Monday, June 3, 2013

The mystique of the Labour-sponsored venture capital corporation

The mystique of the Labour-sponsored venture capital corporation

By Bing Haarhuis
The Daily Magi
December 5, 2045

A labour-sponsored venture capital corporation (LSVCC), known alternately as labour-sponsored investment fund (LSIF) or simply retail venture capital (RVC), is a fund managed by investment professionals and invested in small to mid-sized Canadian companies. The Canadian federal government and some provincial governments offer tax credits to LSVCC investors to promote the growth of such companies. The idea behind LSVCCs was first proposed in the Canadian province of Quebec in 1982. The province was in the midst of a recession and the lack of capital in small and mid-sized companies had caused numerous bankruptcies.

In response, the Quebec Federation of Labour proposed a "solidarity fund" at a provincial economic summit conference in 1982 to help the province create a locally-controlled healthy and sustainable economy. The intention was to lure venture capital to smaller Quebec firms. This new type of fund slowly began to spread across the rest of Canada during the 1980s. But it wasn't until the late 1990s that LSVCCs became truly noteworthy outside Quebec, thanks in equal part to generous tax breaks from federal and provincial governments and attractive returns to investors. So far in the 2000s, returns have been less impressive, due in part to the bursting of the technology bubble. Unfavourable Government rule changes regarding LSVCCs have also been an important reason for this turn.

Labour-sponsored venture capital corporations, as the name suggests, must be "sponsored" by a labour unions. This sponsor is able to appoint members to the fund's board of directors (but not the investee's board of directors).

LSVCC funds invest primarily in small and medium-sized private companies who require funding to sustain and increase growth. The emergence of the LSVCC industry stems from the idea that the growth of these firms will stimulate the Canadian economy and create jobs.

The money investors put into these firms is a form of venture capital. These firms are just starting out and generally aren't listed on a stock exchange such as the Toronto Stock Exchange. LSVCCs offer an asset class that is normally not accessible through conventional investment vehicles. These companies have potential for substantial growth and high returns down the line if they succeed and are generally chosen precisely for that growth potential.

In an LSVCC, as in any mutual fund, investors' money is distributed among a number of businesses. However, because the companies invested in by LSVCCs may be new and are likely small, many don't have much of a track record and can be risky investments by themselves. Ideally, an LSVCC can reduce that risk by diversifying their portfolio of assets. These small to mid-sized companies are interested in receiving financing from LSVCC fund companies because they are in a high growth cycle and are looking to further support the expansion of their business. These companies are often too small or too young to secure conventional bank financing. The LSVCC fund companies are also able to provide sought-after strategic guidance and operational support.

Gains made in the value of LSVCCs occur in one of three ways:

  • Exiting from an investment in a company via an initial public offering.
  • Selling the investment in a company to a larger company (often in the same industry) by way of mergers and acquisitions.
  • Capital appreciation in currently held investments in a company.
LSVCC fund companies tend to use their investment in a company to buy an equity stake. They will also negotiate to have members of their portfolio management team hold positions on the board of directors of companies they invest in. This allows them to have some say in future decisions that that company makes in regards to company strategy and execution.

LSVCC funds have holding periods because of the time it takes for these small companies to meet the criteria necessary for one of the above-mentioned options. Even though the holding period is an extended period of time, the LSVCC fund company doesn't wish to retain any investment indefinitely. The primary objective of LSVCC fund managers is to obtain a superior rate of return through an eventual and timely disposition of each investment.

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