Observation Deck Highlights

June 2024

This Edition of the Tech Ecosystem Watchtower shares periodic highlights on tech news and research related to the Innovation Economy being followed in the world of Venture Capital & Entrepreneurship.

What I’m Reading

Innovation Highlights:

This month, we delve into the realm of AI, distinguishing genuine innovation from the noise. Reflecting on the last AI hype cycle in 2018, it's evident that AI is sometimes overstated, with many claims not truly relevant to startups, the business they are in and in some cases the AI use-case proposal. To frame the discussion, the Gartner graphic below serves as a basic starting point for understanding the diverse landscape of Artificial Intelligence beyond GenAI.

AI in startups should be scrutinized:

1. Relevance and Value: It's essential to evaluate whether a use case genuinely requires AI, assessing its value to the business. If the AI use case is weak, alternative techniques should be considered.
2. Misclassification of AI Startups: Many startups labeled as "AI companies" may not truly be utilizing AI in a way that justifies additional valuation consideration. Often, what is touted as AI is merely the use of generative AI tools—comparable to companies using HubSpot, it does not transform a company into a marketing firm. Employing AI technology can enhance business operations without converting the company into a AI firm, and this does not necessarily justifying an increase in valuation. It is important that startups present their use of AI transparently, ensuring it does not come across as a bait-and-switch upon closer investment analysis.

Critical Questions for Startups:

When engaging with startups about their AI strategies, it is important to assess the necessity of generative AI in their operations, much as one would question a Web3 company's need for blockchain. The Gartner AI Strategy pillars provide a useful framework to discuss:

Some additional considerations to analyzing a companies AI:

• Business Value: How is the business value of AI being measured? Are we back focusing on Vanity Metrics?
• Competitive Dynamics: What impact does AI have on the dynamics of a startup’s competitive environment such as innovation, operational efficiencies, customer engagement, and market partnerships to list a few?

Gartner's AI opportunity Radar is nice breakdown of how to consider AI in a business review for startup founders as well as investors.

Insights:

Does the application of a Generative AI tool provide for a premium on the valuation?

The use of generative AI tools need to be evaluated to determine if it truly warrants a premium on valuation. Does the application of AI contribute to more revenue, lower costs, and an expanded market position? These are critical considerations for investors looking beyond the allure of AI to the substantive impact it has on a startup’s operational and competitive stance.

This approach helps filter out the substantial opportunities from the overstated hype, ensuring that investments are made in startups that use AI not just as a buzzword, but as a genuine enhancer of their business model and value proposition.

For more details, visit:

• Is Generative AI Right for You? Explore Alternatives & Limitations (gartner.com)
• Get AI Ready: Action plan for IT Leaders | Gartner
• Learn to Build an AI Strategy for Your Business | Gartner

Investment Highlights:

This months industry investment highlights are:

1. Capital Gains Tax increase in Canada takes effect. Changes from 50% to 66%.

The recent implementation of the new capital gains tax rule offers a broad perspective, suggesting minimal short-term impact. Despite the changes, Canada is likely to continue attracting foreign capital, as high net worth individuals are already adept at optimizing for lower taxes. The main effect of this new rule will be felt by emerging wealthy Canadians and those nearing retirement, who may find their wealth generation prospects and retirement plans adversely impacted.

This newsletter will not delve deeply into the intricacies of the new capital gains tax rule, but it appears that once the dust settles, the overall impact may not be drastic. The best private capital allocators and talent often look beyond Canada, and this rule may inadvertently encourage more domestic capital flight rather than reinvestment, however it is unlikely to deter foreign investment. For instance, top tech companies will continue to attract U.S. investment, suggesting that such regulations merely reduce the incentive for Canadian capital to remain and reinvest locally. Consequently, those who have the means to relocate will do so, while others may find themselves constrained, a recurring theme in such scenarios.

As for Canadians who have dedicated a lifetime to accumulating modest wealth within the national market, they are the ones likely to feel the most impact. Individuals in their prime earning years facing potential capital gains exceeding $2.5 million should proactively adjust their tax strategies and consider diverse capital allocation options to buffer against these changes. Ultimately, this is a scenario we have chosen through our votes, and it is now up to us to navigate and adapt to these new rules effectively. See the image below for birds eye view.

2. Summary Highlights from the Business Development Canada Venture Capital landscape Report 2024

Current State of VC Investments: VC investments as a share of GDP have experienced a decline across OECD countries from 2022 to 2023. Canada is positioned in the middle of the pack with 0.36% of its GDP, reflecting a consistent yet cautious venture capital environment. The global downturn is captured in Figure 3, with countries like Israel leading at 1.02% and India at the lower end with 0.11%.

Year-Over-Year Decline: According to Figure 4, Canada experienced a 34% decline in VC investments as a share of GDP, aligning closely with global trends where countries like India and Israel saw declines upwards of 50%. This decline indicates a broader trend of decreasing venture capital activity and could be signally towards a market correction when taking into consideration dry powder, IPO markets and where VC allocation is going landing in terms of new invest vs portfolio management.

Future Fundraising Prospects: Future VC fundraising is contingent upon several factors including potential valuation corrections and the ability of the industry to sustain high net internal rates of return (IRR). Current high expectations set by double-digit IRRs, if unmet, could prompt institutional investors to redirect their investments towards other asset classes, which would reduce the capital availability for General Partners (GPs) and companies.

Canadian VC Reserves: Canadian GPs currently hold $10.4 billion in "dry powder" – funds committed but not yet invested. This reserve highlights the potential for future investments, although deployment depends heavily on the economic and market conditions that influence venture capital dynamics.

These insights point to a cautious yet prepared venture capital market in Canada amidst a global slowdown in VC investments. The substantial dry powder reserves suggest readiness to invest, pending favorable market conditions.

3. Investment Sentiment Insights: Mid-Year Review

As we conclude the first half of the year, insights gleaned from investor meetups and conferences reveal varied sentiments across different investment landscapes:

Corporate Venture Capital (CVC): Optimism persists among CVC investors, however investment motives and incentives differ typically compared to traditional VC firms. Many CVCs view their investments as strategic avenues towards acquiring talent & tech, presenting fundraising opportunities for startups aligned with this exit path.

Secondary Market Dynamics: The secondary market continues its enthusiasm as an ideal IPO market continues to stall. Market conditions favor secondary market participants, contributing to a more optimistic business outlook. According to a recent Pitchbook report, secondary managers are well-positioned to acquire prime assets at favorable prices, offering needed capital flexibility to other managers. The assets under management (AUM) in secondaries are projected to grow significantly, reaching an estimated $702.2 billion by 2028, which marks a 51.8% increase from 2022. See reference chart below for more data.

Canadian Investor Climate: Canadian investors display a cautious sentiment, some preoccupied with fundraising challenges and the implications of new capital gains tax regulations on their limited partner (LP) base. However, those in the process of capital allocation continue to seek promising opportunities, particularly in AI startups and ventures focused on environmental and social impact.

Foreign Investment Perspective: International investors, especially from the US, still find the Canadian market appealing, viewing it as a buyer’s market. The ongoing challenges faced by domestic capital markets reduce competition for deals and potentially lead to better deal terms for foreign investors looking to capitalize on Canadian assets. The Canadian market is still perceived as high quality tech at relative low prices with cost effective talent.

These insights provide a snapshot of the current investment climate, highlighting the diverse strategies and expectations as we move into the second half of the year from conversations with investors in the industry.

For more details, visit:

• PitchBook Analyst Note Private Capitals Path to 20 Trillion
• Canada Venture Capital Landscape 2024

Startup Highlights:

In the Startup Highlight section, the feature is the founder of Functionland who recently presented at the Beyond Blockchain event in Ottawa. Kate Withers provided an insightful overview of decentralizing physical infrastructure (DePIn) and discussed how Functionland is revolutionizing cloud storage. Functionland's global network now boasts 900 nodes and continues to expand, showcasing its impactful application in the tech landscape.

For more details, visit: Functionland

Conference Summary:

Final Collision

This was the most product Collision event over the past three years. In addition to the side events and the hosted sessions my scheduled was full with investor, partner and startup meetings throughout the week.

Summary for 2024 with a few photos in action!!

Three Years of Collision has come to a close, a truly wonderful experience in-terms of the relationships and the business built. Thank you Web Summit/ Collision team for making it unforgettable!!!

Discussing with peers how we support portfolio companies and the nuisances of portfolio management.

It would not have been a web summit event for me if I did not engage with the web3 startup community. Canada is starting to come around, however there is much work to be done to support the builders in the emerging web technologies space.

Last but not least how to get investment, I shared some insights and strategies on raising in the current environment with a table of ambitious and promising entrepreneurs.

Collision Community see you on the road at the next Web Summit Event !!!!!

Beyond Blockchain:

This was the first Web3 Event of 2024 in partnership with Invest Ottawa held on June 26, 2024. The speakers dived into the transformative potential of blockchain technology in reshaping commerce and finance. Industry experts, including Lucas Matheson from Coinbase, Nazim Ahmed from Remx, and Kate Withers from FunctionLand, shared their insights on innovations and the current state of Web3 in Canada. Attendees explored new blockchain business models and discussed the future of digital markets, making it a pivotal gathering for professionals, investors and builders interested in the cutting edge of technology and mark trends related to Web 3.

Thank you to the team and speakers for all the work putting together a great event and spreading awareness and education on emerging web technologies!!

Upcoming Conferences & Events Attending:

Summer events are always a maybe and the next one on my radar is Futurist:

Candid Capital Podcast Highlights:

Latest Episode:

If you're interested in startups, technology, and the nuances of angel investing across different regions, this is the episode for you. Tune in to gain valuable insights and understand how the European and Canadian markets shape the future of angel investment and entrepreneurship.

Upcoming Episode:

In this episode, we dive into the world of decentralized physical infrastructure networks (DePIn) with Kate Withers, co-founder of a leading Web3 startup. Broadcasting during the Beyond Blockchain event in Ottawa, this special episode explores Kate's journey from her early days in agriculture to becoming a pioneer in Web3 technologies. The discussion delves into the transformative potential of DePIn for industries like agriculture and beyond, emphasizing the importance of community-driven technology and the global reach of decentralized networks. Kate also shares insights on overcoming industry challenges and her vision for leveraging technology to empower data ownership and privacy in an increasingly digital world. Join us for a deep dive into how decentralized technologies are reshaping our digital and physical landscapes.

Stay tuned for the next episode you can learn more about Candid Capital on the LinkedIn Page Candid Capital

Thank you for reading and share your thoughts on topics in the comments!!