Albert Wenger, managing partner at venture capital firm Union Square Ventures, in a blog late last year – Innovating on exit models for (mission-oriented) startups – looked at “three common exit options for venture-backed and bootstrapped startups – trade sale (most common), IPO (increasingly rare) and sale to a private equity firm (growing)”.
Wenger called for innovation, both in the existing options and by “creating new ones that are a better fit for companies that have a vision or mission that is important to them above and beyond financial return. Such vision or mission does not necessarily need to be of the obvious social good variety, but could also include settling Mars.”
Wenger identified some possible innovations and this section looks at each of them in more detail for the corporate perspective. Wenger’s five points were:
- Improve the IPO process by embracing a model similar to the open IPO process pioneered by Bill Hambrecht. Ideally combine that with a new stock marketplace that is longer-term oriented, such as the Long-Term Stock Exchange.
- Have a public benefit corporation successfully go public and show that having a mission enshrined in the charter is compatible with being publicly traded. As an extra hack on this, introduce a golden share that can block a conversion away from public benefit corporation status and have that share controlled by a non-profit.
- Create large pools of patient capital that have a very long-term outlook and are happy with slow capital appreciation or dividend yields. There is so much capital in the world seeking returns in the same overly-crowded opportunities. Evergreen long-term funds could be an interesting alternative. Early investors, founders and employees would sell to these long-term funds, possibly over a period of time, and maybe using internal or controlled external secondary markets.
- The large pools of patient capital – in addition to coming from existing concentrated wealth – individuals, insurance companies, pension funds, sovereign wealth funds and so on – could also have a crowdfunding component or possibly be entirely crowdfunded at some future point.
- To the extent that the startup is pursuing a token or blockchain-based protocol, investors and employees can be compensated with tokens. Eventually those tokens will become tradeable and liquid. As we make progress on the underlying protocols this could be applicable to ever more companies higher up the application stack.
Meaningful exits for founders
Bryce Roberts, partner at corporate-backed seed-stage investor OATV
For an industry that does not do it for the money, we sure talk about money an awful lot in the world of startups. A few posts have been written diving deeper into the numbers that drive VC returns which, in turn, drive behaviour in startups that have raised money from VCs.
One post, written by Samuel Gil, outlined what is considered a meaningful exit for VCs. According to Sam’s maths, a meaningful exit for a fund should have the ability to return 33% of a given VCs fund, a “home run” exit should be able to return their entire fund in a single investment. Across all of these scenarios, the smallest meaningful exit for the tiniest fund is a purchase price of $85m.
Another post touched on founder ownership at various levels of VC funding. Specifically, this post highlighted, having analysed more than 5,000 VC-backed cap tables, that founder dilution is fairly predictable based on the rounds raised by a given company. There are plenty of graphs to pour over in the post, but the summary reads as follows:
If your company exits around series D, you can expect the following splits:
- Founder ownership: 11%–17%
- Other employees: 17%–21%
- Investors: 66%–68%
The data suggests startups generally have two or three founders, so divide that number by the number of founders, and that is the predictable founder ownership level of a series D-funded company – in the post, the series D valuation was $210m.
Reframing those numbers another way, a founder selling at the series D price of $210m, would make the same amount of money at exit as they would have if they had sold for $38m having raised only a seed round.
Lifetimes of work and risk lie between a seed round and a series D round. And, despite increasing the value of the underlying business seven times, the dollars at exit for the founder remain roughly the same. It is also worth noting that an exit at $210m would not even qualify as a home run for even the smallest fund.
There are many paths to managing dilution, be it raising fewer rounds at higher and higher valuations, or raising one round and scaling a business on revenue and profits generated from customers.
Through our work on Indie.vc, we have met many founders who have raised successive rounds of funding and had opportunities to exit their businesses for life-changing sums of money. However, those acqusition offers were not meaningful exits or homeruns for their investors.
Many are looking to avoid, or at least be more aligned, with investors on the companies they are working on now. As Marc Hedlund wrote in his post about why Skyliner chose to work with us: “It should not be surprising that we chose to work with Indie.vc. It is a choice many more entrepreneurs should make, whether you have tons of experience or are just starting out. Don’t let the normal VC business model drive your work into a low-probability high-reward outcome, when a higher-probability outcome is well within your reach, especially one that does nothing to limit your growth.”
So let’s keep saying we don’t do it for the money. But, it might be worth looking more closely at the numbers before so quickly trading what is a meaningful exit to a founder for what is a meaningful exit to a VC.
This is an edited version of an article first published on Medium
Mergers and acquisitions
James Mawson, editor-in-chief, from GCV’s December 2016 issue
Analysis before this decade by academic Martin Haemmig indicated parent corporations bought an average of between 3% and 5% of their corporate venturing units’ portfolio companies. But with the wave of CVC launches since the start of the decade has come a greater emphasis on buying portfolio companies.
From 2014 to the end of November last year, parent corporations had bought 74 of the 398 venturing portfolio companies exited through trade sales, according to GCV Analytics. The exit data excludes the 183 flotations during this time and acquisitions of listed companies that had been CVC portfolio companies prior to the initial public offering, such as Symantec’s $2.3bn recently-agreed purchase of LifeLock, a US-listed identity theft protection services company, according to GCV Analytics.
While these CVC exits by trade sales remain only a fraction of the total number of venture capital-backed mergers and acquisitions, the proportion has been rising.
Data provider PitchBook tracked 1,191 VC exits by M&A in 2014 worth an aggregate $77bn. Using GCV Analytics data, this meant CVC-backed trade sales were about 8.5% of the total that year. PitchBook noted 1,173 VC exits by M&A in 2015 worth $48bn, which meant CVC-backed stakes were 12.5% of the total, according to GCV Analytics.
In the first half of 2016, PitchBook recorded 430 VC-backed acquisitions worth $28bn, which put CVCs selling to their parents at about 16% in this period, again using GCV Analytics, although there is a potential differential depending on announced date versus closing date.
Overall, M&A activity globally has been growing in recent years, hitting almost $5 trillion in deal value in 2015, favoured by strong market fundamentals, such as access to low-cost capital, low organic growth opportunities, and access to new markets, among other things, according to news provider Consultancy.
In a survey of 1,700 CEOs, chief finance officers and other C-level executives from 18 sectors, accountancy firm EY’s Global Capital Confidence Barometer found executives were again eyeing deals after a slowdown earlier this year. Almost 50% of respondents said they had more than five potential deals in their pipeline, up from 20% in April, and more than half (57%) expected to pursue an M&A deal in the next 12 months, up from 50% in April 2016’s report.
When asked by EY about the strategic drivers affecting respondents’ decisions to pursue an acquisition within their sector, “growing market share” came out on top with 23% of respondents, followed by “acquiring technology or new product capabilities”, at 20%, then, with 17% of respondents, executives said they would be using M&A to pick up innovative startups. Acquiring talent was cited by 15%.
Alphabet, the parent conglomerate of the Google search engine, is the heaviest acquirer of portfolio companies from its corporate venture unit GV, formerly Google Ventures, with six acquisitions in the past three years, according to GCV Analytics. US-listed chip-maker Intel has had four in this period, while peer Qualcomm has bought three of its portfolio, the same number as China-listed retailer Alibaba.
For most acquirers of portfolio companies, however, their CVC units are a source of only a minority of deals, while the parent corporation is usually also only a minority purchaser of CVC holdings.
In 2015, 22 of Intel Capital’s portfolio went public or were sold in M&A deals, the company said at the 17th annual Intel Capital Global Summit in San Diego, California.
Alphabet has acquired at least 63 companies since the start of 2014, according to its Wikipedia page, indicating less than a 10th were sourced from its corporate venturing unit, even including its purchases of GV-backed Skybox, Urban Engines, Appurify and Nest among others.
However, with multiple CVCs having more than 100 portfolio companies, including GV, Intel Capital, Alibaba and Qualcomm, there is also an increased focus on private equity-style roll-ups of portfolio companies, often with buyout firm support.
Data provider PitchBook, itself a corporate venture-backed company acquired by parent corporation Morningstar, said 64% of all US buyout activity in the first nine months of this year had been add-ons – the highest such proportion it had tracked.
But with “software eating the world”, as predicted by venture capitalist Marc Andreessen at the start of the decade, technology has been the busiest sector for M&A this year, as it was in 2015, and at the second-fastest pace since 2000, according to data seen by news provider Wall Street Journal.
More corporations setting up corporate venturing units – GCV tracks more than 1,600 of them – means a wider range of sectors are increasingly active acquiring technology companies.
Bloomberg said from 2011 to 2014 technology companies were the largest buyers of venture-backed startups, according to PitchBook data. The peak was in 2014, when tech companies spent $47bn buying venture-backed companies, compared with $21.8bn spent by non-tech companies.
In 2015, tech companies cut their spending on venture-backed startups to $18.3bn, while non-tech companies spent $17.6bn on venture-backed acquisitions. By September 30 2016, non-tech companies had paid $25.3bn for venture-backed businesses, compared with just $10.7bn by tech companies.
IPOs of corporate-backed companies
James Mawson, editor-in-chief, and Kaloyan Andonov, reporter
Tech stocks have performed best this year – up about 23% in mid-July and surpassing the dot.com peak of March 2000. A host of reasons has been given for this by the Financial Times, among them investor focus on growth in a low-interest rate environment, but also the relative paucity of such stocks, especially in Europe.
But the nature of supply and demand indicates this investor interest in tech and growth should be encouraging many flotations. An investment bank last month noted 16 US tech listings so far this year, potentially on course to surpass last year’s 29.
Combining PitchBook and GCV Analytics data on initial public offerings (IPOs) shows the number of VC-backed business going public around the globe is not only relatively modest but seems to have been declining over the past three years. While in 2014 there were 236 IPOs reported, were only 80 were reported in 2016, a 67% decline in transaction count.
- Demand for fast-growing public companies yet to translate into more flotations
- Corporate venture-backed more likely to float successfully, and at higher valuations
- Creation of alternative models start to form
CVCs outperform on IPOs
Of all those VC-backed companies that went public, on average of about three in every 10 had received some corporate venture capital backing in previous funding rounds in most years, although about half of them did in 2016.
For context, last year about a fifth of all venture-backed companies had CVCs in their rounds, according to GCV Analytics and data provider Preqin, the highest proportion since the dot.com days around the millennium, which was also the last high–water mark for US listings.
This year looks to be on track to overtake 2016’s total of 80 IPOs, with 55 venture-backed IPOs in the first six months of the year, albeit still behind 2015’s 145, let alone 2014’s. And recent sentiment has been weakened following the US listing of Blue Apron, which has seen falling share prices and multiple shareholder lawsuits claiming management misled investors.
This continues a long-term trend of CVC-backed companies having a better chance of floating and achieving after-market outperformance compared with independent venture capital-backed (IVC) peers. Academics Thomas Chemmanur, Elena Loutskina and Xuan Tian studied the flotations from 1980 to 2004 and one of their conclusions was: “CVC-backed firms [gain] more efficient access to the equity market by credibly communicating the true value of firms backed by them to three different constituencies:
- First, to IVCs, prompting them to co-invest in these firms pre-IPO.
- Second, to various financial market players such as underwriters, institutional investors and analysts, allowing them to access the equity market at an earlier stage in their lifecycle compared with firms backed by IVCs alone.
- Third, directly to IPO market investors, allowing CVC-backed firms to obtain higher IPO market valuations compared with the valuation of firms backed by IVCs alone.”
Other studies, such as that by Sammy Abdullah at Blossom Street Ventures, which in May effectively cherry-picked 93 IPOs since 1980, came to a conclusion that strategic investors were not important or critical to success. Abdullah was unavailable to comment on how the IPOs it analysed had been selected.
But in critiquing Abdullah’s “asinine” study, Tony Palcheck, head of Zebra Ventures, said: “The top five companies in the S&P 500 were backed by venture capital investors, and all of them do some type of corporate VC investing. The fact that they are the most valuable companies in the world implies that they know what they are doing from a financial return perspective. The fact that they themselves are investing money in startups implies that they believe they can create value in startups – as well as extract that value.” But Palcheck added that IPOs were just one exit option, saying: “M&A is by far the likely exit path for most startups.”
GCV Analytics in Global Corporate Venturing’s December issue confirmed the overall message. While there were 72 CVC-backed IPOs in 2014, 47 in 2015 and 41 in 2016, there were 101, 147 and 150 CVC exits by merger and acquisition (M&A) in these respective years. But while the number of exits by IPO or M&A fluctuated by up to nearly 50% in either category, the overall CVC exit numbers, at between 173 to 194, had far smaller variation, implying that so far at least in this economic cycle the numbers of companies able to exit remain relatively limited, just their methods of doing so are different.
However, flotations remain the preferred route for very large companies, whether CVC-backed Facebook or Alibaba, which were two of the largest yet.
The top IPOs of such enterprises in the first half of this year include Germany-based Delivery Hero on Frankfurt’s stock exchange raising almost €1bn ($1.2bn) after corporate backing from Naspers and Holtzbrinck, Cloudera’s $225m, in which Intel owned a 22% stake alongside early investor Alphabet through its GV corporate venturing unit, and Mulesoft’s $221m, in which Cisco and Salesforce held shares.
This year, the largest and most impressive IPO of a corporate-backed business was Snapchat’s $3.9bn flotation, in which Alibaba owned a stake, but which has subsequently come under investor concern about its longer-term strategic position against social network Facebook. The IPO drew attention both for the high valuation, as it floated at 60 times revenue considering it had only just begun generating money, and for the lack of voting rights given to buyers of the shares.
Two sides to every market: challenges create opportunities
But as Jim, Clark, founder of Silicon Graphics, Netscape, WebMD, MyCFO, Shutterfly and most recently CommandScape, told news provider Fortune last month, he was generally opposed to the practice of three-class stock structures, such as Snapchat’s, that give founders extra power, but there should be more and earlier flotations.
He told Fortune: “Companies stay private far too long. Microsoft went public after four years, the same year we did at Silicon Graphics. I think their market cap was under $100m. Okay, maybe it is risky for the public, but at least you give the public a chance to ride that out. With Uber, no one is ever going to make money out of Uber except the guys that are in it now. They are probably going to encounter that once you decide to take it public – basically flip the risk and let the suckers in the public market have a shot at it – that you have already sapped it of all its value.”
But while public investors worry about their aftermarket returns, existing shareholders and founders worry about the challenges of flotation.
Corporate-backed music-streaming provider Spotify’s executives have reportedly met US regulators over the company’s plan to skip a traditional share sale and list directly on the New York Stock Exchange, according to sources.
And Silicon Valley venture firm Social Capital is creating a special purpose acquisition company, a shell company to merge with a startup and give it a listing. According to Social Capital’s prospectus, the holding company, Hedosophia, is raising $500m by selling shares to investors because “the traditional technology company IPO process, which has been largely unchanged for decades, has also acted as a driving force to deter private company management teams and their pre-IPO stakeholders from pursuing IPOs”.
It adds: “We believe management distraction, a sub-optimal price discovery mechanism and the resultant longer-term aftermarket impact have discouraged private technology companies from pursuing IPOs.”
Instead, increasing numbers are turning to initial coin offerings as a way of raising capital and distributing holders.
Blockchain comes of age through initial coin offerings
James Mawson, editor-in-chief
The public focus has been on an explosion of digital currencies based on blockchain technology that has made initial coin offerings (ICOs) the modern equivalent of IPOs.
The estimated total value of all virtual currencies has rocketed past $135bn, up from $20bn at the beginning of the year. There are now reportedly more than 70 digital currencies, such as for cloud storage (FileCoin), digital advertising (AdToken), marijuana (Potcoin) and even dentists (Dental Coin), while the government of Estonia plans an ICO to replace bond issuance.
According to news and data provider CoinDesk, blockchain-related projects have raised more than $1.6bn from ICOs, with an estimated $1.5bn raised so far this year. Effectively a standing start in less than a year and during a moribund period for IPOs, it also indicates ICOs have overtaken early-stage venture funding, although the bigger later-stage and private equity markets remain far larger with $38bn in total invested in the US in the first half of the year.
Investment bank Goldman Sachs said June’s more than $550m in funding was the first month ICOs had beaten angel and seed VC funding, which was less than $300m.
On June 12, Bancor, which plans to create a new reserve cryptocurrency, offered 50% of its total tokens and raised $153m in under three hours, setting the record for an initial funding amount. The very next day, an entity called Iota listed a token designed for internet-of-things micropayments and immediately fetched a value of $1.8bn. A week after that, messaging platform Status launched its coin offering, raising $102m.
In July, ICOs were just over $300m, including $232m for Tezos, while angel and early VC funding was just over $200m, the bank added. And the trend has continued through the summer, with venture capital firms, such as Andreessen Horowitz and Sequoia Capital, investing in so-called crypto hedge funds that trade and invest in cryptocurrencies or directly in cryptocurrency token sales. Sequoia and Andreessen Horowitz invested in a $52m pre-ICO fundraising for Protocol Labs, which then completed the record ICO of $193m last month for its planned distributed computer memory storage project called Filecoin Network.
It is not just investment in the better-known Bitcoin and its sibling Ether. Ripple, a cryptocurrency or token that is popular with banks, saw its price surge more than 70% to nearly 30 cents in just 24 hours last month to give it a total value of $11bn.
But the largest two tokens may have benefited most and are worth perhaps half of the two crytocurrency market. Ether’s value, the second-largest crytpocurrency, has increased more than 2,700% in the past 12 months to $28bn, or $300 per token, in a series of peaks and troughs.
Bitcoin’s trading has been similarly volatile, from $2 to over $4,000 a token last month. Bitcoin now exceeds $40bn, despite concerns about security, ironic for an asset that is based on contracts with unique identification of counterparties – the blockchain – that holds out the promise of greater trust between holders.
The blockchain technology is designed as a decentralised constantly updated ledger system so two counterparties can know who has traded what tokens by using a private key in the form of a cryptographic algorithm.
So while Bitcoin blockchain allows you to transact only in Bitcoin under its contract, the Ethereum network behind Ether coins also has the software to do other things, such as connect businesses and tokens even if the value has been removed from the equity of the development company.
There are now reportedly more than 900 cryptocurrencies and crypto-assets on the market, with launches almost every day. The tokens could also be used for services. For example, Uber could issue an ICO so buyers could use the tokens to hail rides.
Because there is no central repository or issuer – in the way central banks traditionally print money for their countries – there are no regulations in the way that securities on public markets or ownership of traditional companies have developed. However, the US Securities and Exchange Commission has said the country’s securities laws may apply to the sale of new digital coins, and Singapore’s monetary authority has warned of the risk of money laundering and funding terrorism, while China cracked down on ICOs to investors late last month.
Venture capital has shown persistence in investment returns as better dealflow and exits go to those who have done well previously, and while blockchain and ICOs promise greater democratisation, pre-ICOs, such as Protocol’s, mean the coins could also end up in a similar pattern of returns flowing to well-connected insiders.
The UK wants to be a land of unicorns
The UK government has published a consultation into patient capital, indicating a shift in focus towards scaling up firms away from a perceived fixation on generating new spinouts. Global Corporate Venturing focuses on the implications for UK academic institutions of the patient capital review, and looks at the policy implications.
Part 1
Thierry Heles, editor of Global University Venturing
The UK innovation ecosystem is lagging behind its US counterpart when it comes to scaling startups to unicorn status – a valuation of $1bn or more – and to make up that shortfall the government needs to shift its focus. That is the fundamental idea driving a consultation published by the Treasury last month.
Figures in the document – Financing growth in innovative firms – are startling. Venture capital investments in private businesses in the UK stand at approximately £4bn ($5.2bn) a year, which may seem a lot at first but in fact equates to only about half the level of investments in the US. In addition, follow-on rounds are rarer for UK-based companies than for those in the US, and even the rest of Europe outperforms the UK in third and fourth funding rounds, though the mainland drops below Britain’s performance for later stages.
The consultation could be criticised for holding up the US as the gold standard – it hardly considers China, or indeed Asia, apart from acknowledging that 23% of unicorns in the world are based in the People’s Republic.
The percentage is below that of the US, at 54%, but notably a report by China Money Network in May revealed that of 102 Chinese unicorns worth a combined $435bn, six of the top 15 startups operate in the fintech sector – an area that the UK, and London with its global financial hub in particular, has been keen on.
The geopolitical and cultural differences with China may have been a reason for largely ignoring that ecosystem in the consultation, though when it comes to patient capital the country and the region are essentially without peers. Tsinghua University alone committed $1.5bn to a commercialisation fund, Tsinghua Technology Transfer Fund, as part of a $7.6bn initiative to support research activities over five years, for which the institution received the Global University Venturing Award 2017 for fundraising of the year.
The same is true of government venturing, where so-called government guidance funds have been sprouting up across China and raising jaw-dropping amounts of cash, such as the $17.4bn fund created by Tianjin City, a $21.8bn vehicle launched by the Beijing government and a fund reportedly being raised by the provincial government of Hubei with an $80bn target. Other governments have also been busy, with Singapore state-owned investment firm Temasek last month revealing a portfolio value of $197bn – a jump of nearly 13.4% over the previous year.
And when it comes to corporate venturing, one need look no further than Japan-based telecoms and internet group SoftBank’s $93bn SoftBank Vision Fund, which is targeting a $100bn close and has attracted limited partners such as China-based electronics contract manufacturer Foxconn and US-based technology company Apple as well as multiple sovereign wealth funds, including Saudi Arabia’s Public Investment Fund.
But what does the consultation mean for university venturing?
With details around the UK government’s National Investment Fund, announced in the same week, still vague – neither a structure nor a target size have been decided – the only clear aim of the initiative is to help startups become unicorns.
That realisation dashes any hopes that the National Investment Fund could be a proof-of-concept vehicle, a wish harboured more or less openly by many university technology transfer offices up and down the country. In fact, the government appears to have little or no interest in the early stage, although the consultation recognises that spinouts are “typically pre-revenue, research and development-intensive and reliant on significant external equity investment” and that they “play an important role in the wider investment market”.
Numbers collected by high-growth company database provider Beauhurst, cited in the document, show that between 2011 and 2016, spinouts were responsible for 9% of investments and 12% of capital.
Intriguingly, the consultation counted 45 spinout deals in 2011 and an average of 85 a year from 2014 to 2016, with a total of £370m ($490m) invested in 2011 and £340m a year in 2014, 2015 and 2016. The activity is mostly concentrated in London and the southeast, the east of England and the southwest – with other regions across the UK struggling to attract capital.
The figures do not line up with data collected by Global University Venturing, which shows that, between 2013 and 2016, spinouts from University of Oxford alone raised almost $2.25bn between them, closely followed by University of Cambridge at just over $2bn.
Only in third place do we find a US institution, with Stanford University’s spinouts raising approximately $1.94bn.
Ignoring that discrepancy for a moment, the consultation does not dispute that the UK is good at generating spinouts. It challenges the notion that the ecosystem is good at supporting young businesses through to an IPO, and indeed beyond that, and to scale to more than 250 employees – the point at which, under EU guidelines, enterprises cease to fall into the category of small or medium-sized enterprise (SME).
There is a concern that the consultation may shift the focus to later-stage funding too much, particularly when it comes to spinouts.
Unicorns are great, but rare. So how do universities and their tech transfer officers (TTOs) continue to gain value from knowledge transfer when it is made easier to raise a series E round, which a TTO may or may not able to afford to join, than it is to secure proof-of-concept backing or when founders, including TTOs, are forced to take a lower equity stake to begin with?
Brian McCaul, chief executive of Qubis, the tech transfer office of Queen’s University Belfast, has previously written in Global University Venturing that there are good reasons why universities want a large stake to begin with, dismantling the myth that the US is more founder-friendly and taking particular issue with the fact that the equity stake usually serves as “a scapegoat for the perceived inefficiencies of university-to-business technology transfer”.
To its credit, the consultation notes: “Changes in ownership reduce a founder’s ability to retain control of their business, reducing their own motivations for considering specific ownership structures that require founders to relinquish all control of their business. Equally, if a founder’s shareholding is diluted excessively, their motivation for driving the business forward may also be diluted excessively.”
Some – or indeed most – institutions would arguably be more disadvantaged if they were forced to take a lower equity stake to begin with and buy their way back in through later rounds. University venture funds such as Oxford Sciences Innovation, the UCL Technology Fund and university-affiliated vehicles such as Cambridge Innovation Capital may have the resources to do that, but regions that already struggle to attract venture capital will suffer even more.
As McCaul wrote, attracting cash is “very much connected to the issue of place and context – in Northern Ireland this is harder than in San Diego or the southeast of England”.
Putting the US on a pedestal by considering only the macro-picture ignores a key factor – not every institution in the US is equally successful in raising money for its spinouts.
The cliché that the UK’s institutions should try to be more like Stanford University also overlooks the fact that Stanford is in the unique position of being literally up the street from Sand Hill Road, the heartland of venture capital in the US, and Silicon Valley. The only place that could be considered remotely similar in the UK would be the golden triangle of London, Oxford and Cambridge. But the government’s own figures show that London is already receiving more capital than other places.
That did not stop the government from seeking the advice of Katharine Ku, director of Stanford’s technology licensing office, last year on how a model of less equity could work for UK institutions. Ku at the time recommended that universities license inventions in return for a fee rather than equity – yet young companies often have little money to spare.
And what about those other US institutions? At this year’s GUV:Fusion conference, Leslie Millar-Nicholson, director of the technology licensing office at Massachusetts Institute of Technology (MIT), pointed to the privileged reality in which MIT finds itself, remarking just how much easier it was to secure funding for spinouts than it had been in her previous job with University of Illinois at Urbana-Champaign.
How the UK government foresees solving the problem of making sure a spinout from a university in Northern Ireland or the north of England can make it through to a later-stage round remains a mystery.
Yes, a government venturing fund such as the National Investment Fund could certainly help, as could regional university venture funds – which the consultation does not pick up on, despite the enormous potential such schemes could have.
What are universities meant to do to avoid soon being forced into accepting a 10% share rather than a 50% stake in spinouts? Voice their concerns to the government’s consultation, which is open until September 22.
What if the government ignores these calls and goes ahead anyway? Perhaps now is the time for smaller institutions to consider regional university venture funds – calls that have been getting louder in the ecosystem.
The UK may be sailing into uncharted waters and it can certainly consider itself lucky that it has some of the finest tech transfer leaders among its people. But that the consultation does not appreciate the enormous dedication these people put in every day is perhaps another sign that it does not really understand the sector and is blinded by its unicorn dream.
There is another factor the consultation brushes over – infrastructure. In its 76 pages, it mentions incubators and accelerators only once each – the first in a graph about the ecosystem, the second to say that there are 163 accelerator programs in the UK. That is a heartening number, but it hardly offers an in-depth picture of the impact of those programs.
What is more, the document does not name any of them – surprisingly not even SetSquared, the collaboration between the universities of Bath, Bristol, Exeter, Southampton and Surrey that has not only been named the best incubator in the world but that surely could also serve as an inspiration and a model for other small to medium-sized institutions looking to boost their local ecosystem.
True, incubators traditionally serve early-stage businesses, but as programs such as Y Combinator in the US prove, they are often instrumental in setting companies up for unicorn status later down the line.
It is, in principle, a good thing that a consultation is taking place because the ecosystem does undoubtedly need more mature startups and more patient capital. There is also no doubt that TTOs will adapt to whatever Westminster may throw at them. Let’s just hope it will not be too much of a curveball.
Part 2
James Mawson, editor-in-chief
The iconic image most people have of entrepreneurialism is of a founder working away in her garage, office or laboratory coming up with an innovative idea to help make the world a better place and then becoming rich by building the company.
The question for governments and investors is whether the founding idea is worth much compared with building the company to a big enough size in terms of revenues, profits or employees to impact the world.
States around the world are looking at helping both ends by encouraging people to develop their ideas and start a company, then providing them with the money and resources to scale up but without reducing the entrepreneurial spirit or crowding out private capital through unnecessary or misguided interventions.
It is a difficult balance to strike. But reading between the lines of the UK government’s consultation on patient capital – money invested long-term in businesses to help them scale up to be large companies employing at least 250 people – it seems that the emphasis inside government and among its advisers is that more value and focus should be on investors scaling up a business rather than those coming up with the idea and helping the entrepreneur to set it up.
That seems to be the big question underlying the UK Treasury’s review of patient capital – Financing Growth in Innovative Firms – and whether “a material number of firms in the UK lack the long-term finance that they need to scale up successfully”.
It also goes across a similar review being carried out on university startups and spinouts by the UK’s Department for Business Energy & Industrial Strategy (BEIS, expected to report in about three months) and the broader industrial strategy set out in a green paper last year.
Following on from Global Corporate Venturing’s analysis– Seeking an edge after the golden age (see news section) – one insider to the UK’s spate of reviews, papers and consultations summed up the thinking as: “The value of a patent is less because the pace of change is higher. The bigger risk is in commercialisation.”
Equally, the adviser said avoiding entropy and improving the innovation toolkit for these larger companies if they became public was also important. “It is a changing world of money. [Western] public companies are mediocre, lacking vision and uninvestible.”
By contrast, the leading venture investors are increasingly Asia-based corporations active in China and the US which combine pace and size of investment with business unit speed of execution and follow-through on opportunities.
It reflects the changed world of venture that in the same week as the review was released there were about half a dozen rounds of more than $100m in size:
- Meituan-Dianping, the Chinese local listing and services portal formed in late 2015 by the merger of unicorns Meituan and Dianping, is reportedly in talks with investors to raise between $3bn and $5bn in a round that will feature a $1bn investment by existing backer Tencent.
- The SoftBank Vision Fund is reportedly in talks to invest $1.5bn to $2bn in Flipkart, which was valued at $11.6bn as of its last round earlier this year, in a deal that would enable it to join an investor base that already includes eBay, Tencent, Intel Capital and Bennett Coleman & Co.
- App developer DotC has raised $350m in a series B round led by Avazu’s parent company Zeus that involved the ownership of Avazu being transferred to DotC in a deal that will give Zeus a stake of just over 30.6% in the company.
- Online fresh produce retailer Yiguo has secured $300m in funding from Alibaba subsidiary Tmall as part of a partnership agreement that will involve Tmall integrating Yiguo’s product into its existing offering.
- US-based online business lending platform Kabbage has received $250m in funding from existing investor SoftBank, roughly doubling its overall funding in the process.
- Peer-to-peer lending platform Dianrong has secured $220m in a round led by Singapore’s sovereign wealth fund, GIC, and followed a $207m series C round two years ago that included Standard Chartered Bank and industrial leasing firm Bohai.
- E-commerce software and services provider ShopEx has secured $104m in a series D round led by venture firm Joy Capital and its past investors include Alibaba, Bertelsmann Asia Investments, Legend Capital and Legend Holdings.
And it would be less than a surprise to see strategic investors in other deals, such as BlueteamGlobal, a US-based provider of cyberthreat and security services co-founded by ex-Morgan Stanley chief operating officer Jim Rosenthal, which raised more than $125m, or healthcare companies such as Medtronic interested in Auris, a company developing less invasive medical interventions that has just raised $280m in its series D round.
Bear in mind this was that week’s larger deals. Excluding Meituan and Flipkart as just potential deals, that is about half the total annual venture capital funding for the whole of Europe in 2012 or 2013 – of just more than €3bn ($3.6bn) in those calendar years. And with none of these larger rounds based in Europe, it is also hard to see many European investors in them either, let alone leading.
As the Treasury’s consultation said: “UK corporates make a small but important contribution to investment in patient capital, most typically in venture capital… [and] the UK was the second most attractive destination for corporate venture investment (100 investments in 2016).”
The SoftBank Vision Fund is based in the UK but outside of its $502m round for Improbable in May has struggled to find suitable large targets in Europe, instead focusing on the US and Asia as typified by last week’s deals. Other deals, such as last week’s $8.5m B round for UK-based Wonderbly, are perhaps more indicative of how “fewer UK firms receive follow-on investment compared to the US, and those that do receive less”, according to the Treasury consultation, as the global series A and B round average size in the second quarter was $11.9m.
In this context, governments trying to focus on why the old continent has effectively missed out on much of the greatest wealth-creating opportunities of the past generation is worth reflecting on. None of the 10 largest internet companies are based in Europe, although Germany has in the past few years seen the flotation of conglomerate Rocket Internet and some of its portfolio companies, such as Zalando and Delivery Hero.
But in the UK, there appears concern in the consultation paper about the relative lack of similar success stories in its country. The Treasury looked at one vintage, the 239,649 firms started up in 1998, and found that while 11% had survived their first 15 years, only a few – “less than 100” – such as Asos, Double Negative, Financial Express, YouGov, Abcam, EcoTricity, Jack Wills and Sweaty Betty, had scaled up to a “large” size by employing more than 250 people and remained independent in this period.
As the consultation perhaps pointedly noted: “Some of these firms remain private firms and appear not to have received investment from external investors.”
This raises the question of whether existing tax breaks and investment programs have worked. The consultation asks: “Which programs – investment programs, tax reliefs and tax-incentivised investment schemes – have most effectively supported the investment of patient capital to date [and] when is it more appropriate for government to support patient capital through investment rather than through a tax relief?”
The Treasury calculated the cost of its tax breaks per £1 of additional investment, and using the upper and lower tax costs and multiplying against the annual investments made through the different schemes it works out at between £1.6bn and £3.6bn a year.
Venture capital investment in UK-based private firms is about £4bn a year, but if the country had the same level of investment as the US, total venture capital investment in UK firms would be around £4bn a year greater, according to the consultation paper.
The secretariat of the industry panel supporting this review, led by leveraged buyout doyen Sir Damon Buffini, has separately modelled an overall range of between £3bn and £6bn a year between the current annual supply of capital and that in a fully functioning UK system.
Its analysis pinpointed UK university spinouts as a potential area for greater focus as it found the number of investments in spinouts rising from 45 in 2011 to an average of 85 a year from 2014 to 2016, but the total amount invested falling slightly from £370m (2011) to £340m a year (2014 to 2016).
As a result, the UK is considering setting up a National Investment Fund under the British Business Bank in its autumn Budget and after the consultation finishes on September 22.
But unstated in the consultation, which has regulation as one of its focus areas, is the broader issue of how these entrepreneurs and investors can navigate the tricky issue of how, having effectively missed some of the latest deep tech and innovation trends of the past few decades, the UK can navigate the future given the oligopolistic nature of the economy.
As Mauro Guillen, professor of management at Wharton School, said in his blog about how in the age of big data companies from large markets would have an advantage: “Perhaps the single most important factor in the future development of technology will not be the process of innovation itself but how effectively companies align themselves with large transformations in the marketplace so that they can gain scale quickly.”
Life for entrepreneurs, whether at the early or later-stage, remains a hard journey it seems.
