Pouring Solution Part One: What Are the Facts and What Is the Data Telling Me?

I am Andy Hamilton and for over 20 years I have been a student of business, a student of change and I ask a lot of questions (I'm just like that). Here’s my profile on LinkedIn - sorry if you get spammed through my stranger-connections (should say no more!). This series is my own views and not The Icehouse tone. I care about getting content out, sharing and engaging with people to make our country better.

The percentage of high potential (high tech and high value with potential to create significant impact) Kiwi start-ups hitting ‘product market fit’ is so low it is leading to significant waste, a loss of economic opportunity and is materially different to other countries. 'Product Market Fit' means (to me), developing a product (or service) that meets a clear need and you cannot keep up with demand.

One quarter of one percent achieve product market fit in NZ in the early years (say the first three to five years) of their life – that is 0.25%:

• Every year around 1,200-1,500 high-tech or high-value start-ups look to raise investment in New Zealand to accelerate their growth.
• Around 125-150 of these successfully raise investment with about 40% being first time investment into start-ups - that means 60% are raising capital for the 2^nd time in the market.
• Start-ups are on average raising NZD $500,000 (give or take $100,000).
• Of the start-ups funded, around 10 are either venture backed ($1.5m+) or super-in-demand start-ups with the remainder angel backed. This group can attract capital from anywhere including international sources, and a funding offer from overseas organisations like Founders Fund or Khosla Ventures hold higher value to founders than local investment such as IceAngels, Movac, Punakaiki or Flying Kiwis. As international capital is believed to be more valuable to Kiwi start-ups than local capital the consequence is that we have a significant over representation of angel funded start-ups in New Zealand which is good on the one hand (companies getting funded) but bad on the other (not enough money).
• That leaves a bunch of funded start-ups with just $500,000 trying to prove market need, develop the product and find their product market fit. With tight budgets and such a challenging market in terms of scale in New Zealand, there is a massive impediment to their early success.
• Think about the deep IP, the biotech and ag-tech start-ups that need significant funding (millions and millions) to find their product market fit. Why are we setting ourselves up for failure when they will never be able to raise the funding in this market for these projects? We need to say no more when these projects request funding from the Government and/or market particularly at their earliest point such as the Government funding of teams in Universities and CRIs.
• A bunch of our start-ups that get through this gnarly phase get bought early. Founders get either a relatively big cheque or they come to the realisation that taking or seeking venture capital from offshore will require more risk, take more time and they shy away from taking the next step. Or they get turned down because they are not hitting growth metrics as they have failed to hit product market fit. 

• New Zealand start-ups are disproportionately angel-backed when put alongside comparable markets, which impacts on growth and success rates; and
• The scale of the New Zealand market is so small that it does not help, leading to further growth stunting.

So, what can be done about this?

• Can we have more people in NZ to get more scale in our market? Gradually over time, but it will not be 300 million any time soon.
• Can we have lots more venture capital in the market? Yes please, but that will take time.
• Could we get Government to make better choices around what it funds and what it does not? Yes please.
• This leads me to conclude, right now all we have to influence more successful product market fit outcomes is people - the quality of the founders, the quality of the advisors and most importantly in my view, the quality of the investors in the angel backed start-ups.

You may well ask, what would be the product-market-fit ratio for start-ups out of Sydney, London or San Francisco? How much higher? Four times, five times or even eight times? Or maybe the same ratio but a higher total number have multiple times more funding, buying them time to find their product market fit. My view is it ranges from about 4 times better to maybe at the top end 8 times better depending on the region.

Over time, we will see more institutional and international capital coming to NZ – plus our serial entrepreneurs may come into the market to back portfolios of start-ups like the Atlassian founders have done with Blackbird in Australia – imagine Sean Simpson, Frances Valentine, Peter Beck, Rod Drury and Cecilia Robinson in the market with venture funds – that would be awesome. That would speed it up. But how long is this going to take? Who is going to take the leap first?

Until that happens, how do we lift the product market fit rate? How do we be more than an angel backed start-up economy? What would be the one thing we could focus on to influence start-up performance? I love entrepreneurs and founders, they put it all on the line and I think they are getting better every year, however their challenges and learnings are not going fast enough by themselves. We need to find ways to tilt the playing field in their favour, to accelerate much faster. That is where I believe great lead investors can make a big difference for New Zealand.

Making a difference for Kiwi start-ups now?

1. Until there is a change in the mix of investment with more venture capital being available, I believe the best opportunity to influence successful outcomes is to double down on development of world-class lead investors. This has the greatest chance to influence outcomes, with the learning rate of the founders improving but not sufficient to close the gap. This requires acknowledgement that we are talking about moving on from the mentor focus of the last few years to a more aligned, engaged and active lead investor model.
   
   Not all investors fall into this model, we are talking about lead investors who have relevant domain expertise, who can lead the due diligence and investment process (including writing sizeable cheques), are active with the founders as an investor and board member while also being supportive,  have life experience that significantly influences the performance and chance of success of the start-up and are prepared to be highly active with the start-up, not just turning up for 1-2 hours each month for a board meeting. It’s no small ask.
   
   What I want to see is more lead investors who can write cheques and bring relevant domain expertise and pattern matching experience from start-up land. When you couple relevant smarts with money, that is a magic combination for a founder. One without the other is sub-optimal.

2. There are opportunities at the micro-level which should be continued as they contribute to upskilling our founders and entrepreneurs - the feedstock of our future:
   
   
   1. Encourage and support initiatives like Kiwi Landing Pad focussing on learning, launching & landing in global markets to speed up the learning rate and reduce the failure rate of Kiwi start-ups heading offshore. I am super impressed with the approach, network building and knowledge transfer that is going on at KLP. They are building this community the right way.
   2. Encourage initiatives like the Global Impact Visa trial with the Edmund Hillary Fellowship Foundation bringing high-impact entrepreneurs and investors to New Zealand on trial and conditional Visas. This will work to change the quality and depth of founders in New Zealand.
   3. Encourage and support the Kea Global Network of Kiwi-Friends who are supporting, mentoring and guiding Kiwi start-ups as they go on their journeys.

3. There are some high-impact potential changes we could make to the regulations to support the development of our start-ups into world-storming – here are a few on my mind:
   
   
   1. Increase the R&D tax incentive rate to 30% or 35% for start-ups (and SMEs) and include a cash rebate option for a 3-4-year period.
   2. Power up our lead investors through changing the Seed Co-Investment Programme run by the NZ Venture Investment Fund (NZVIF) to a tax off-set for angel investors for complying investments and investigate an ESOP off-set for these same lead investors against their income.
   3. Change the focus of the NZVIF venture capital fund of funds programme from its more recent move to a direct investment mandate to backing the next 2-3 $50-150m seed to series A & B funds with LP cheque sizes of $15-25m for up to 3 editions of their funds.

We have an emerging stock of world-storming companies

We want to make it super easy for these firms to operate from New Zealand, super easy for them on any of the venture funding tax and ESOP schemes, support their R&D aspirations, short-circuit immigration requirements to get the talent they need, proactively work on retraining as required – overall, just be very conscious of what they need to keep growing and succeeding and enabling New Zealand to be a great place for them to have their HQ in.

If we are not up for this, we will lose them, we will lose them to overseas capital, we will lose them from our listed market, we will lose their HQs. What more could we do for this group?

Making a difference for the emerging stock of world-storming companies

1. We are lacking an enterprise level strategy for this small group of high performing, high impact, high productivity companies. It goes beyond the Focus 700 of NZTE as it is addressing many of the issues that exist in their infrastructure from permits, to accessing talent and more.

2. A hidden gem in all of these companies are the platform leads, product managers, marketing leads, sales leads who are learning how to scale from NZ – and getting them involved with start-ups is a great way to get the ecosystem moving to recycling mode. We are doing this with Xero in Auckland and they are awesome – an amazing difference into the ecosystem. How can we power up their connectivity to the wider ecosystem so other start-ups can access this talent? Are the leaders in these businesses supporting this learning opportunity?
   
   

We have a bunch of SMEs and that is no different to other countries

SME is an established small to medium enterprise in New Zealand and typically it is sub $3m and sub 30 FTEs. There are thousands of SMEs in New Zealand – imagine if you could materially change the rate of growth of this group on mass? What about a 5% shift? What about just a 1% shift?

Have you ever run an SME to know how hard it is in reality? If you have not, get out there and support or mentor a business owner and try to be a practitioner in this field, it is amazing what you see and learn about their challenges by being close to them.

Most SMEs stay SMEs. (over 99%). What we can do for them is make it super easy on a compliance perspective, enable things like the Unique Business ID, make it really easy on tax, establish a common e-invoicing protocol but don’t forget to find ways to inspire them to grow, because just a 1% shift in this group into being bigger than a SME is a massive impact on the economy.

Making a difference for SMEs now 

1. We could do more to make life easier for this group on top of being one of the easiest places in the world to do business – simplify tax, drive business ID adoption & establish a common e-invoicing protocol for all SMEs.
   1. Why not run a true-agile process to explore ways to simplify life for SMEs that is discovery based with the SMEs themselves rather than officials coming up with ideas inside the bureaucracy;
   2. With this infrastructure create a campaign for large organisations to make it easier for SME e.g. to commit to paying SMEs on an advanced pay cycle.

2. We could do more to inspire this group to act and grow. What would look great here? Surely not a Minister going on a road-show to tell you how good this Government is? We need to see a changed narrative from the Government to being in the camp of small business and really understanding what it is like for them to run their business. What would inspire SME owners to take action and to have confidence to take action to grow?

3. We could do more to help SMEs to prepare for the future of work, new technologies, exposure to new trends to help these owners prepare.

4. Create an incentive for SMEs to get into the R&D world, and give them a much higher R&D tax incentive for a period of 3 years, with an immediate & potentially up-front cash rebate.

We have a mid-market group of medium sized organisations (MEs) that offer hidden and great potential for NZ, but only if they are motivated to bust out and grow.

Think Prolife Foods in 2004, think Sutton Group in 2001, think Furnware in 2007, think Pic’s in 2014 and think Eat the Kiwi in 2018 plus many more of these businesses that operate across NZ doing normal stuff, not flash tech companies, just good Kiwi firms that work out they might have some competitive advantage that could be wanted in off-shore markets.

Many have Kiwi bases, turn over more than $10m and if motivated to go hard offshore, could become like Prolife Foods which in only 12 years has gone from $15m to over $200m+ and 45 staff to over 1,200. If we could enable conditions for these family businesses to create the aspiration to build global presence and scale we could unleash massive economic potential.

What is interesting is that these firms at the point just prior to inflexion don’t need Government money, most aren’t looking for it and would walk the other way if they were offered it (even if they will not admit it!). That is a good thing. This group is a massive opportunity for NZ going forward.
What do we think is missing from activating this group?

Guidance on making a difference for MEs now

1. Identify the hidden potentials, partner with them to help them see their true potential and then go on the journey with them. But please don’t give them handouts as their strength is their commercial drive and independence.

2. To work with this group of ME firms, having a cadre of brilliant advisors who are not transactional, but relational with the families of these businesses would be a game changer. Inside The Icehouse we talk about ‘Ten David Irvings’ after one of our founders or ’Ten Deb Shepherds’ and the impact this could have – David is not unique and alone in the world, we can develop other brilliant advisors who know how to take a $20m business to $200m – lets train these lead advisors up, just like what could happen in the lead investor market in New Zealand for angel investors.

Our biggest firms have a significant opportunity to lift their productivity

There are approximately 2,325 firms in New Zealand who have more than 100 FTEs

• They represent 48% of all employed persons in New Zealand
• Average employment numbers in these firms is 430
• 50% of these firms are focused on the NZ market alone
• These large firms are significantly smaller than large firms in comparative countries

This means…

• We have over half of our largest firms focused on the NZ market alone
• These firms end up with high aggregations of market share, and potentially a lack of competitive forces to drive them to be better, to be more innovative – they are comfortable – arguably, they should be more strongly regulated for use of market power, think electricity, fuels, building to name a few industries. I personally believe we have an issue in NZ that is not being addressed by the Government and I don’t really have confidence that they will address.
• We have a focus on dividend yield returns, not capital growth and the market penalises firms if they venture into unrelated sectors and/or into global markets.
• Wouldn’t be great if we could get our largest to be significantly more ambitious? The challenge is the whole industry surrounding these large firms does not give you confidence with respect to supporting more aggressive growth strategies.

Guidance on changing the performance and role of our large organisations in New Zealand:

1. Challenge New Zealand’s big companies to change the conversation with their stakeholders, and to challenge themselves to do something different.

2. Somewhat contentiously, I think we need to establish a stronger, better commerce regulator in New Zealand to monitor specifically pricing, margins and market power. The new Government have started to make moves here. More is required.

Some summary thoughts as a result of these views on the startup, SME, ME and corporate segments of the industry

• Our start-ups are burning rubber and most are going nowhere, they are getting life experience
• While we do get success stories, many sell out early
• Our small stay small forever
• Our MEs offer great potential, they are largely hidden
• Our big are not big enough and lack geographic diversity to make a larger impact on our future

I believe most things come down to segmentation. Each of these segments have differing situations and challenges, albeit what is common across all is that business is about people – people who have the desire to go and give it a go, people who feel that the markets are not blocked from them, people who are trying to do something really hard and also people who at times doubt their own potential to achieve. If there is one thing we could improve, it would be the quality of our people to take on the world of the future, the future of work and the shifts that will help over the coming generations.

What do we know from The Icehouse work enabling Kiwi businesses to reach their potential?

We believe you need two things to be successful in business - aspiration and competence:

• Kiwi start-ups have an abundance of aspiration and courage, which is imbalanced against their levels of competence for the tasks related to starting and growing a business
• Established small to medium organisations have reasonable competence, with a significantly lower element of aspiration and generally are quite closed to external influences. They need to dream more, lift their horizons, create a stronger drive for the future and be more open to brining in new competence and talent to assist and guide them on their growth.

I am sharing these thoughts to encourage debate, engagement and open-ness as we know there are others fighting the good battle with Kiwi business to enable their success. It matters, the second of the series is responding to questions I hear a lot in New Zealand as I travel around and the third is a discussion on sustainability of the start-up and SME ecosystem in New Zealand.

This is Part One of Pouring Solution, a commentary written by Andy Hamilton, CEO at The Icehouse, for people who want to see New Zealand do better. Click here to read the preface.

Read the series:

Pouring Solution Preface - A series on improving New Zealand’s economic performance.

Pouring Solution Part One - What are the facts and what is the data telling me?

Pouring Solution Part Two – A few questions I hear often about the SME economy.

Pouring Solution Part Three - Building self-sustainability into the New Zealand start-up & SME ecosystem.