference in the net assets values. Yours is showing at $170 million and theirs is at $428 million. Overall, the rate of return seems to be much higher.

Mr. Davison: I would be more comfortable if my colleague addressed that issue. I lived in Vancouver for a number of years before I moved back to Winnipeg to work with the Crocus Fund. It is a different economy in British Columbia than in Manitoba, particularly in the lower mainland. That may be a certain feature of it. There is proximity to the Asian markets, which may drive a piece of it too. I will not speak to that on their behalf.

Senator Kroft: I want to ensure that we have an understanding of the sort of common ground on which your particular component of this industry is based rather than going into performance. As a matter of public policy, would you accept as a premise that the Government of Canada and provincial governments, or the taxpayers through their government, have decided to support through a tax deduction process a certain kind of economic activity carried out through these companies? It is in the same way that the Government of Canada invests in risk capital by a preferred capital gains rate, they have chosen as a matter of policy to invest in this particular form of industry by way of giving this additional up front benefit. Would you agree that there is an investment by the Canadian taxpayer in this particular component of the industry?

Mr. Davison: I would agree with that. If this were underneath your premise as well, I would venture to say that -

Senator Kroft: I would like to know if you agree with the premise.

Mr. Davison: That there is a tax-paying public investment in this type of initiative, yes.

Senator Kroft: That is my premise. With a capital gains tax benefit, a RRSP write-off or anything else, is the public getting a return on that kind of a policy or that kind of investment?

By giving that benefit, are you are creating an unfair advantage against another player in the industry who does not have that advantage? I think that is an important question.

Your data would suggest that there is really no serious scale venture capital competition in Manitoba. You mentioned that there is one other company, but that you provide 54 per cent of all venture capital in that marketplace. There might be private investment that would not be in this data.

Do you feel that you are using your tax advantage to compete with other people? Are you taking investment opportunities away from another competitor?

Mr. Davison: There are three issues there. I will take them in reverse order.

I do not believe that we are crowding out other capital. The experience of Crocus Investment Fund in Manitoba has been exactly the opposite of that. In 1996, for example, there was no measurable venture capital active in Manitoba. Established companies in Winnipeg had a need for development capital for their growth. They could only go outside Manitoba to try to access that capital and very frequently did that on a very unsuccessful basis.

Between 1996 and 1998, with the advent of the Crocus Investment Fund, Crocus was offering two thirds of the investment venture capital in the province. That obviously has declined now that we have others active in this market, including our local competitor. The market share has changed, but rather than crowding out other capital, the advent of the Crocus Investment Fund in Manitoba has contributed to the expansion of venture capital in other sources being offered by a vast range of others now in our province. It is had the opposite effect of the crowding out that I think you were alluding to.

With respect to returns to the public, there are three significant studies that have been done since 1996, two of them in Quebec and one in British Columbia. These are substantial studies that all show that there is tremendously quick and efficient return to the public for the invested dollars in these tax credits through this kind of investing.

Senator Kroft: For the small investor, whether it is the $500 or the $5,000 investor, who feels he or she wants to and is ready to make an investment in a risk capital type of investment, are there other vehicles on a pool type of investment basis that would be available to them?

Mr. Davison: I am thinking about a place like Winnipeg.I think of things like investment clubs in days past.

Senator Kroft: I am thinking not in market investments but in new businesses, growing businesses or start-up businesses in the community. Is there another vehicle?

Mr. Davison: There is an interesting answer to this question. The CEO round table that exists in the Crocus Investment Fund is comprised of 60 CEOs of local companies. Some of these companies are long established and some are new start-ups. Some are large companies and some are small. The CEO round table worked diligently in the past few years with others in the community to create the Winnipeg Stock Exchange for the purpose of addressing exactly the question that you are raising.

This is a conscious undertaking of our fund on the edge of our business to ensure that individuals have opportunities for investing locally. The balance of my presentation would show you specific examples of how those opportunities will be put forward to people in Manitoba partly through our efforts in the coming years.

Senator Kroft: We will be able to look at the material you provided.

Senator Oliver: I have a series of short questions. What is the largest investment you have made? What is the smallest investment you have made? What has been your average investment? I am interested to know whether you have invested in start-up companies. By start-up, does the company have to be generating revenue before you will make an investment in it? If so, what type of security do you take back?

Mr. Davison: Responding to your last question first, we are only a business-interested investor. We are an equity taker in a company, in a very conventional fashion.

Senator Oliver: What do you take back?

Mr. Davison: We will establish various degrees of hurdle rates with our investment intention. They would be much lower than a great number other venture capitalists as hurdle rates, if that is what you mean by take back. We do this to ensure that we stay in the box with those investees for a considerable length of time and to ensure that the company succeeds. We are not there for a short term with a high take-back profit driven motive. We are there for a long term to build a profitable and successful business with this money. The scale of our investing is widely variable.

The Chairman: I am not sure you answered the question. Do you go into an absolute start-up company that has no revenue?

Mr. Davison: There have been an extremely small number of such situations of start-ups that we have been involved with, but if we were looking at a start-up situation then we would consider this situation as well. The answer is yes. We will consider whether they are a successful business at the moment or whether they have a successful business plan, a successful looking financing plan, marketing plan, pricing policy and so on, so that we are not just putting money into a business that does not have any prospect.

Senator Oliver: Have you made investments in companies that were not generating revenue at the time?

Mr. Davison: Yes, in small numbers of cases.

The Chairman: I am really interested in Senator Oliver's question. You say you only invest in successful companies. Do you define the word "successful" as a company that is making money? What does the phrase "successful company" mean?

Mr. Davison: A company that is starting in a sector that has significant opportunities associated with it, where they have a defined revenue stream before them they know how they will chase and secure. They would have a business plan that is solid with respect to success factors, which are normal in anyone's assessment of a start-up operation.

The Chairman: I am only quarrelling with terminology. It sounds like you make promising investments. "Successful" is another terminology.

Mr. Davison: There is a lot of qualitative meaning in those words, I agree.

Senator Hervieux-Payette: What is the range between your smallest investment and biggest investment?

Mr. Davison: Our largest investment would be $8 million to$9 million, and our smallest would be $75,000 to $100,000.

Senator Oliver: Do you have about $45 million in cash right now?

Mr. Davison: Yes, we have $170 million in the pool and about $125 million of that invested.

Senator Oliver: You said that before you do anything you do your due diligence. One that you do is called social auditing, where you actually look at the practices within the company. What other types of standard due diligence do you do for start-up companies in the life sciences and the new technologies? Do have you any special due diligence for those?

Mr. Davison: The social auditing activity is the same in all cases. We are looking for environmental stewardship and solid environmental practices within the companies. We are looking for track records of health and safety practices within the company, and we are looking as well at the manner in which labour management relationships are conducted within the company to ensure there is a degree of fairness within the labour management equation. I do not mean it in a unionized sense, I mean in terms of management practice within the company.

It is a loose term when I say "financial factors." In our other aspects of due diligence we are looking deeply into questions of their known market, whether in the case of a life sciences business, for example, the science is currently known enough for it to be successful, with this particular technology, for example, in brain imaging, which is one of our investments. We will look at all of the standard financial measures to see if the investment looks healthy.

Senator Oliver: Do you have a board of directors with all the normal board committees? Is there an investment committee that oversees the major investments of your fund?

Mr. Davison: Yes, we have a board of directors and we have standing committees of our board that are standard in corporate Canada. We have an investment committee of the staff, an investment committee of the board and an investment advisory committee of the Manitoba business community advising us on a regular basis with respect to each investment.

Senator Oliver: How large is that advisory committee?

Mr. Davison: I believe it is composed of nine individuals.

Senator Banks: Do you have an audit and evaluation committee?

Mr. Davison: Yes, we do.

Senator Banks: What percentage of the companies in which you invest are start-up companies? It might answer the nature of the rate of return. Is it a large percentage or small percentage?

Mr. Davison: It is a small percentage.

Senator Banks: Very often are you investing in "going concerns"; is that correct?

Mr. Davison: That is correct.

Senator Banks: Would that be as opposed to "start-up"?

Mr. Davison: That is correct.

Senator Banks: I am trying to find out where the venture is here. You mentioned you are not an evaluation expert, but one of the most common factors in evaluating companies that are not publicly traded is a formula that use's multiplier on the profit. Do you know whether that device is used in the calculation of the second column in this "focus without tax credit" column? Is that one of the evaluations used, and if so, do you know what multiplier is that you use commonly?

Mr. Davison: I will have to plead ignorance there. I apologize. With respect to that specific matter of the multiplier, as I said earlier, there are four or five different techniques used and depending on the situation it is a matter of how that independent party will choose which method of evaluation to apply in a particular situation.

Senator Banks: There may be different criteria applied to different companies in which you invest?

Mr. Davison: I think you are talking about two things there. Are you talking strictly about valuation?

Senator Banks: I am.

Mr. Davison: There are variable methods used by independent certified business valuators to most objectively and thoroughly assess the value of a company that is already invested in.

Senator Banks: Do you engage business evaluators to evaluate businesses in which you invest?

Mr. Davison: Absolutely. Even in the case of non-valuation activities having only to do with due diligence examinations at the front of an investment contemplation on our part, we use a wide variety of retained third parties to contribute to our due diligence.

Senator Banks: Did you not say that all due diligence research is done in-house and not bought?

Mr. Davison: I meant that unlike other types of equity financing organizations, we do not simply confine our due diligence activities to buying reports off a shelf somewhere that have assessed a value of a sector or particular company. We actually go into the company, and we will go in there with third parties if necessary to examine an issue carefully.

Senator Banks: Is the Nesbitt Burns Small Cap Index based on publicly traded companies?

Mr. Davison: It is.

Senator Banks: Are we comparing apples and apples here? The evaluation methods that are used by a business evaluator do not often come up with the same answer that a share price comes up with.

Mr. Davison: I take your point, senator. There are a variety of ways to compare performance information with respect to this kind of business.

Senator Banks: By "this kind of business," you mean your business, not the business in which you invest; is that correct?

Mr. Davison: That is right.

The Chairman: When was the first labour-sponsored venture capital fund started in Canada?

Mr. Davison: In 1983.

The Chairman: There is a holding period of seven or eight years, or whatever the individual fund requires, but when the fund closed, we could find out what the record has been for investors. Is that correct?

Mr. Davison: Yes, you could.

The Chairman: Could you obtain that information for this committee and send us a summary?

Mr. Davison: My colleague will address that question.

The Chairman: As Senator Banks said, the difference between a listed security and your value of a security is widely disparate. If you look at all the analysts' reports on various companies in the last three years, you can see how wrong they were. They are supposed to be evaluators. I am not criticizing, but I am trying to understand how an investor makes sense of what you are doing.

It has been pointed out to me that you can get a 90 per cent return on your money by taking your investment and putting it into your RRSP. Do you know anything about that?

Mr. Davison: I did not catch that.

The Chairman: I will ask the other panel. Thank you.

Senator Tkachuk: You get the tax credit and the RRSP deduction.

The Chairman: That adds up to 90 per cent; is that correct?

Senator Tkachuk: Yes.

The Chairman: I welcome our next panel of witnesses, Mr. David Levi and Mr. Murray Munro, from GrowthWorks Capital Limited. Please proceed.

Mr. David Levi, President and Chief Executive Officer, GrowthWorks Capital Limited: I will give you a brief historical overview. The labour-sponsored funds were created in Quebec in 1983 by the labour movement in conjunction with the provincial government. Investors in labour-sponsored funds are in the solidarity fund, which is the largest fund in Canada and about one-third of all the venture capital in Canada.

If you are an investor in that fund, you have to remain invested until age 65, unless you fall into a series of hardship categories. Investors are there for the long term. In 1984, the Tory government brought in the matching tax credit.

The funds have been created in eight out of 10 provinces. In British Columbia, it was the Social Credit who completed all the negotiations on the creation of the Working Opportunity Fund. In Saskatchewan, I believe it was the Tory government that was in power when the matching tax credit was given to Working Ventures, which is a national fund. It operates primarily in Ontario, but does have a matching tax credit in Saskatchewan.

In Ontario, it was the NDP who created it, but it was the Ontario government last year that boosted the credit from15 per cent to 20 per cent, because of the usefulness of the early-stage investment of funds.

They have been created primarily by Liberal and Tory governments across the country. The funds have a lengthy history and I will discuss why they are established in such a way.

I will also talk about the golf course in Saskatchewan. I do not think there is anyone in the venture industry, with the exception of the people who made the investment at the urging of the Saskatchewan government, who wanted to invest in the golf course. The golf course has not been a positive investment for that fund.

When I went through the record of the previous hearing,I believe it was Senator Oliver who asked about the 40 per cent tax credit. Five years ago, the 40 per cent tax credit was reduced to 30 per cent in total - 15 per cent federally and 15 per cent provincially. There has been some commentary by a number of people around the table about the combined RRSP tax incentive.

Look at this process as it has been established by the policy makers in Ottawa and the various provinces. We already have $20 billion per year going into RRSPs. Most of that money goes into the secondary markets, which are the exchanges, or into GICs, government bonds and debentures. Almost 30 per cent of it now goes outside of the country.

How could we encourage that money to focus in on the highest growth areas of the economy, and how could we force that money to work at risk? The answer was to provide a 15 per cent federal credit and a 15 per cent provincial credit. These credits would encourage a small proportion of our RRSPs to move from highly liquid stock exchanges, international exchanges and guaranteed certificates, into a high-risk, locked-in investment that invests only in small and mid-sized companies and only in risk capital and equity. There are no guarantees for any of the debt that we receive.

If there is any debt, which is very limited in most portfolios, it is sub-debt and well below the security line. We are not allowed by law in Canada to do any secured debt, except when a company is in extreme circumstances. In that case, we do not get a credit on that money for our pacing requirements. We are unsecured equity investors who are taking a small sliver - about $6 billion out of a $250 billion RRSP pool - and who are dedicated to one thing only, which is working with high-growth companies.

There were ads that indicated we were getting a 60, 70 or 80 per cent savings, but, from the government's financial perspective, that 40 per cent figure for savings on RRSPs was money gone anyway. The only difference is that instead of going into a Toronto Stock Exchange company, Nortel for example, or instead of going into GICs offered by a bank, the Royal Bank for example, it was going to be dedicated, for an extra 30 cents on the dollar, in a split between the two governments to this high-risk area of private companies in Canada.

We are early-stage investors. Most of the funds, probably with the exception of Manitoba, are early-stage investors.

We are what are called series A and B investors, which means that we usually go into the first round beyond friends and family. Our investments tend to be in the $500,000 to $2 million range. We will frequently bring other venture investors in with us. We encourage that behaviour because we want to participate with other deep pockets around the table. As early-stage investors, we grow companies where we will do the second round, and then the third and fourth and fifth round.

Each of the funds is designed differently to reflect their region of the country. We have a very heavy emphasis in British Columbia on forestry and primary resources. Where we needed to grow over the last ten years was in the high-tech sector and the biotech sector.

We have specific prohibitions. Most of the funds have other prohibitions that depending on which province they are in. We do not invest in any primary resources, real estate developments, financial companies, banking institutions, insurance companies or retail services.

Manitoba, for example, does provide for retail because their economy is different. The rules in Quebec are slightly different to reflect the needs there. When the creators were putting this together they were looking at where we already have well established capital markets and where we do not.

In British Columbia, we had virtually no biotech investors and virtually no high-tech investors at the time that we were created. There was no one involved in tourism at a professional venture capital level, nor in entertainment. I will show you our investments in these areas in a moment.

We invest in diversification of the economy. We have fairly large firm. We are the largest in Western Canada, and we would be about the third or fourth largest venture firm in the country. We have 13 investment professionals. Given our rates of return, I would say they are among the best in the country. The only thing I have done right so far is hire the right people.

The next slide deals with job creation. You have a study that we sent to you recently. The total number of jobs created by our companies over this period of time is 10,700. The study went through a very deliberative process with federal officials and provincial officials.

Two independent consultants did the study. They called every CEO and ascertained whether they thought they could have obtained capital elsewhere. They then reduced the amount of jobs that were created related to the fund based on whether they thought we were their only investor or partial investor. In cases where the CEO said that the money could have been obtained elsewhere, we got a zero in terms of number of jobs created. When they completed that calculation, the actual number of jobs that can be directly related to the activity of the fund is 6,600 over the last five years.

On the investment schedule side, there was much written in the paper about six years or seven years ago about what was then one of the largest funds in the country working ventures. They and one other fund out of 22 were the only ones that ever missed the pacing schedule. If you look at our schedule, you can see that our pacing requirement is the highest in Canada. Our requirement is 80 per cent. The Manitoba and Ontario requirement is 70 per cent. I think that in Quebec it is 60 per cent, though they averaged about 65 per cent to 70 per cent.

We were well ahead of the schedule with the highest requirement in the country, which is 80 per cent of money raised being invested directly into equity and small or mid-sized businesses. The cumulative orange is what we are required to invest. Currently, the requirement would be $20 million and we are at about $60 million, so we are well ahead of the schedule.

That is a testament to the opportunities we see in B.C. We are not forced to invest if we do not want, but we see lots of opportunity and we have continued to invest beyond our pace.

We had early criticism about the funds during the period when we were all starting out. Due to a variety of growth factors, it looked like we were not investing as quickly as should have been. Part of the reason was momentum. We started in my fund with three people. It took us three years or four years to raise our first $100 million. Until you are about $100 million in size, you do not have the capacity to invest properly in the venture capital sector.

We invested $96 million from 1992 to 1998. In the lasttwo years, we invested $163 million. We invested $103 million in the last two, which is more money than we raised. We were supposed to invest $80 million of the $1 million, but we ended investing $103 million.

It is a pace issue for us. As we continue to fund our companies, we continue to need greater sums of money. Last year the province reviewed that and gave us a lift because in British Columbia we have a maximum that we can raise each year. They raised our ceiling from $60 million to $80 million because they saw the work we were doing in the province, and they wanted to continue the momentum within our industries.

In the year 2000 we invested $62 million. We had 16 new portfolio companies and we had follow-on investments in24 companies.

You asked a question about seed capital. Out of the roughly70 companies that have been through the portfolio, we have done spin-offs from UBC, Simon Fraser University and from the University of Victoria. These are raw start-up companies, sometimes with as little as one employee, usually having four or five employees. We have done about 30 of those. We have been very active in the new seed area. Our preference is either seed or slightly beyond.

As you can see in 2001, we are on pace. The only difference for this year is that there has been a decline in the amount of venture capital available in British Columbia. The requirements of our companies are continuing to increase. We need to be with our companies on an ongoing basis.

You can see that follow-on investments are up to 25 companies within our portfolio. We will finish with a much higher proportion of follow-on investments than in the past.

We are about 40 per cent in IT and 25 per cent in life sciences. We are the largest investor in life sciences in British Columbia. We are able to attract other investors, including manyU.S. investors, to our investments because of our size and reputation. We have worked with maybe 30 investors from offshore who have invested because we are the local investor. They can trust us to take care of their interests.

We also do advanced manufacturing. Film and entertainment is a small slice of our business. We deal with tourism as well as environmental companies. The remaining companies are the few that we could not categorize correctly.

In terms of our success rate, you can see here our absolute losses to date are $27.6 million. Our gains are $257 million.

The Chairman: Unrealized gains?

Mr. Levi: They are realized and unrealized gains. About half of the gains have been realized. The other half has not. We have to do it this way because we are a continuous pool. We have new investors who are coming into the pool on a regular basis. Therefore, we have a legal and fiduciary responsibility to ensure that we value our shares, including the companies that we hold, on a weekly basis.

People are able to invest all year long. Every week we set our price. If we were to set the valuations too low, we would hurt the people who were already in the funds by dilution. If we set it too high, we would hurt the people who are investing. That is why we go through this process this way.

We use the same rate of internal rate of return process as all venture funds use across the country. Our internal rate of return has been 34 per cent a year on our venture capital portfolio. That is been offset on the other side by the portion -

The Chairman: Could you explain how you do IRR? What is your length of time? When do you postulate that you will have sold the investment?

Mr. Levi: On liquidity.

The Chairman: You have to pick a time frame. How do you get an IRR if you do not know what you are selling for?

Mr. Levi: We track the investment at the time of purchase, so now we have the investment and we have the re-investments that we will make along the way. We follow that through to the point of liquidity or valuation. At that point we are able to tell what our internal rate of return is going backwards. For example, we invested $4 million in a company called Hothouse, which we subsequently sold to Broadcom in the United States for$150 million.

Senator Tkachuk: What is the company selling for now?

Mr. Levi: Broadcom, when we first started selling, was at $110. It is now at about $65 a share. We sold it all.

That is an actual realized gain on our books. There are about12 companies in the portfolio that are public. They were all private when we are started. We have the public valuation as well for those companies.

Our valuation process is done twice a year by an independent valuator that comes in and uses standard valuation practices. We are audited at same time. The auditor and the valuator go through their own individual processes, one according to the Canadian Institute of Chartered Accountants and the other one according to Chartered Institute of Valuation.

The Chairman: Are you telling us you use actual, not IRR?

Mr. Levi: These are the actual numbers. We also manage some pension funds. Those pension funds want to know what our track record is on the venture capital.

The Chairman: IRR assumes that if you own something today you guess what you will sell it for in five years or 10 years; is that correct?

Mr. Levi: No, not for our purposes. An internal rate of return essentially tracks the dollars in, the length time they are there, and what the value is upon liquidation.

The Chairman: That is an actual rate of return.

Mr. Levi: That is what we call internal rate of return because it does not include items like management fees.

If you look at our track record and compare it to the Toronto Stock Exchange, you can see that we have beaten the exchange virtually every year that we have been in existence, with the exception of the five-year period. This is without tax credits. We have provided you with tax credit returns and without tax credit returns. The reason in the five-year range is we had at that point about 60 to 70 per cent of our investments in T-bills. We were still in that initial catch-up phase that is required when you start one of these funds from scratch. Instead of being 65 to 70 per cent invested, as we are now, we were at that point still in a high growth mode because of the annual fundraising and it meant we had a heavy balance of treasury bills.

This next slide is a leverage slide. For every million dollars we have put up, we have tracked another $4 million in investment from other investors from outside of the province, many from the United States. From the government's perspective, for the 15 cents they put up, they actually get about a twentyfold leverage factor on their money.

We have regional funds that we have established for small investments of anywhere from $5,000 to $150,000. Those are listed by the places in British Columbia where we have these funds.

I will briefly cover the net benefits slide. This is from a study. The cost to the federal government to date has been about $34 million in tax credits. The benefits that will accrue over the eight-year life of the money that we hold, based on our eight-year track record, will be in the neighbour of $239 million. There is a quick return. This is not just our study, there have been three studies done. All of them show a quick two- to three-year return to the federal and provincial governments.

This is the latest release from the Canadian Venture Capital Association. It shows where capital is being expended. British Columbia has about 12 per cent of the venture capital. This is an increase over last year because of a distortion that occurred with foreign investors who moved up from 15 per cent to 20 per cent. We provide 60 per cent of venture capital in British Columbia.

People always ask us about the cash we have on hand. In our portfolio, which today is $484 million, $277 million is invested in equity in small and mid-sized companies. About $150 million is due to our shareholders over the next 18 months. The reason we raised that is our investments average four to six years. We cannot reinvest that money now that we are down to the last 18 months.

That is money people have already earned. More than half of that $150 million is capital gains that we have earned that will be going back to our shareholders. The actual available capital we have left for this year is $57 million, in terms of investments we will be making. We raise money each year because now we have more money flowing out than is coming in due to the capital gains we have earned.

The industry is down today. In Canada we have seen a decrease in venture capital industry by about 20 per cent, as you can see from this slide, and the number of deals are down by about25 per cent. This will be visited by the harbinger in the United States because we have had a lot of investors from the U.S. over the last two years. They have gone from 10 per cent of our investments in venture capital to 20 per cent, almost doubled. However, what is happening in the United States is much worse than what is happening here.

In terms of fundraising and placement, the United States market has collapsed. It is less than one third of what it was a year ago. As the investors that are coming to Canada realize that they have no liquidity, they are not making investments in United States, which will affect us. One of the issues around raising labour-sponsored funds was to provide a continuity of investment to ensure that we had a constant flow of funds into the industry.

Senator Tkachuk: You have indicated your competitive returns here. What would be your rate of return in the last five years?

Mr. Levi: That is the last five years.

Senator Tkachuk: Would that be between 2000 and 1995?

Mr. Levi: This is year to date. We gave you the most up-to-date figures since the market has been unsteady for the last couple of months. These are our compound rates of return over a five-year period, which are 12 per cent a year without the tax credits, versus the TSE at 6.2 per cent. We have included the amount, including the tax credit, which for our investors makes it equivalent to 16.7 per cent.

Senator Tkachuk: What is the labour fund? Do you go to a union to get a licence to be a labour fund? How does this work and what benefit does it have to the labour union?

Mr. Levi: The history started in Quebec. It was a creation of the union movement in Quebec with the solidarity fund. During the 1980 recession, there were closures in many large industries. As the recession ended in 1982 and 1983, they were not doing the same rehiring into the large firms. That was a downsizing that became permanent. As they recognized that their membership was not going back to the plants and mills, they started to look around and at that time you could see the growth in small and mid-sized businesses. The unions went to the provincial government and said there were some businesses in trouble. For example, they invested in three bus manufacturers and brought them together into one. If the unions could get a credit from the provincial government, they would go to their membership and ask them to put up their money until retirement. Some people will be in these funds for 30 to 40 years. The unions also wanted to provide capital for new industries.

The province agreed and put up a 30 per cent tax credit the first year. The second year, the province and the Quebec Federation of Labour asked the federal government to match the program. Instead of matching it at 15 per cent and 15 per cent, the government matched it at 20 per cent and 20 per cent, so it was a 40 per cent total credit.

The federal government had to put something in for the rest of the country, because it could not do it only for Quebec. Therefore, they passed an act that provided that if a province was prepared to provide a matching credit under federal regulation, and if it was sponsored by a labour organization, they would provide their credit. So the framework is provided at the federal level, but there is enough nuance left at the provincial level that it could be adapted for each different economy across the country.

Under the rules of the federal government framework, a majority of the board of directors must be from the labour movement. There is no financial incentive to the labour movement. There is also a very clear delineation between the utilization of information gained from the companies that we invest in versus the labour movement. We have three unionized companies in our portfolio. The rest are not unionized. There is no information provided to the unions other than public information.

Quebec tends to do larger companies. They have a very strong seed component. They do a lot of regional work, but they do some larger companies and have a higher unionization rate. Our largest companies tend to be unionized.

Senator Tkachuk: When a labour organization agrees to sponsor you, do you automatically get tax credits to raise your money?

Mr. Levi: Yes. It has been an issue in Ontario in particular, because in Ontario people have been able to go to any labour organization. The foreign services provide one, as do the police. The Canadian Football League had a fund. However, the public is not unaware.

When you look at the reports of rates of return you have to look at the size of the funds. Most of the funds in Ontario are small funds of less than $100 million. Rates of return quickly become an issue, as do the fees established for dealing in this area, so those funds have really started to atrophy. The ones that have fuller connection across the country have tended to be the better performing funds, both from a government incentive perspective and from the investor perspective.

Senator Tkachuk: Is your rate of return an exception? It is not the industry average across the country for these labour-sponsored funds; is that correct?

Mr. Levi: Of the funds in our category, which we consider to be $100 million or more, we have the best track record in the country, but we are not alone.

Senator Tkachuk: What would the average be?

Mr. Levi: The Financial Post tracks it and I do not have it in front of me. I would eliminate the smaller funds to start with because they are really not growing. They are historical artefacts.

Senator Tkachuk: They are important, from the view of public policy, because people's tax credits have gone into them and they are tied up for a long period of time.

Mr. Levi: I agree totally. We made presentations about that to the Finance Committee of the House of Commons and to the department of industry and trade. Presentations were made to the Ontario government as well, although we do not operate there. This is a major concern. There is no structure to consolidate funds, and as a result a whole series of funds was created. Fortunately, in aggregate the amount of money is quite small compared to the amount of money that is in the venture capital pool.

Today, we supply 60 per cent of the available venture capital in the province. Two years ago, we represented about half the investments made in the venture capital industry. Because of the influx of the Americans and a few others, and because of the growth in the corporate side, we have shifted. As a result of the decrease from 40 per cent tax credit to 30 per cent tax credit three years ago, our proportion of investment has dropped, but we are still an equal partner at a minimum with all the other venture capital groups.

Senator Tkachuk: Is the length of time that people can stay in different in every province or is it a national standard?

Mr. Levi: The national standard was originally five years. The Finance Committee reviewed this about four or five years ago. Their findings went to the minister and changes were made. We were pleased that the hold period was changed to our hold period, which is eight years. Across the country it had varied between five and seven. In Quebec it was until age 65. Now everyone has eight years.

Senator Tkachuk: On $100 million or more, what would be the average rate of return across the country?

Mr. Levi: I cannot tell you off the top of my head. I would guess that over a five-year period it would be in the range of7 or 8 per cent.

Senator Tkachuk: They makeup the large majority of these labour funds; is that correct?

Mr. Levi: Solidarity, VenGrowth, CMDF, Working Ventures and GrowthWorks constitute approximately 90 per cent of the money.

Senator Tkachuk: Do you think it is a good idea for the smaller ones to be allowed to assimilate into the larger funds? How do we protect the interests of the people who have invested and the tax credits that have been invested? Is it a good idea, as a public policy, to allow them to merge or to be bought?

Mr. Levi: The difficulty is the complexity of Canadian corporate law. Valuation is an issue as there is an eight-year hold and most of the companies are private. There is nothing that could be done at this level without changing corporate law across the country. It is very difficult.

It is good that the market has spoken. The market recognizes these and they will make their investments and then disappear from the scene.

Senator Banks: You said the average time you hold shares in a company is four to six years. Are there any exceptions to that? Do you still have any of the companies in which you originally invested?

Mr. Levi: There are exceptions. I was using an average. We have investments that have been in the portfolio for seven years. That could be because we like the company and its growth pattern or we have recognized a problem, have written it down and are looking for a buyer.

Senator Banks: Your investment committee determines sales as well as buys?

Mr. Levi: No. The investment committee has given that authority to the management.

Senator Banks: You decide that?

Mr. Levi: Correct.

Senator Banks: When you take a company public and do IPLs, do you make that determination or does someone else?

Mr. Levi: We are never majority shareholders in a company, so management always makes the decision. We always take a seat on the board of directors. We spend a lot of time with our companies' managers. Our managers handle only five companies at a time, so they spend 20 per cent of their day on each company. We are very influential, but we are not the final decision makers. Frequently, we co-invest with other venture capital groups, with mutual funds and with others we have been able to attract.

Senator Banks: If I come to you with a start-up with what appears to be a good idea, there is not a shareholders agreement by which you, notwithstanding that you are a minority shareholder, have any special rights with respect to decisions to go public, to sell or other management decisions?

Mr. Levi: There is a shareholders agreement. Those agreements vary from company to company. In the first round we usually have a caveat enabling us, if we are the only investors, to block an IPO sale. There are usually four or five rounds, so by the second round that is usually dropped because the next investor in is potentially interested in an IPO.

One thing we establish at the beginning with our companies is where to go for liquidity. We have a shared view of how we will get out of the investment. Sometimes people fall in love with their companies and they never want to sell. That may be fine for them, but we have all these RRSPs that we have to pay back to people when they retire. Therefore, we go through that process with them and, as long as there is a shared view, we will make the investment.

Senator Banks: If I am an investor in your fund with an eight-year hold, do you have any constraint in terms of investment or can you buy today and sell tomorrow?

Mr. Levi: On a theoretical level, we could do that. However, for qualification in terms of the requirement to invest, we have to reinvest all the money that we have invested.

If in some miraculous state, which has never happened to us, we invested on one day and someone offered us a substantial rate of return on the second day, we would probably take it. However, it would have to be 200 to 300 per cent, because usually when we invest in the company that is the growth pattern we are looking for.

Senator Banks: You said that you have some American investors. They do not receive any of the tax benefits; is that correct?

Mr. Levi: They are not in our pool of capital; they are co-investors.

Senator Furey: What percentage of your capital are you required to retain in liquid assets?

Mr. Levi: It is 20 per cent. It works the other way around. We have a requirement to invest a minimum of 80 per cent. For example, we could go to 85 per cent if we wanted to.

Senator Furey: Is that legislated?

Mr. Levi: The legislation in British Columbia states a minimum of 80 per cent.

Senator Furey: Is that sufficient or is that excessive?

Mr. Levi: We like to think of it as excessive, because it is the highest in the country. The reality is, as you saw from the numbers that we have, we do not have plenty of cash on hand. Whether it is at 80 per cent or at 70 per cent, we will still make the investments.

Senator Furey: What percentage of investments sell after the holding period expires?

Mr. Levi: That is the first time I have been asked that question. About one third of our investors sell and lock in the reinvestment for about another eight years; about one third of our investors take their money; and about one third of our investors leave their money in the pool, because of our rates of return. That presents us with a big problem, because we cannot reinvest that money into venture capital. That is why we have that figure of $150 million that we cannot invest.

Senator Furey: I asked our previous witness why the rate of return for his company was 3.3 per cent and the rate of return in your company was 13.6 per cent. That is quite a large difference. Would some of that be attributable to the fact that you are more of a monopoly company in B.C.?

Mr. Levi: We are not a monopoly. We are a monopoly in the sense that no one else can raise money in our province to do this, because we are in the venture capital business. We have indigenous capital groups such as Ventures West, the Business Development Bank, which has an arm that operates in British Columbia, and the Royal Bank Capital Corporation, although they just recently closed their offices and moved East after being very active in British Columbia. There are others that will come in on individual deals.

The major difference is in the economies. The Manitoba fund was really structured to allow exits for business owners. The typical pattern in Manitoba is that a company built in Manitoba can be sold to another company from across Canada or the United States, can then be closed down and set up to provide the service through a warehouse. You have the example they used of the275 people who are still working. That was one of the key reasons this fund in Manitoba was created. The rates of return that you will get from their types of investment will, by their nature, be lower.

We have either the second largest or the largest biotech community in the country now in British Columbia. The rates of return are high-risk but they are spectacular. We have a strong high-tech sector, which provides us with an opportunity that they do not have in Manitoba.

Senator Furey: If you look at the Ontario experience, where there is much more competition, and compare it to yours, you are probably in a better position to cherry pick your investments than the greater number of companies are able to do; is that correct?

Mr. Levi: Our competition is across Canada and the United States.

Senator Furey: I congratulate you on your rate of return.

Mr. Levi: We generally invest before anyone else really wants to invest. There are few people who want to invest at the level that we do. If you ask people how many of them have done a spin-off - three university professors in white lab coats who turn that into a company - you will find that there are not many players out there who do that. At our level, whether there are one or five or ten players in town, we do not have competition for first-time investment. That is not where people play.

The one group that we used to work with, Ventures West, has moved up the chain. They tend to do larger investments, and we have stuck with our "netting" to stay at the very early stage. We continue to invest every step of the way, but we are right there at the beginning. It is not that factor that is driving our rate of return, but rather it is the early stage of investment and the quality of our investment team. We have been living in heady times in terms of the IPO market, and we made sure that we sold at the right time, so we are not stuck with the same things that others are stuck with.

Senator Tkachuk: What are your management fees?

Mr. Levi: Our management fees are about 40 per cent less than the average in the industry. We have a contract that stipulates our fees are about 2.4 per cent.

Senator Tkachuk: That is very good.

Mr. Levi: It is hard for us to manage within, but we do manage. For example, the largest fund, Solidarity, is the only fund that is lower than we are at about 2.1 per cent. However, they are about $4.5 billion in size.

Senator Hervieux-Payette: Do you have a large number of female entrepreneurs knocking at your door?

Mr. Levi: It is large in comparison to other companies, but not large in comparison to the overall portfolio. We have about four or five female CEOs of successful companies. One of the companies that we spun off from Simon Fraser University is called Encompass Labs. A woman who is a professor at the university heads that up. We brought in Intel Ventures to invest in that company, along with Europeans and a variety of others. We recently sold that company to Microsoft.

Senator Hervieux-Payette: You made a great deal of money, thanks to a woman. How many women are on boards? There must be a pool of people that you place on the boards of various companies. How do you select board members? How do you determine their qualifications to occupy board seats?

Mr. Levi: The Working Opportunity Fund board is about40 per cent women. We have a Business Advisory Council, which reviews all of our investments, that is also about 40 per cent women. We encourage our companies to look for, and we look for, the opportunity to put women on boards. We look for qualifications first, obviously.

We are now in a growth mode of individuals who have enough experience, women in particular because women have been late to this market. To get them to the point where they can compete for a director's job, has taken some years, but we are now at that point where we have some strong, experienced women.

Senator Hervieux-Payette: Did I understand you correctly that when you invest in a company you usually have one member on the board? Would it be unusual to have more than one?

Mr. Levi: We usually require one of our investment officers to sit on the board. That is the expertise that we bring to the table. We also have significant influence in terms of discussion about the appointment of other board members.

Senator Hervieux-Payette: What would be the average investment size, rather than the smallest or the biggest?

Mr. Levi: We start small and end up big. We do each round as it comes. For example, our smallest investment would be about $100,000. Our largest investment in the portfolio today is about $13 million, done over a period of years.

The numbers you saw of our investment-pacing schedule do not include the last two rounds that we made because the company was too large.

Senator Hervieux-Payette: One of the criticisms of the fund Solidarity from my businesswomen community in Quebec is that when the evaluation is done, they are always under the impression that their value is put very low. When they have an investment, they take a big share, and that they feel they are being robbed.

How do you do the evaluation to ensure that the entrepreneur does not feel that it is the last recourse to avoid going out of business? How do you avoid having the investor feel they have to give you as much as is wanted? How do you remain fair to the entrepreneur?

Mr. Levi: The answer to that is history. If you are not fair, and you take advantage when people are down, then in two years or three years, and remember we are always minority shareholders, that anger will express itself in one form or another. Our first recommendation to anyone who comes to see us is that they go to our Web site and choose three companies at random. They should then talk to the CEOs about what it was like to deal with us. If we have sold, what the process was for sale? They are our best advocates. We have left it in the hands of CEOs.

We have a responsibility and it weighs heavily on us every day. We have people's retirement savings. We are cognizant of that all the time. It is their risk portion of their savings. We will not give someone a higher price that will end up hurting our investors.

The answer to your question is that we always try to be fair. I am sure that people have varying views on what is fair.

Senator Hervieux-Payette: Sometimes when the company goes public, they want to take another shot at it and they ask for a discount. When the company is going public and you want to invest more, do you go with the same price as every other investor?

Mr. Levi: Generally, we do not invest at IPO unless we are asked by the company to show support. Frequently, the stock brokerage firm putting them on the market will inquire whether your investor is a seller or buyer. It would help them if the investors were buyers.I do not think that there is any case at IPO that you can get a discount in Ontario to British Columbia because the securities commission would not allow it.

If you do get a discount, you are required hold it usually for a year. Some people will do a private placement prior to an IPO, but at the IPO stage you would do it at market. In almost all cases that we have offered to buy shares, our companies have been successful enough that they have attracted enough investment that we have not continued to invest.

The Chairman: Mr. Mains is here from Government Consulting Inc. who is asking that the basic information of the Solidarity Fund of Quebec be included in the record. It is their annual report. Is that agreed?

Hon. Senators: Agreed.

Senator Banks: I guess that you cannot be on the president's list.

Mr. Levi: We have a rule that none of us can invest personally.

Senator Banks: Would you describe the nature of the investment that you make in film and entertainment? It is in the service sector; is that correct?

Mr. Levi: We are investors in three or four companies. We are investors in Mainframe, which is the largest animator in North America. They make, for example, Reboot and Beasties. We believe that is a leading international opportunity. We are investors in a company called Peace Arch, which is the largest television production company in British Columbia. We are investors in a specialty kids' movie group that does do four or five movies a year. We believe we are the leader in that sector.

The Chairman: Gentlemen, thank you for your time.I congratulate you on a brilliant performance overall.

The committee adjourned.