Local VCs lack institutional backers
Building big: The local VC market is growing, but has not attracted institutional investors fast enough
The Australian venture capital sector is gradually attracting more local investment but not enough from the most significant source, institutional investors.
Private Equity Media (PEM) has just released its annual report on Australian institutional investors’ attitudes to private equity and venture capital investing.
The report reveals a very different picture to the strong growth suggested by internet posts which focus on the technologies being developed, rather than the financial backing needed to commercialise them.
The Australian venture capital sector will not grow fast enough to keep pace with overseas counterparts unless it can attract substantial investment from local institutional investors, primarily industry superannuation funds.
Much of the investment in early stage technology companies is coming from overseas – mostly from the US but also now from Singapore-based venture firms. Local venture firms have increased investment in the sector but their total capital is still modest, drawn from funds mostly raised from high-net-worth individual investors and family offices.
Over the last few years, a couple of Australian superannuation funds have made commitments to local venture funds.
The PEM survey, carried out in the second half of 2018, shows no indication that other funds are likely to follow their lead any time soon. About 73 per cent of the survey respondents indicated low interest in investing in Australian venture capital, much the same as a year earlier.
Local institutional investors prefer to make global allocations to private equity with, or without, some exposure to venture capital. Some of this capital may be allocated to global funds-of-funds such as HarbourVest Partners which allocate some capital to Australia.
Similarly, the Future Fund has an allocation to Greenspring Associates and has told Greenspring to look for opportunities to support Australian venture capital managers.
Last year, the Future Fund made its first allocation to an Australian venture fund, an undisclosed investment in Blackbird Ventures’ $225 million third fund. This was an important step, but a small step.
Meanwhile, billion-dollar venture funds are becoming commonplace in the US and US funds are now the source of most later stage investment in Australian technology companies.
There is nothing wrong with Australian technology companies taking investment from US firms. In fact, it may well be the right course of action when a company sees its next move as entering the US market.
What is wrong is that the Australian investment is being diluted once investee companies have proven their technologies and are on well-defined pathways to profitability.
Later stage investing is most suitable for local institutional investors. Larger later stage investments in a relatively small number of companies would have strong chance of providing substantial returns. This would also help retain Australian control of the investee companies.
Current Australian venture funds are, however, too small for large Australian super funds to allocate at their usual scale.
A substantial Australian venture capital fund-of-funds with a mandate to invest in later stage Australian deals could be a solution.
A new federal government could take the initiative to create an such a fund. The government could provide an incentive for super funds to invest by providing a cornerstone investment.
Government returns could then be re-invested along the lines of the Innovation Investment Fund program which was abolished in 2014.
The extra layer of fees could be minimised by the fund being managed by the Future Fund organisation.
Adrian Herbert is the managing editor of Australian Private Equity & Venture Capital Journal, visit: privateequitymedia.com.au