The Quebec Story –

While many U.S. venture capital firms are struggling to find good investment opportunities at the seed-capital and first round stages, Quebec has the opposite problem.

“We’ve had dozens of highly-successful startups in hot technology areas,” said Gilles Leonard, a strategic planning officer at Invest Quebec, a development agency charged with attracting capital into the province. “But despite the fact that we are the center of Canada’s venture capital industry, local firms haven’t been able to keep up.”

To meet the increasing demand for venture capital by local startups, Leonard has turned his attention south, and has been promoting Quebec throughout the U.S. “We’ve got it all,” says the ever-enthusiastic Leonard. “U.S. investors who come here benefit from low costs, low risk and tremendous opportunity.”

“American venture capital firms raised $34 billion more in capital in 2000 than they invested, and many are on the lookout for new opportunities,” said Leonard. “Well, we’ve got em.”

Despite Quebec’s considerable successes over the last decade, which saw Montreal – its largest city – emerge as a world class technology center, Leonard will have his work cut out for him.

It’s not that those successes haven’t made an impact. The CAE Electronics flight simulator, designed and developed in collaboration with the Canadian Space Agency (CSA), is used throughout the world. The 3TC blockbuster AIDS drug, discovered by the Institut Armand-Frappier and GlaxoWellcome, and Merck Frosst’s Vioxx and Singulair speak well for the research environment from which they were borne and they are carrying their success and promise everywhere. And special effects software developed by Montreal-based Discrete Logic and Softimage is widely used in films such as Matrix and Jurassic Park and has been credited with numerous Oscars.

Nevertheless Quebec remains something of a well-kept secret among U.S. venture capital investors. Although the long-term trend-line for American investment has been on an upward pace since the early 1990s, Quebec entrepreneurs often literally have to grab U.S. VC fund managers by the hand, to get them interested.

The folks at Invest Quebec want to change that. Although it has only been around for four years, the agency has already built up a solid track record in its primary mandates of promoting domestic and foreign investment, and managing the province’s financial and tax incentives. As if that weren’t enough, recently the agency has evolved into a new role as a financial institution and can help out-of-town players obtain debt financing.

“When U.S. VC firms operating in Quebec are surveyed about how we can make it easier for them to invest, they say we need to promote ourselves more,” said Leonard. “We offer substantial incentives. But many U.S. investors just aren’t aware of them.”

Tax incentives to encourage R & D

Among Quebec’s most successful and innovative measures have been tax incentives to encourage research and development. Through a combination of tax credits and deductions, the net cost of a $100 investment in R&D can be as little as $31 for a large company in the non-manufacturing sector. What’s more, companies can borrow against their tax refunds.

To attract foreign researchers, those who come get a five-year tax holiday from Quebec personal income taxes, a measure that has also been extended to other experts, notably managers and marketing specialists with specialized knowledge.

Low business costs

These tax incentives come on top of what is increasingly being recognized as a low cost environment for doing business. While the strong U.S. dollar has been good for American importers, it has also substantially decreased the relative costs of doing business in Canada.

Canada was recently ranked first among nine major industrial countries surveyed by KPMG in a study released earlier this year that rated costs of doing business in a variety of jurisdictions.

The study measured 27 components such as labor, taxes and utility costs for 12 business sectors in 86 cities. Canada has the lowest costs among the countries surveyed in seven areas including software, R&D, corporate services, electronic assembly and specialty chemicals. Its advantage over the U.S. ranged from 7% for food processing to 33% for electronic systems development and testing.

What the survey does not fully demonstrate is that although Canada is the most cost effective places in the world to do business, Canada has many regions, and of those, Quebec is one of the most competitive.

Quebec enjoyed a 9.7% operating cost advantage over the United States. Average labor costs for Quebec companies are 31% less than U.S. costs. In the services industry, the figure is a whopping 37.4%.

Quebec also has considerable competitive advantages when it comes to energy costs. Quebec is a big producer and heavy exporter of low-cost electricity and its domestic rates are among the most advantageous and most stable in North America.

In the past two years the Quebec cost advantage has increased. Even more striking, of the cities with more than 2 million people that were rated, Montreal – Quebec’s venture capital center- came in first.

Quebec’s favorable tax regime and low business costs have helped Montreal become a major international player in the fields of biotechnology, pharmaceuticals and aerospace.

Montreal is strategically located in the northeastern portion of North America in the heart of a market comprising 130 million consumers within a 600-mile radius, close to major centers such as Boston, Washington and Detroit.

“Venture capitalists like to be near their money, and our proximity is a big plus,” said Leonard. “Montreal is only a one hour flight from New York’s LaGuardia Airport.”

Montreal also stands to be a big winner if security and trade concerns lead to the establishment of a North American security perimeter coupled with greater integration within the continent.

The Bush administration’s recent decision to impose tariffs on steel imports attracted a lot of media attention. But a second element of this decision was quietly overlooked. Both Canada and Mexico – America’s two NAFTA partners – were exempted from the provisions.

These moves dramatically illustrate what economists have long known: globalization – the world as one big happy market – is largely an exaggerated myth. More than 80% of foreign direct investment and half of world trade take place within three regional trading blocks centered on Europe, Japan and North America.

Trade and investment between Canada, the U.S. and Mexico has skyrocketed over the last 10 years, and Quebec has been one of the quickest jurisdictions to capitalize on moves leading to the emergence of a North American economic zone.

Quebecers were among the more enthusiastic boosters of the North American Free Trade Agreement, which gives local firms direct access to a market of 390 million people. The province has taken advantage of the agreement to become one of the biggest trading jurisdictions on the planet, with an astonishing 60% of the province’s GDP exported outside its borders (and more than 80% of that going towards the demanding American market). That growth – in large part technology driven has turned Quebec into one of the continent’s hotbeds of entrepreneurial activity.

A bridge Toward Europe

Montreal’s bilingual and multicultural character positions it as an ideal site for companies looking for a location to act as bridge between North America and Europe. The mix gives the city a highly European character and stimulates amazing creativity in music, graphic arts and film production. The city has also evolved a sophisticated intellectual community and extraordinary quality of life, which are highly prized by the academics and researchers it attracts.

But at the same the same time Montreal remains very much North American in its work ethic and attitudes toward business, said Leonard. “Canadian and American GAAP (Generally Accepted Accounting Principles) are similar, and U.S. companies tend to appreciate our legal system,” said Leonard. “Companies are better protected from the high jury awards that are common south of the border.”

Educated Work Force

Quebec also offers a highly educated, wage-competitive workforce – two-thirds of whom have at least a high school diploma – which leads the country in terms of low absenteeism and turnover. Quebec’s emergence as a leader in the information technologies, aerospace and biopharmaceutical sectors, has created clusters of talent and research networks that make it easy for new players to set up operations.

But how has the recent capital-spending drought affected Invest Quebec? “We are continuing to push,” said Leonard. “With low interest rates, and the recovery on the way, it’s only going to get busier.”

For more information about venture capital investment opportunities, please call Mr. Gilles Leonard at Invest Quebec (514-873-5781) or visit www.investquebec.com.