Big-name enterprises like these form the foundation on which the modern financial industry is built. They have little difficulty getting loans because they have lots of hard assets — factories, inventories, real estate, equipment — to put up as collateral.
From a macroeconomic perspective, there is nothing wrong with such an approach to lending, provided the economy revolves around those same tangible goods.
But economies that are overly reliant on risk-averse banks to finance growth and productivity gains start to fall behind when intangibles — ideas, talent, data — become the drivers of wealth.
Wrnch’s evolution shows why. The four-year-old software company, which uses artificial intelligence (AI) to do things with video that few others can, could pile up an impressive stack of computer gear that should be worth something to someone. It also has a full-length “mirror” in the lobby that wraps onlookers in suits of digital body armour. The espresso machine looks expensive, but it’s no locomotive.
Bottom line: there isn’t a lot of stuff for a bank to sell at a bankruptcy auction if a loan goes bad. Does that make Wrnch worthless? Hardly. Its intrinsic value has nothing to do with the amount of stuff it could drop on a banker’s foot.
For one thing, Paul Kruszewski, Wrnch’s founder and chief executive, has already created and sold two AI companies since 2000, so he has a track record of success. That’s rare in AI, which has existed as theory for a few decades, but only emerged as a standalone industry during the past few years.
Furthermore, Kruszewski’s newest venture, which uses powerful algorithms to process and analyze video of human motion, is profitable and growing, with the number of employees doubling in size last year to about 30. And Wrnch is already playing in the Big Leagues: it has a contract with Intel Corp. to help the second-biggest maker of silicon chips track and analyze athletes’ performances with three-dimensional imagery at the 2020 Olympics in Tokyo.
Wrnch is going somewhere. Kruszewski wants to hire an additional 200 people within the next few years and join the vanguard of Canadian companies at the forefront of AI, which could add about US$16 trillion to global gross domestic product by 2030, according to PricewaterhouseCoopers.
There is, of course, a but.
“We’ve hit the limits of organic growth,” Kruszewski said in an interview in January. “We do need some investment now.”
There are dozens, maybe even hundreds, of companies such as Wrnch in Canada that have legitimate potential to be a McCain Foods or a CP Rail in the innovation economy. Most, if not all, are being restrained to some extent by the financial system’s deep aversion to risk.
Philippe Daoust called up ex-pat entrepreneurs when he was asked in 2017 to lead National Bank’s technology team to find out why they had left. One startup said none of the banks would give it a bridge loan for a measly six weeks. The company found a lender in the United States that demanded only one condition: U.S. residency.
“Things are getting better, but we’re not there,” National’s vice-president of venture capital said. “The alarm has rung, but we are reacting as Canadians react, slowly.”
Daoust leads a team of about a dozen bankers that have a green light to be flexible on what counts as collateral. National is currently working with about 30 companies and has invested some $30 million over the past few years.
“We have been a risk-averse country,” he said. “But there is risk in not helping and watching those companies go away.”
Not so long ago, Canada was a funding desert for startups. It’s not that bad now, in part because Ottawa has been using the Treasury to leverage private investment.
Homegrown venture capitalists participated in 610 deals worth about $3.7 billion last year, little changed from 2017, but a 76-per-cent increase from 2014, when firms completed 438 deals worth about $2.1 billion, according to the Canadian Venture Capital Private Equity Association.
Still, in a world where one firm, SoftBank Group Corp., the Japanese internet and telecommunications giant, runs a single venture-capital fund worth US$100 billion, it’s fair to say that Canada — the world’s 10th largest economy — could be doing better.
The money available for starting and scaling is being fronted by a relatively small number of investors, which means entrepreneurs can find themselves in take-it-or-leave-it situations because there is too little competition. And because Canada’s venture-capital firms tend to be young, they don’t always have the expertise that ambitious startups desire to help take their companies to another level.
“There is plenty of capital available,” Ari Himmel, founder and chief executive officer of Faimdata, a Montreal-based startup that uses AI to study customer behaviour for retailers, said. “The question is, do they understand what we are trying to do?”
Canada’s banking system is part of the problem. Policy decisions taken over decades created a Toronto-based oligopoly of five institutions that controls 85 per cent of all banking assets.
That level of concentration has brought financial stability and excellent returns for shareholders. But the downside of limiting competition is accepting to forgo the economic growth and productivity gains that Canada might enjoy if its banks were forced to be more entrepreneurial.
The unforeseen consequence is that the country’s most powerful sources of finance are often viewed as being incapable of leading the transition to a new economy. Instead of enabling a battalion of entrepreneurs, the biggest banks are focused on mortgages and wealth management.
“Until you are a $1-million company, there is very little bank financing available,” said Raymond Luk, founder and chief executive of Hockeystick.co Inc., a digital platform that gathers and analyzes data on private companies and investors. “Banks won’t take my entrepreneurial track record as collateral.”
To be sure, Bay Street appears to have realized that it might have been missing out on something big and the wake-up call might have been the sight of smaller peers encroaching on the Big Five’s turf.
For example, California’s Silicon Valley Bank, which specializes in lending to technology companies, received a licence to operate in Canada on March 4. Michele Romanow, one of the stars of Dragon’s Den, in 2016 launched San Francisco-based Clearbanc, which focuses on lending to entrepreneurs.
In addition to National, all Big Five lenders are now dabbling in technology, but not all of them are keen to talk about what they are doing. Royal Bank of Canada and Toronto-Dominion Bank turned down interview requests, while Bank of Nova Scotia sent a statement that said it has partnered with a few venture-capital funds and that it is a founding partner of NextAI and Creative Destruction Lab, two prominent tech incubators.
Over at Bank of Montreal, Devon Dayton leads a team of a half a dozen bankers exclusively on tech focused as managing director of Technology & Innovation Banking. Like at National, the group works with an expanded list of lending benchmarks that includes recurring revenue and contracts.
“We agree with you,” Dayton said when asked whether traditional banking was too rigid for the new economy. “There is a significant opportunity here.”
The leader among the Big Five appears to be Canadian Imperial Bank of Commerce, although it chose to buy its way into the game rather than earn a place at the table. Last year, CIBC bought Wellington Financial, a boutique tech lender based in Toronto, and created CIBC Innovation Banking.
“Part of my job is to build the next generation of lenders,” said Mark McQueen, Wellington’s former chief executive and now president and executive managing director of the new CIBC unit. “Canada didn’t have a domestic champion in the lending space. No one would lend (cash) burn.”
About 30 people work for McQueen at offices in Toronto, Montreal, Vancouver, Menlo Park, Calif., Denver and Reston, a Virginian suburb of Washington, D.C. He said the bank is ready to back smaller companies that need only $1 million and points to emerging stars such as Lightspeed POS Inc., which enlisted CIBC, along with others, to support its $240-million initial public offering earlier this month.
“It’s a wonderful opportunity,” he said. “It’s exciting to see the other institutions playing catch-up.”
Catch-up is needed. The banks are an afterthought for many of Canada’s best entrepreneurs, who have learned how to get on without them.
Wrnch aspires to be a “Canadian champion,” but it’s unlikely that much of the millions of dollars the company is in the process of rounding up will actually come from Canada.
Kruszewski is focused on Silicon Valley, which is dense with venture-capital firms that are loaded with cash and unafraid to spend it. “These are the guys most interested in building a large business.”