Canada tries to stop tech startups from moving to U.S.: ‘American VCs were hungrier’

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With a population roughly one-eighth the US’s, Canadian firms have fewer domestic customers. But what’s more, the US also has a greater propensity to keep investing in “high-stage risk” companies, said John Ruffolo, founder of Maverix Private Equity.

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In 2022, about a third of seed rounds in Canada had purely Canadian investors, but that fell to just 9% in later rounds, according to a report from the Organisation for Economic Co-operation and Development.

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“There’s been a turning of the back on the entrepreneur over the past 10 or 15 years,” Robert Janson, chief investment officer of Toronto-based Westcourt Capital Corp. said in an interview. The entire business ecosystem — from funding to banking and finding talent to tax — has pushed entrepreneurs to the US, he said.

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University graduates “somehow have a perception that if they want to have more success in building a technology company, they are better off in doing so in the United States,” Ruffolo said. “This, to me, is the real alarm bell.”

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There is, however, a large pool of capital to be tapped: retirement savings. With more than C$2.8 trillion of assets, Canada’s top pension plans are among the world’s largest institutional investors.

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Ruffolo, who founded the venture arm of the Ontario Municipal Employees Retirement System, said there’s been an “implicit bias that the returns and companies are superior outside of Canada” at those firms, he said.

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Facing pressure to invest more domestically, the heads of the so-called Maple Eight biggest pension managers have said they’re open to doing so. The idea is not new. Caisse de Depot et Placement du Quebec, for example, has a dual mandate of generating returns and supporting Quebec’s economy.

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The pension funds’ involvement in the new Radical Ventures vehicle is sign of a sea change. The new fund — backed by Canada Pension Plan Investment Board, PSP Investments and Ontario’s healthcare employees plan, known as Hoopp — is aimed at creating trillion-dollar companies.

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Reversing the Drain

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Many founders have pointed out that Canada’s proximity to the US creates a tough competition on tax. The northern nation’s general corporate tax rate is 15%, lower than the 21% rate south of the border. But depending on location, other taxes layer on top of that. And Canada’s personal regime has been regularly criticized for stifling productivity, with some analysts suggesting the highest income bracket kicks in too early.

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Tax reform could stem the brain drain, said Andrea Johnson, national corporate group leader at law firm Dentons. “Founders and young entrepreneurs leave Canada for capital availability but also because the US tax environment better calibrates risk and reward,” she said.

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On Tuesday, Carney announced a step in trying to change that. Canada is expanding the scope of a major investment tax write-off, adding fiber-optic cables, computer equipment, software and more to the list of assets eligible for accelerated deductions in Canada.

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It’s one of the most significant tax changes in decades. The government said the relief will reduce Canada’s marginal effective tax rate on new business investment to 6.4% from 13% — the lowest among Group of Seven countries, and half the rate in the US.

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Christian Weedbrook, founder of Toronto-based Xanadu Quantum Technologies Ltd., called the news “fantastic.”

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“When I put the lens on being an investor, I see these announcements and think, ‘Well, this is a good country to invest in because of these types of tax announcements,’” he told Canada Investment Summit attendees.