Changes need to be made to New Zealand's venture capital market to help it survive in the short-term and help the economy grow in the long-term, the industry body says.
Contrary to previous attempts by governments to create a venture capital market, over the past nine years an identifiable and functioning venture capital market has emerged, along with the supporting infrastructure, the New Zealand Private Equity and Venture Capital Association said in a report.
"This has been achieved by modest levels of public resources and appropriately larger contributions from other investors.
"It is a very good example of a public/private partnership functioning well with each partner playing to its strengths and neither squeezing the other out."
However, the future development of New Zealand's venture capital market was at a critical stage, the association said. It had been hit by events which cumulatively had stalled progress.
The global financial crisis took hold at a time when the good performers from the first crop of investee firms were approaching the stage of needing post-venture funding. For most, that had been curtailed.
The resulting economic downturn not only made it much more difficult for those young businesses to grow, it also resulted in the original venture capital funds performing poorly to average. That left the funds without a strong record to point to when raising their next fund.
"This situation is exacerbated by the aversion to risk that the financial crisis has brought about on the part of investors which has hit the venture capital sector worldwide very hard.
"This sector has always been very cyclical and it is currently in a deep trough."
The funding capacity of the seven existing New Zealand venture capital funds was largely committed and they had little capacity to invest in new investee firms.
That meant firms needing venture funding of $2 million to $10 million were finding it almost impossible to secure venture capital backing locally and the issue would get worse.
A further complication for fundraising was the composition of the New Zealand capital markets, the association said. The pool of institutional investors that were likely investors in venture capital markets was small and dominated by two institutions - New Zealand Superannuation Fund and ACC.
The Capital Market Development Taskforce identified the lack of depth in the capital markets as an issue. The track record of the venture capital mark so far led those investors to be cautious and, in the absence of their involvement, made it very difficult for fund managers to raise capital from others who tended to look to those large players for a lead.
KiwiSaver policies created barriers to those rapidly increasing pools of capital investing in local venture capital funds, the association said.
The barriers included defined management expense ratios in the default schemes and the portability requirement on all schemes which led to the need for certain liquidity levels and pending disclosure requirements.
"While we recognise the wider purpose of these various policies, they are having an unintended effect of creating barriers for the scheme providers to invest in the venture capital sector."
The association said that added up to a New Zealand venture capital fund being a very difficult business to operate and grow. The relatively narrow focus of the New Zealand Venture Investment Fund (NZVIF) programme on earlier stage investing did not, in its current form, provide the necessary support.
Most capital fund managers operated, or would prefer to operate, a wider mandate than covered by the NZVIF programme.
"If this were to occur, we foresee the policy cycle that has taken place a number of times over the last 30 years or so repeating itself in a few years' time."
Once the economy picked up, the gap in funding for venture businesses would become more apparent and the government of the day would once again try to kick-start a venture capital marker, or some equivalent.
The association considered that an undesirable outcome and a potential waste of resources that could be avoided by careful policy reorientation.
The association advocated:
• Introducing a longer term view and greater flexibility into the NZVIF venture capital programme;
• Creating a more favourable environment for investors to invest in venture capital funds;
• Maintaining and growing the venture capital infrastructure.
