Beyond the Chasm:The Venture-Backed Report - UK - 2006
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‘The point of greatest peril in the development of a [...] market lies in making the transition from an early market dominated by a few visionary customers to a mainstream market dominated by a large block of customers who are predominantly pragmatists in orientation.’
Geoffrey Moore, Crossing the Chasm
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Table of Contents
The Big Numbers .............................................................................................. 1The UKVB Portfolio: Overview .......................................................................... 3Where Are the Venture-Backed Companies? ..................................................... 5
Regional Distribution ................................................................................ 5District Distribution .................................................................................. 5
What Do the Venture-Backed Companies Do? ................................................ 10Technology Sectors ................................................................................ 10Capital Requirements ............................................................................. 12Target Market ......................................................................................... 13
What Stage Have the Companies Reached? .................................................... 22Investment Timeframe............................................................................ 22Origins ................................................................................................... 23Development Stage ............................................................................... 26Investment Stage ................................................................................... 26Revenue and Profitability ....................................................................... 27Employee Numbers ................................................................................ 29
Who Is Backing Them? ................................................................................... 33Where Does the Money Come From? ..................................................... 33Angel Investors ...................................................................................... 34Investment Companies ........................................................................... 34Other Sources of Funding ....................................................................... 36Syndication Networks ............................................................................ 37Extent of Syndication .............................................................................40Mind the Gap: Public Sector Investment ................................................. 42
Who Is Running Them? ................................................................................... 45Key Directors .......................................................................................... 45High Fliers .............................................................................................. 47
Appendices .................................................................................................... 50Library House Research Methodology .................................................... 50Acknowledgements ................................................................................ 50
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Foreword
The dot-com bubble has become an albatross around the neck of the global venture capital indus-try, and no analysis seems complete without reference to its ongoing effects. While looking at past investment levels can show evidence of the boom and bust, it gives limited insight into what is happening to the sector now.
At Library House, we have carried out what we believe to be the first ever analysis of the current portfolio of venture investments throughout the UK. Over the past year, we have researched each individual company and every investor who forms part of the venture-backed universe in the UK and present our analysis in this report.
The findings are sometimes unexpected. Many preconceived notions, such as sectoral and geo-graphic distribution of funding, the extent to which an ‘equity gap’ exists and even the typical venture capital investment pattern, are shown to differ from conventional wisdom. Overall, we find a venture ecosystem that has crossed the chasm from early adopters and visionaries to the main-stream. Time moves on, and so have venture-backed companies and their investors.
Why is this important?
In the 21st century, countries and companies alike compete globally for economic prosperity. In-novation is one of the key enabling components of successful competition on that scale. Large and small companies, private and institutional investors, as well as governments and their agencies all have to make informed decisions in order to succeed. We hope that our work can help in some way improve the readers’ mental map of one of the key areas of importance in the future; the ven-ture ecosystem that fuels the Innovation Economy.
Library House Cambridge, UK, 15 June 2006
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The UK Venture-Backed Portfolio
The 1,437 venture-backed companies in the UK, scaled by amount of funding received.
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The Big Numbers
1,437 Number of companies currently in the UK venture-backed portfolio
£6.6 billion Total disclosed amount of capital invested
90% Proportion of the total disclosed capital committed in institutional deals
619 Number of investment companies with active investment in the UK venture-backed portfolio
4.0 years Average time since first institutional deal
£4.9 billion Total disclosed annual revenue in last reported year
£397.0 million Total disclosed annual losses in last reported year
66,058 Total number of people employed
34% Proportion of companies operating in the Information Technology sector—the sector with the most companies
£3.2 million Average disclosed institutional deal size
£4.6 million Average disclosed amount of capital raised by venture-backed companies
£168.1 million Amount of capital provided to UK venture-backed companies in public sector-led deals
£123.5 million Most capital raised by a single company—Ocado, founded in 1999
26% Proportion of venture-backed companies in London—the region with the most companies
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Definition of the UK Venture-Backed Portfolio
Which companies are included?Library House defines the UK venture-backed (UKVB) portfolio as including all active, inde-pendent and unquoted UK headquartered companies which have received venture fund-ing from an investment company.
The venture-backed portfolio does not include:Private equity buyout activityCompanies which have been acquired or gone public even if the venture capital inves-tors retain a stakeCompanies not headquartered in the UK
What is an Investment Company?An investment company, for these purposes, is defined as any company or partnership whose primary objective is to achieve a financial gain through investment in and subse-quent divestment of companies.
How are investment deals classified?Investment into growing companies may come from a number of different sources; any single investment deal may contain participants of a number of different types contribut-ing capital in unknown proportions. In order to ensure clarity and consistency, Library House classifies deals according to the types of participants involved, irrespective of the size of the deal or development stage of the company, as follows:
Institutional — Any deal involving an investment company regardless of other partici-pants in the deal, corporate venture capital activity carried out by dedicated investment subsidiaries and fund-based angel groups are included here. Examples: Venture capital/private equity firms: 3i, Apax, Atlas, Intel CapitalPublic sector backed funds: Catalyst BioMedica, Sulis Seedcorn FundOthers: Bank of Scotland, HBOS, Natwest, Archangel
Corporate — Any deal involving one or more non-financial corporations and not includ-ing any investment company participants. Examples: Reuters, Hewlett Packard, Roche
Private Investors — Any deal involving private individuals, angels or non-fund-based angel networks but not involving either of the above. Examples: any named private indi-vidual, Oxfordshire Investment Opportunity Network (OION), Cambridge Angels.
Grant or Award — Any investment involving non-equity investors including public sector organisations or charities and charitable trusts, but not including any of the above. Exam-ples: DTI, Wellcome Trust, BBSRC, The Carbon Trust
Other — Deals not falling into any of the above categories; includes deals where the in-vestor type is undisclosed.
This classification of deals will understate the involvement of participants with a lower priority and overstate the amount of capital committed by higher priority participants. For example, if angel investors, a corporate investor and a venture capital firm co-invest in a single deal, the entire deal value will be classified as an institutional deal and no value will be assigned to any other deal category.
For a full definition of what constitutes a venture-backed company, as well as further de-tails of our research methodology, please contact Library House.
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The UKVB Portfolio: Overview
The UK private equity market is second only to the US on a global scale in terms of deal activity and amount of capi-tal invested and accounts for around half of all European private equity activity by value. Venture capital is a core part of the private equity market in the UK and despite the drop in venture capital investment ac-tivity following the end of the technology boom, the UK still retains a highly active venture capital investment market and has recovered well as global interest in alternative assets investment has returned.
Venture capital investments are, by their very nature, private transactions and often only limited information is disclosed publicly. This can make it difficult to build up a complete picture at any one time of both overall investment activity and the current assets committed. Information on deal activity can provide an overview of investment, but gives little indication of the overall scale of venture capital interests and impacts on the economy as a whole. Trade as-sociations produce aggregate figures for the overall capital committed, but these do not encompass all activity in the UK, only that of association members. In addition, trade associations often report the whole asset class of private equity, including venture capital, growth capital, and buyouts, which are difficult to disentangle.
Library House has identified, contacted and profiled over 7,000 high-growth companies in the UK for its online data-base service, Private Company Intelligence (PCI) Online.
This report, based on data from PCI Online, focusses on the currently active venture capital portfolio, and excludes non-venture-backed com-panies, buyouts and exited companies. This provides our customers with a clear view of the actual venture capital market.
In total, the PCI Online Service currently monitors 1,437 UK-based actively venture-backed companies. These companies have received £5,950m of investment in deals led by investment firms and a further £635m has been provided in deals not involving invest-ment firms, such as those led by corporations, public sector organisations and individuals.
619 independent investment companies currently hold investments in the UK venture portfolio. In addition, a further 86 public sector backed invest-ment funds, such as regional venture capital funds, have invested in the UK venture portfolio along with 263 corporations, ranging from large established technology corporations, such as Sony and Oracle, to smaller private companies, some themselves venture-backed.
The effects of the dot-com bubble can be seen until now in some aspects of the com-panies currently backed by venture capital firms. How-ever, in general the effects of the bubble have passed and the industry as a whole has moved on. In fact, only 16% of current UK venture-backed companies received institution-al funding prior to the peak of the boom in March 2000.
Traditional venture capital sectors such as IT, communi-cations and life sciences still dominate the overall landscape of venture-backed companies. The emergence of new areas of potential growth such as cleantech and the application of nanotechnology as well as the growth in consumer spending over the past decade has maintained investors’ interests in less high profile sectors such as retail and materials.
This report provides an over-view of the entire UK venture portfolio tracked by PCI On-line, providing the reader with the clearest picture of the sta-tus of current venture invest-ments in the UK. Further, more detailed, information on all of the companies included in this report is available through ac-cess to PCI Online.
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Regional DistributionThe venture capital industry, in line with much of the rest of the financial services industry in the UK, is highly concen-trated in London. In addition, the majority of investment activity has historically been made in London. This has led to the accusation that many investors are unwilling to look further afield than London and the home counties for investment opportunities to the detriment of other regions. Regional venture capital funds, such as those set up by the regional development agencies of England as well as similar funds in the rest of the UK, have gone some way to re-dress this imbalance in recent years. However, the overall
distribution of companies in the UK still remains highly con-centrated around the South East. The London region alone is home to 26% of currently venture-backed companies in the UK which have received 36% of the total UK venture funding. When combined with the adjoining regions of the East of England and the South East, the figures are 55% of all companies and 70% of all investment. Although much of this effect could be as a result of differences in population density across the country, this does not account for all of the differences in the number of venture-backed companies. London, the most densely populated region of the UK, has almost 53 venture-backed
companies per million head of population. This is not quite as high as Scotland, which has 54 companies per million people, but both are signifi-cantly ahead of the rest of the regions of the UK.
District DistributionAt a more granular level, when the number of companies per unitary district is shown, the degree to which companies have clustered even within the areas of high density in the South East becomes more apparent. Large areas of the UK have either none, or only a low number of venture-backed companies. Companies cluster strongly around the gener-ally well-known innovation hubs of London, Cambridge,
Where Are the Venture-Backed Companies?
Table 1Distribution of Companies and Investment by Region
UK Region Venture-backed Companies
Companies per m People
InstitutionalInvestment (£m)
Avg. perCompany (£m)
London 380 (26%) 52.9 2,139 (36%) 5.6
South East 262 (18%) 32.7 1,283 (22%) 4.9
East of England 148 (10%) 27.4 733 (12%) 5.0
Scotland 142 (10%) 54.0 453 (8%) 3.2
North West 114 (8%) 16.9 198 (3%) 1.7
West Midlands 96 (7%) 18.2 305 (5%) 3.2
South West 70 (5%) 14.2 337 (6%) 4.8
Yorkshire and The Humber 64 (4%) 12.9 136 (2%) 2.1
East Midlands 51 (4%) 12.2 133 (2%) 2.6
Wales 48 (3%) 16.5 88 (1%) 1.8
Northern Ireland 33 (2%) 19.5 47 (1%) 1.4
North East 29 (2%) 11.5 52 (1%) 1.8
Total 1,437 (100%) 25.5 5,903 (100%) 4.1
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Oxford and the Thames Valley, and Edinburgh and Glasgow.Of the 15 districts of the UK most densely populated with venture-backed companies, 10 are associated with one of these five main regional areas of innovation. Once formed, clusters, of this type, tend to become self-sustaining as successful entrepreneurs and investors reintroduce their ex-perience, skills and capital into new ventures in the region and skilled workers migrate to areas where job certainty and choice is higher. As a result, we expect the current clusters to tend to strengthen and be-come more pronounced over the coming years.
Library House attributes much of this effect to the pool of experienced entrepreneurs present in a region who have previously received venture financing. As well as going on to form new ventures
Figure 1Distribution of Venture-Backed Companies by Region
Table 2Distribution of Companies and Investment by District
District Cluster Companies InstitutionalInvestment (£m)
Avg. Investment per Company (£m)
Westminster London 108 (7.5%) 564 (9.5%) 5.2
City of London London 52 (3.6%) 395 (6.6%) 7.6
Camden London 50 (3.5%) 347 (5.8%) 6.9
South Cambridgeshire Cambridge 47 (3.3%) 327 (5.5%) 7.0
Cambridge Cambridge 40 (2.8%) 133 (2.2%) 3.3
Edinburgh, City of Scotland 36 (2.5%) 61 (1.0%) 1.7
Glasgow City Scotland 31 (2.2%) 156 (2.6%) 5.0
Vale of White Horse Oxford 25 (1.7%) 237 (4.0%) 9.5
Manchester - 25 (1.7%) 56 (0.9%) 2.2
Coventry - 24 (1.7%) 22 (0.4%) 0.9
Hammersmith and Fulham London 22 (1.5%) 142 (2.4%) 6.4
Belfast - 22 (1.5%) 37 (0.6%) 1.7
Oxford Oxford 21 (1.5%) 59 (1.0%) 2.8
Birmingham - 20 (1.4%) 4 (0.1%) 0.2
Bristol, City of - 19 (1.3%) 78 (1.3%) 4.1
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themselves, these serial en-trepreneurs are essential for providing the environment of innovation necessary to encourage new ventures by others and are often active in backing these ventures as angels. This trend may be en-hanced if the current favoura-ble exit climate continues. This will see many of the currently venture-backed companies exit and we would expect to see a large number of the found-ers return to new ventures, bringing their experience and networks back to the market.
It is intriguing that although the distribution of companies in the area between Oxford and London remains high, other parts of the Oxford-London-Cambridge triangle are devoid of venture-backed companies. There is an ab-sence of high densities of companies located between Oxford and Cambridge, or indeed between Cambridge and London. In both cases this may easily be explained by the current road and rail infra-structure. The relatively direct and fast road connection between Oxford and London has led to the formation of companies along the length of the Thames Valley between the two. The historic absence of any such effective road links between Cambridge and Lon-don or Cambridge and Oxford
directly has led to a disconnect between the three most active areas of innovation in the UK.
Connecting the three areas would make clear economic sense in the light of govern-ment commitment to increas-ing spending on research and development and encouraging innovation as per the Lisbon Agenda. The length of the Silicon Valley, the most widely recognised and most suc-cessful innovation hub in the
world, is of a similar size to the corridor between Oxford or Cambridge and London, around 60 miles, and benefits from the direct connections between all areas of the Valley not available in the UK. With-out the necessary infrastruc-ture, innovation hubs in the UK are likely to remain fragmented and relatively small compared with world-leading clusters of innovation.
Figure 2Distribution of Venture-Backed Companies by District
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Overseas Companies: Gone but not forgotten
Library House has specifically defined the UK venture-backed portfolio for this report as containing all companies headquartered in the UK, even if their country of incorporation or foundation is elsewhere. However, in addition to this core set, we have identified a number of venture-backed companies which have offices both in the UK and overseas and may consider themselves headquartered elsewhere. A number of these cross-border companies were initially formed in the UK but have relocated headquarters elsewhere during the development of the company. As these companies often maintain a presence in the UK and may have UK-based investors or still occupy their initial offices in the UK, they are often mistaken for being UK com-panies. In this section we look at some of these companies which have been excluded from the main report to understand some of the motivations behind these corporate relocations. This does not include companies which have fully relocated abroad and no longer have any opera-tions in the UK, only those which have partially relocated.
The relocations discovered among these companies fall broadly into two categories: relocation of the HQ for strategic reasons whilst maintaining R&D offices in the UK — sometimes called the ‘Delaware Flip’ or occasionally the ‘Israeli Model’ — and relocation of part of the company following a merger. The former is a based on a proactive choice of the final destination result-ing in strategic relocation whilst the latter is dependent on the locations of the companies involved.
Of the companies identified as following the Delaware Flip strategy, 86% were spin-outs or start-ups from a UK university, these companies tended to maintain their research ties with the institutions from which they originated. Most of these relocations were to the US, the locations of the US headquarters polarised, unsurprisingly, to the main innovation hubs in the US. All but one company moved to either California (close to, or in, Silicon Valley) and Massachusetts (close to Boston). In addition to the wealth of talent present in these areas, a significant presence in the US can help companies gain access to the US market and access the much larger and more informed capital markets there.
Figure 3Some Key UK Companies Which Have Moved Abroad
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Another key motivation of companies to move to the US, in addition to perceived sales po-tential, is in preparation for a US stock market listing. In the belief that major US public mar-ket investors are less likely to invest in a non-US based company, European companies often relocated in advance of a hoped-for listing to set up a US presence. However, as both the amount of capital available through AIM and the levels of liquidity have risen in recent years as its international profile with investors has risen, this trend may slow down. The implementa-tion of Sarbanes-Oxley in the US, as well as worries over potential litigation, may mean that US exchanges such as NASDAQ lose their appeal somewhat for European companies, which will in turn feed less regulated exchanges such as AIM in London and other European markets and diminish the number of companies looking to relocate to the US for an IPO.
Some examples of companies following the Delaware Flip include Domantis, a domain antibody company headquartered in Waltham (MA), having spun-out of the MRC-LMB in Cambridge. Similarly, Level 5 Networks, an Ethernet company that was formed out of research in the AT&T Labs in the UK, relocated to Sunnyvale (CA) and became a Delaware corporation. Incorporat-ing in Delaware is a common move for US companies, especially those seeking external capital investment, as the state corporation laws are clearer and more fully defined than most other states. As a result, a number of US venture capital firms prefer a company to become a Dela-ware corporation before investing as there is greater understanding of the legal framework and liability and the state courts have had more experience judging corporate cases.
The remainder of the companies which formed in the UK and later relocated, leaving a par-tial presence in the UK, have moved due to M&A activity. In these cases the final location of the headquarters of the company is more likely to be determined by the personalities of the management, and the relative sizes of the companies involved rather than by strategic reasons. As a result the locations to which companies have moved are more diverse and do not follow such a strong trend to the US. Examples of this include Trigen, a biopharmaceuticals company founded out of research carried out at the Thrombosis Research Institute in London, which has relocated to Germany as a result of a merger with ProCorde GmbH, or Xytis Pharmaceuticals which relocated to the US following a merger with Remergent Inc.
This section has only looked at companies which have relocated from the UK, neglecting those moving in the other direction. The public sector, on both a national and regional level, is invest-ing heavily in the overseas promotion of its business-friendly clusters in an attempt to attract the best overseas corporations. UK Trade and Investment, for example, encourages companies to relocate to the UK and has identified over 500 companies moving to the UK during 2004-2005. In addition, it has formed partnerships with towns in China, agreeing on preferential conditions for organisations seeking to establish themselves either in Cambridge or China. Such activity could spawn companies that will follow the Delaware Flip model, but perhaps with a twist: companies with corporate headquarters in China or India as opposed to the US.
Table 3Relocation Strategies for Companies Moving Overseas
Type Characteristic Examples
Partial MoveDelaware Flip
Incorporated in US, R&D remains where founded
Artimi Ltd, Level 5 Networks Inc, Oxford Semiconductor Inc, Cav-endish Kinetics Inc, Domantis Inc
M&AM&A activity leading to relocation of HQ abroad
mBlox Inc, Tigen Holdings AG, Xytis Pharmaceuticals Ltd
Total MoveFull Strategic Move
Relocation of all company assets abroad
Out of scope for this report
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What Do the Venture-Backed Companies Do?
Technology SectorsThe distribution of companies by sector shows that the typi-cal venture capital investment sectors of IT, Communications and Healthcare are key areas of the UK venture portfolio, accounting for over 65% of all companies and 66% of the total institutional funding received. The Services & Retail sector, including Business Support Services, Consumer Goods and Retail, forms the second largest sector with 22% of the companies and 25% of the institutional invest-ment. The remaining sectors: Industrial, Chemicals & Ma-terials and Energy, combined account for only 13% of the companies and under 10% of the institutional capital invested in UK venture-backed companies.
The relatively high position of the services & retail sector is somewhat surprising as it is
not an area typically seen as one of the major investment sectors for venture capital investors. In all, over one fifth of the companies operate in this sector and a quarter of the institutional capital has been invested in this sector. Over-all, the distribution of capital across the sectors shows that, in the UK, technology invest-ment is less prevalent than in the US, where non-technology investments represent only 13% of the total investment on average. This may be due to the extensive growth capital investment activity in the UK compared with the US, result-ing in more capital deployed to mature, non-technology based companies. It may also be based on the fact that many of the current data pro-
Information Technology
34%
Services & Retail22%
Healthcare & Life Sciences
18%
Communications13%
Industrial7%
Chemicals & Materials
4%Energy
2%
Figure 4Proportion of Venture-backed Companies by Sector
Sector Companies Institutional Investment (£m)
Avg. Per Company (£m)
Information Technology
487 (33.9%) 2,022 (34.0%) 4.2
Services & Retail
314 (21.9%) 1,514 (25.4%) 4.8
Healthcare & Life Sciences
263 (18.3%) 1,029 (17.3%) 3.9
Communica-tions
190 (13.2%) 902 (15.2%) 4.7
Industrial 99 (6.9%) 191 (3.2%) 1.9
Chemicals & Materials
58 (4.0%) 122 (2.1%) 2.1
Energy 26 (1.8%) 171 (2.9%) 6.6
Total 1,437 (100.0%) 5,950 (100.0%) 4.1
Table 4Venture-Backed Companies and Investment by Sector
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Table 5Leading Sub-Sectors by Number of Venture-Backed Companies
Sub-Sector Companies Institutional Investment (£m)
Avg. Per Company (£m)
IT Software 312 (22%) 1,126 (19%) 3.6
Business Support Services 148 (10%) 962 (16%) 6.5
Pharmaceuticals & Drug Development 115 (8%) 741 (12%) 6.4
Communication Services, Content & Media 114 (8%) 442 (7%) 3.9
Industrial Systems & Components 99 (7%) 191 (3%) 1.9
General Services & Retail 95 (7%) 306 (5%) 3.2
Medical Technologies (MedTech) 94 (7%) 201 (3%) 2.1
Communication Hardware, Software & Systems 76 (5%) 460 (8%) 6.0
Consumer Goods 71 (5%) 247 (4%) 3.5
IT Services 65 (5%) 456 (8%) 7.0
IT Hardware 57 (4%) 259 (4%) 4.5
IT Systems 53 (4%) 180 (3%) 3.4
Advanced Materials 46 (3%) 116 (2%) 2.5
Non-Medical Life Sciences 31 (2%) 34 (1%) 1.1
Healthcare Services 23 (2%) 53 (1%) 2.3
Other 38 (3%) 177 (3%) 4.7
Total 1,437 (100%) 5,950 (100%) 4.1
Range Sector Sub-Sector
£6m or more
Information Technology IT Services
Services & Retail Business Support Services
Healthcare & Life Sciences Pharmaceuticals & Drug Development
Communications Communication Hardware, Software & Systems
£3-4.5m
Information Technology IT Hardware
Communications Communication Services, Content & Media
Information Technology IT Software
Services & Retail Consumer Goods
Information Technology IT Systems
Services & Retail General Services & Retail
£2.5m or less
Chemicals & Materials Advanced Materials
Healthcare & Life Sciences Healthcare Services
Healthcare & Life Sciences Medical Technologies
Industrial Industrial Systems & Components
Healthcare & Life Sciences Non-Medical Life Sciences
Table 6Leading Sub-Sectors by Average Institutional Investment per Company
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viders, such as Dow Jones and Thomson, focus on technology investments, skewing the pic-ture away from more tradition-al growth capital deals.
Within the services & retail sector it is the area of business support services which has the most companies. This sub-sector accounts for 10% of all venture-backed companies and 16% of the overall insti-tutional investment. Some of the interest in this sub-sector is likely to have been driven by the recent increase in out-sourcing of business activities which has seen several inves-tors actively seek out invest-ments into companies involved
in outsourcing or offshoring of business processes.
It is notable that not only have a large number of business support services companies received funding, but that on the whole companies have received more funding than in other sub-sectors.
Capital RequirementsIf the sub-sectors are re-ranked according to the aver-age amount of institutional funding received per company, three distinct groups become apparent: high, mid and low average investment per com-pany. Business support services ranks alongside IT services,
pharmaceuticals & drug devel-opment, and communications hardware, software and sys-tems in the highest investment category. These sub-sectors all have an average institutional investment per company of over £6.4m, almost £2m per company more than the next highest sub-sector, IT hard-ware.
It may be unsurprising that drug development and com-munications hardware appear in the high investment cat-egory; both are well known to be capital-intensive areas and ones in which venture capital investors have typically been willing to make large invest-
Table 7Top 15 Companies by Total Amount of Capital Raised
Company Name Founded Sector Total Invest-ment (£m)
Ocado Ltd 1999 Services & Retail: General Services & Retail 123.5
Xchanging Ltd 1998 Services & Retail: Business Support Services 117.5
Drive Assist UK Ltd 1992 Services & Retail: Business Support Services 92.0
Leaseway Vehicle Rental Ltd
2002 Services & Retail: Business Support Services 91.5
Oxagen Ltd 1996 Healthcare & Life Sciences: Pharmaceuticals & Drug Development
80.8*
IX Europe Plc 1999 Information Technology: IT Services 74.7
Chelsea Stores Hold-ings Ltd
1995 Services & Retail: General Services & Retail 64.8*
RedSky IT (Ramesys Holdings Ltd)
1998 Information Technology: IT Software 63.8*
GlobeOp Financial Services Ltd
1999 Services & Retail: Business Support Services 63.4
Agilisys Professional Services Ltd
1998 Information Technology: IT Services 60.0*
Just Retirement Ltd 2004 Services & Retail: Business Support Services 60.0
Link Capital Holdings SA (Link Financial Ltd)
1998 Services & Retail: Business Support Services 60.0*
Specialised Petroleum Services Group Ltd
2000 Chemicals & Materials: Advanced Materials 60.0*
Magex Holdings Ltd 2000 Services & Retail: Business Support Services 51.7*
Inpharmatica Ltd 1997 Healthcare & Life Sciences: Pharmaceuticals & Drug Development
49.4
*Indicates additional undisclosed funding was raised
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ments in the expectation of a major payout. The presence of IT services and business sup-port services in the highest in-vestment category is, however, somewhat surprising as many IT services or business support services companies can be revenue-generating and cash positive from an early stage.
This can be explained, to a cer-tain extent, by a small number of companies in these sub-sectors with very high initial capital requirements. Transac-tion processing companies in IT services such as Xchanging and IX Europe require large capital investment to set up the necessary data centres be-fore revenue can be generated. In the business support servic-es sub-sector, Drive Assist and Leaseway Vehicle Rental both manage large fleets of vehi-cles which required significant capital investment.
The list of the most capital-ised companies highlights this trend of uneven distribution of capital by sub-sectors. Of the top 15 companies, 11 come from one of: business support services, IT services and phar-maceuticals & drug develop-ment sub-sectors.
Interestingly, the lowest average investment category contains all of the sub-sectors of life sciences not related to drug discovery, highlighting the large variations in funding requirements of companies operating in the life sciences sector.
Target MarketDefining a specific target market and route to market is usually an essential pre-requi-site of gaining venture capital investment. Library House has identified the key indus-try sectors targeted by the
venture-backed portfolio. This classification of target industry operates in addition to, and independently from, the sector in which the company itself is classified. The ability to classify not only the sector in which a company is operating but also the industry which the compa-ny targets helps to simplify the classification system while cap-turing a high level of granular-ity. For instance, under a single activity classification system a company developing software for the financial services sector would typically be classified under software in a category reflecting the financial nature of the product. Eventually this leads to the classification system requiring sub-catego-ries for all purposes to which software can be put. A system of this sort will need constant modification to remain up to date and will become exceed-ingly large. Under the Library House dual classification system the company would be classified under software while the target industry would be classified as financial services. In addition, through PCI Online
there is the ability to search by customer type, such as Large Enterprise, Public Sector and Consumer, as well as by target industry sector.
Many of the observed cross-matches between the sector of the companies and the industry sector they target are unsurprising. For example, healthcare is the most targeted industry by the UK venture portfolio with almost 23% of companies targeting the healthcare sector, over 70% of these are developing technol-ogy in the healthcare & life sciences sector themselves. A high proportion of healthcare companies serving the health-care industry is to be expected. However, it is more interest-ing to note some of the other sectors which are targeting the healthcare industry, the next most common sector, IT, includes a number of com-panies developing software for the pharmaceuticals and biotechnology industry such as BlueGnome and BioWisdom — both companies are de-veloping data mining tech-
Table 8Target Markets for Venture-Backed Companies
Industry Served Companies % Companies
Healthcare 334 23%
Consumer Services 252 18%
Industrials 244 17%
Financials 150 10%
Consumer Goods 145 10%
Technology 145 10%
Telecommunications 118 8%
Basic Materials 63 4%
Oil & Gas 45 3%
Utilities 43 3%
Total* 1,539 107%
*Greater than 100%: companies may target more than one industry
14
nologies to be used during the drug discovery process. In addition, there are a number of companies developing IT solutions to improve the deliv-ery of healthcare to patients such as electronic patient records, data security solu-tions and mobile monitoring devices. The success or failure of these companies may well depend on large contracts with the consultancies imple-menting the NHS ‘Connecting for Health’ IT infrastructure programme (previously called NPfIT). This can present a high risk to the company, as discov-ered by iSoft, a previously ven-ture-backed company which exited in 2000 via an IPO. In 2005, iSoft failed to secure an expected ongoing contract with the NHS causing a large drop in share price. Investors in venture-backed companies
targeting the healthcare sector will be painfully aware of the additional risk incurred by hav-ing a single major customer.
In contrast to the healthcare industry, where companies de-veloping healthcare technolo-gies almost exclusively target the healthcare industry sector, there are a number of sectors where companies develop-ing technology have a broad focus across a range of target industries. For instance, as expected, the IT and services & retail sectors, encompassing software and hardware de-velopers and general business support services companies respectively have a wide range of target industry sectors. The chemicals, materials and indus-trials company sectors show a strong degree of correlation as both mainly target the basic
materials, consumer goods, healthcare and industrials industries. The energy com-pany sector does not show up at all as, for clarity, the chart only shows those areas where at least ten companies are op-erating and the energy sector has only 26 companies which are fairly well dispersed across a range of sectors including, as would be expected, the oil & gas and utilities industries.
Discussing the whole range of industries which companies are targeting is beyond the scope of this report. How-ever, we now present sector overviews highlighting leading trends in three key target mar-kets which have and continue to generate significant inter-est amongst investors: retail, cleantech and Web 2.0.
Basic
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Figure 5Number of Companies Serving Target Sectors by Company Sector
Note: Categories with less than 10 companies have been omitted.
15
Library House Products & Services
Research & ConsultingWe have completed confidential projects for a large number of privateequity and venture capital firms, technology corporations and publicsector organisations, focussing on technology, innovation and resourceallocation.
We also publish high-profile sponsored publications in association with our clients, including:
Trends inUK Clean Technology
(April 2005)
Flight to Quality: TheCambridge Cluster Report
(October 2004)
BiotechnologyIPO Monitor(May 2004)
Creating Success fromUniversity Spinouts(November 2005)
Companies That Will Change the World by 2010
(June 2005)
Reality Check:Software M&A
(May 2005)
The Impact of theUniversity of Cambridge
on the UK Economyand Society (June 2006)
Warming to Cleantech(May 2006)
Beyond the Chasm: The Venture-Backed Report
UK - 2006(June 2006)
To find out how we can help your organisation, visit:
www.libraryhouse.net/ukvb
16
Retail Focus: A tale of two companies — Profiting from the shrinking middle market
The past decade has seen significant changes in the range of goods available in high-street stores. There’s been a drop in demand for ‘middle-of–the-road’ products. It seems that, in many product categories, consumers are willing to spend more on items of particularly high quality or on basic goods at low prices, but not on those goods in between.
This issue has been investigated in a recent article by McKinsey & Co., titled ‘The vanishing middle market’. It studied 25 industries and product categories in North America, Europe, and on a glo-bal level, and found that between 1999 and 2004, revenues for middle tier products and services grew at a rate 5.7% slower than the market average. In contrast, both ‘high quality’ and ‘no frills’ goods and services outgrew the market average by 8.7% and 4.2% respectively.
Companies are now being forced to choose between targeting the basic or premium markets and middle-market retailers are having to adapt or lose market share. As such, new companies are appearing which tackle entry to these markets in inventive ways. Here we look at two venture-backed retail companies at different ends of the spending spectrum.
The Value Sector – 99p Stores
The discount retail market is expanding rapidly, and to a certain extent it is becoming dominated by those with the purchasing power to keep prices really low; supermarket giants like Asda and Tesco being prime examples. Indeed, many previously successful discount retailers are beginning to feel the heat. Take for example Poundstretcher; price cutting in an attempt to maintain market dominance resulted in profits of £26m in 2000 falling to losses of £10m by 2003.
A young venture-backed com-pany has found success in the value area though. Founded in August 2000, 99p Stores operates a chain of retail outlets where every item in store costs 99p or less. It has been growing rapidly since 2002, with a revenue CAGR of 108% taking revenues up to an estimated £70m in 2006, and profitability reported in 2005. Commercial director Steve Winetroube puts the company’s ability to compete in the value markets down to its fixed-price strategy: “Fixed-price retailing is different; it presents a simple and clear proposition. Even before you walk in the door, you know everything will be less than a pound.”
99p Stores sees its main competition coming from Poundland, which has been in the fixed-price retail space for over 15 years. However, it seems that, for the moment at least, the market is growing sufficiently quickly for the two to live side-by-side; 24 of 99p Stores’ 47 outlets are locat-ed in the same town as a Poundland. On the increasing demand for value goods, Mr Winetroube commented: “Barriers that once existed are being eroded. The quality of supply out of the Far East has increased dramatically and the stigma previously associated with the value end has been lifted. In fact, our more successful stores are in some of the UK’s most upmarket locations.”
Margins are notoriously tight in the value markets, and 99p Stores admits that this is made par-ticularly hard when each item they sell brings in less than a pound. However, it says that by being careful when selecting manufacturers, and by finding the right store locations at the right prices, it can make respectable margins.
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Figure 699p Stores Revenue and Profit
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The potential of the fixed-price discount market was noticed by Barclays Ventures, which has invested a total of £3.5m into 99p Stores since 2004 in return for a 25% stake in the company. The most recent round concluded in December 2005, and comprised a £2m equity investment by existing shareholders, including Barclays Ventures, and a £6m debt facility from Lloyds TSB. This capital will be used to open 45 new stores by 2008.
With regard to the future of the fixed-price space, Mr Winetroube speculated that, with barriers to entry being minimal and many independent fixed-price retailers materialising, other chains may soon emerge and the importance of branding would increase as new entrants attempted to take market share from the incumbents.
The Premium Market - Ocado
Ocado promotes an altruistic mission on its website: “In an ever busier world, we want our customers to spend their time on more pleasurable things, while we do the hard work.” Operat-ing as a purely online supermarket, it works in partnership with Waitrose to deliver high quality food, drink, toiletries and household goods to consumers’ homes in convenient, hourly timeslots. Founded in 1999 by three ex-Goldman Sachs bankers, it seems to be targeting consumers for whom cash is less restricted than their time.
The concept seems to make sense; people with hectic work schedules need to shop and would like high quality products, but don’t have time to trawl the supermarkets. The idea has drawn the support of a number of institutional and individual investors. In fact, it has raised more capital than any other company in the UKVB set. UBS Capital Corporation, Goldman Sachs and the John Lewis Partnership have invested £83.5m between them. This was supplemented by two £15m investments made by Jorn Rausing (heir to the Tetra Pak fortune) and Nick Roditi, who came to prominence during the late 90s as a manager of George Soros’ highly successful Quantum funds.
The company’s revenues are rocketing, with sales of £200m reported for 2005 and a CAGR of 190% since 2002. However at the same time, Ocado has been consistently recording losses of close to £40m per annum, although its operating profit for 2005 is not yet released, the company confirmed that it ex-pected to be around breakeven for the year.
In view of these financials, you’d be forgiven for thinking that Ocado had been spending heavily on marketing. However, the company actually relies heavily on word of mouth and reputa-tion, with radio and delivery vans being its primary media for any advertisements. It believes that reliability and quality of service are vital to achieving success in the online retail market. Which? magazine conducted an online-groceries consumer survey towards the end of 2004. Just 35% of Ocado users had received substitute items in orders, a problem which shoppers with main com-petitors Tesco and Sainsbury’s online services suffered twice as often.
Ocado will surely want to avoid any comparisons with Webvan, a US company that pioneered online grocery shopping during the tech-boom. Webvan famously went bankrupt in 2001 taking almost $1 billion of investors capital with it. The importance Ocado places on reliability, customer satisfaction and high-quality goods may be sufficient to ensure a strong position in the demand-ing premium market.
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Figure 7Ocado Revenue and Profit
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Cleantech Focus: Limited competition leads to a strong demand for equity
Interest in cleantech investment in the venture capital industry has seen significant growth in recent years. Several large global venture firms have announced that they expect to increase the investment focus on cleantech. In the US, Kleiner Perkins has become closely associated with cleantech following both the announcement of an upcoming ‘greentech’ fund and the decision of Vinod Khosla to start his own venture firm with a focus on clean technologies. In Europe too, the sector has generated interest, particularly in the light of recent exits which have generated significant returns to their investors. Apax Partners, for example, recently announced that it had generated a 27-fold return on its investment into German solar cell company Q-Cells.
The realisation by investors of the tremendous opportunities for successful cleantech companies has led to an increased demand for equity in cleantech companies. In addition, macroeconomic trends seem to indicate the growth of the sector is almost assured. A combination of forces, from improvements in engineering to high oil prices and increas-ing costs of pollution and energy, are driving rapid growth in clean technologies across the developed and developing world. What many of these technologies have in common, however, is the requirement of several million pounds of funding to achieve their market potential.
Table 9Example Venture-backed Cleantech Companies
Company Product/Service Revenue(£m)
TotalCapital(£m)
Investors
BizzEnergy Group
Internet-Based Elec-tricity Provider
109 10.5 Atlas Venture
Casella Group Environmental Measurement and Monitoring
38 17 Baring Private Equity Partners; Bank Austria Creditanstalt In-ternational AG; Advent Venture Partners; West Midlands Enter-prise; Quester Capital Manage-ment; Advent International; Sagitta Private Equity
Climate Change Holdings
Specialist Merchant Bank
2 6 MSM Capital Partners; RMF Investment Management; Och-Ziff Management Group
Just Recycling Group
Recycling Commercial and Industrial Waste
4 1.6 The Recycling Fund; Tim Shap-cott
Keronite Environmentally Friendly Treatment of Alloys
0.9 6 CLS Capital Partners; Jupiter International; Orchard Lake; Shousen Corp; Mirenwest; Flinstone Technologies
Solar Century Holdings
Solar Heating and Photovoltaic Devices
6 12.5 Unotec Holding AG; Scottish and Southern Energy; Vantage Point Venture Partners
Specialised Pe-troleum Services
Enviromental Compli-ance for Oil Drilling
30 60 Bank of Scotland; 3i; AFOS International
The CarbonNeu-tral Company
Strategic consultancy for Businesses
2.4 3.35 Greenenergy i3; Zouk Ventures; Triodos Venture Capital Fund
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A consensus of what exactly constitutes clean technology may not have been reached yet as the range of technologies involved can be quite broad and the degree to which environmental impact is central to any technology vary. At Library House we focus on the energy supply chain as the core of clean technology. Within the energy supply chain we further subdivide companies into those working upstream, energy generation, infrastruc-ture and energy consumption. In all, 74 companies within the UK venture-backed portfo-lio can be grouped under the broad umbrella of ‘cleantech’ by this definition.
The underlying technologies used by these companies are disparate in nature, ranging from supplying renewable energy (e.g. Ocean Power Delivery and HydroVenturi), improv-ing energy storage efficiencies (e.g. Atraverda and Oxis Energy), improving consump-tion efficiencies (e.g. ZBD Displays), to reducing pollution (e.g. Just Recycling Group and Inetec). The diversity of companies means that within each sub-sector only a handful of companies have attracted institutional investment.
The sector is still young; more than half of these cleantech companies were incorporated within the last five years compared with only a third of the portfolio as a whole, even though a combination of forces, notably increasing costs of pollution and energy, has been driving demand for cleantech solutions far longer. Partly this will have been driven by the recent spikes in oil prices which will have brought home to many the costs which will be incurred in the future unless alternative sources of energy are found. However, the lack of sustained track record for companies in the sector will still cause some caution amongst investors. David Sneddon, director of energy-related technology at Scottish Eq-uity Partners (SEP), has recently referred to energy as the new biotech, seeing similarities in the long lead times, a highly regulated industry, and the need for significant funding (i.e. tens of millions) for new technologies. As a result, similar uncertainties and risks sur-round new companies entering the space.
When asked to describe how SEP handled these risks, he replied: ‘We don’t believe the technology itself is the main risk. The main risk is in the pace of market development, meaning that the user adoption rate is unknown. Also, the companies have to take on new business models, trying to figure out how the value chains will unfold, and therefore how VCs will generate returns on their investments.’
The success of recent cleantech exits and a continuing exit market, Library House has tracked 15 clean technology IPOs in 2005 alone, will certainly help to make the sec-tor more attractive to investors. However, building solely for the potential exit has been behind many spectacular failures in the past. Mr Sneddon continues: ‘The first priority for SEP however is not structuring a business around a potential exit. The first priority is rather to build a strong, profitable, and viable business. SEP often considers whether trade sale might be appropriate rather than IPO, as the latter is dependent on market fashions and sentiment. In five years the space will mature, and there will be far more professional management teams and professional VC attention, including more specialist funds. As a result, cleantech companies will eventually move to the mainstream and demonstrate suc-cess.’
For more information, readers may be interested in the recent Library House publication Warming to Cleantech: Financing Clean Technology Companies with Public and Private Equity, available from our website.
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Software Focus: Web 2.0, Where’s The Value?
What is Web 2.0? The question has vexed companies and investors alike since the term appeared as the title of a 2004 conference on the future of the internet. Definitions of what constitutes Web 2.0 are notoriously sketchy and often have the feel of Justice Potter Stewart’s oft quoted definition of obscenity: ‘I know it when I see it’.
Ben Holmes, Principal at Index Ventures, explains his view: ‘I think of Web 2.0 as contain-ing two key aspects; firstly applications where user-generated content is a core compo-nent and secondly companies using new web development technologies such as AJAX. In general a website which acts like an application on your desktop.’ Focus on user content and new web technologies are usually at the centre of most definitions of Web 2.0. The exact definition will vary depending on who is asked, but one thing is for certain: Web 2.0 has restored VC interest in the internet.
After the dot-com bubble burst, many people were quick to say that the web was over-hyped, which may have been true, but in many respects the reaction to the bust was also over-hyped. It has since become clear that many businesses were simply using the wrong model to make money (or not) from the web. Web 2.0 proponents claim that there is now a more successful model using the internet’s natural strengths; sharing, interactivity and giving things away for free.
Being part of Web 2.0 involves giving individuals the tools, space and structure to not only put their lives on the web, but to link to them easily, thus making them ‘part of the con-versation’ in an online community. One of the biggest exits in the Web 2.0 area thus far was Rupert Murdoch’s $580m acquisition of Myspace, which does little more than facili-tate such sharing. Many successful companies are using this model: Flickr shares photos; del.icio.us shares bookmarks, Six Apart shares business blogs, LinkedIn shares contacts, the list goes on. Something else people seem to like to share is their opinion, and sites which use their online community to decide what’s hot are becoming increasingly popu-lar. For example, Last.fm, which collates consumer views on music and uses this informa-tion to provide a music-matching service, received backing from Index Ventures amongst others in May 2006. So it is becoming clear that in many circumstances people value the opinion of the masses over the opinion of an editor. Another good example of this is ‘tag-ging’, which allows users to assign relevant words or phrases to particular URLs. This not only allows them to sort their own bookmarks, but means that others searching for the same material may find it more intuitively. Thus, subject areas that may not have fitted into a preset taxonomy are given tags based on what the public agrees is useful. In 2005, Yahoo! bought two of the major tagging sites: Del.icio.us and Flickr.
Probably the most remarkable thing that Web 2.0 companies have in common is that nearly every service provided is given away for free. Even registration is not usually re-quired, although it may bring additional free benefits. The strategy, sometimes called ‘freemium’, is to give users the majority of a service for free, and then charge for premium applications. Once users are hooked onto a site, they’ll pay for additional stuff; unless a competing site is doing it for free, of course.
The development of AJAX means Web 2.0 could soon be extended to applications similar to Word, Excel and PowerPoint. When companies begin to produce free web-based ap-plications to rival Word, Excel and PowerPoint, Microsoft could well be in trouble. In fact, it should already be pretty worried; in March 2006, Google acquired Upstartle, a Silicon Valley start-up with a web based word-processor named Writely and has also launched a spreadsheet program, which, whilst not directly aimed at replacing Excel, may gain momentum with users for one of the key upgrades expected in the next version of the program: online collaboration on spreadsheets. This activity has fuelled speculation over
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a forthcoming Google Web Office suite, but Google has maintained its usual stony silence about future plans in this area. As with all things Google, the volume of speculation over future activity is intense and can make it hard to discern what any future activity may be.
So should we be expecting bubble 2.0? While many VCs are once again getting excited by internet start-ups, it is doubtful that the get-rich-quick stories of the 90s will be repeated. This time around, exits are most likely to come via trade sale to the likes of Google, Ya-hoo!, Newscorp or eBay, rather than through IPO to over-excited investors on the public markets. However, a succession of high-profile deals may fuel public market appetite, and there have already been a few. Ben Holmes says: ‘What’s happening again, like in the first tech bubble, is companies are getting acquired at very early stages; you hear of some big acquisitions but behind that, the main acquirers in this area, Google, Newscorp, MSN, Yahoo and so on are making acquisitions nearly every day at around the $1m or below. These sort of valuations don’t really work for VCs, like Index. We need to invest in compa-nies which can become business in their own right. Some of these companies are a single function rather then a whole business, and the company acts like one long job interview for Google, because if it is a successful function, Google acquires the company, not just for the product but for the brains behind it. The price is more like a sign-on bonus. VCs can’t make money in deals like that.’
The biggest Web 2.0 exit to date was eBay’s acquisition of Skype, another Index portfolio company, for £1.4bn, or possibly more depending on performance, in September 2005. One of the fastest exits must surely be Union Square’s investment into Del.icio.us, which was rewarded with an estimated ten-fold return just eight months later, when it was ac-quired by Yahoo! in December 2005. Valuations of Web 2.0 companies have varied wildly as investors and acquirers have wrestled with valuing companies with large user com-munities but only limited revenue. Index has used similar measures of valuations to more conventional software companies, says Holmes. ‘These companies usually need around £0.5m to develop the product and perhaps another £2-3m to market it. We typically like to hold a significant minority stake by that time, say around 30%. We use those figures as a baseline to measure their valuation at each stage; it’s not too different to anything else. This can obviously get complicated by companies with very large communities which they have yet to generate revenue from, but in principle we try to use similar measures to those which work for other companies.’
In any case, investors will be looking for companies that not only tick all the usual boxes in terms of experienced management team, market need, good business idea, sound technology and understanding of the financing needs of the company, but that also meet Web 2.0 metrics for success, such as ‘stickiness’, a term used to describe the return rate of site visitors. One way of creating stickiness is to allow users to create their own proprietary databases, which are hard to transfer to competing sites. Loyalty can also be obtained by giving consumers the feeling that they are part of something important; a movement that their peers are driving. The aforementioned Web 2.0 community is an example of this. Community size is also a very useful measure of the growth of a company (especially if revenues aren’t available). VCs will no doubt have differing theories about what makes a good Web 2.0 start-up. Mr Holmes notes: ‘At Index, we only invest in com-panies with real, sustainable business models. There are too many companies out there who are just building features. We avoid these companies as they will either go nowhere or be acquired very early for a small amount. Neither of these outcomes work for us. For companies we do put money into, we have to believe in the long-term business model, as any sensible VC would in any sector.’
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What Stage Have the Companies Reached?
Investment TimeframeVenture capital investments are made into companies with the expectation of a period of significant growth followed by an exit. The typical expected timeframe for an investment of this type is usually somewhere between four to seven years, although there are occasions when a much quicker exit is achieved. Recent rapid exits include the eight months between initial institutional investment into Del.icio.us and the subsequent acquisition by Yahoo!, as well as a number of other so-called Web 2.0 companies which have been acquired at a relatively early
stage by larger IT companies quite soon after investment. But for the most part, venture capital investments take a number of years to mature.
Since 2004, the exits for VC investments, through both acquisitions and public offer-ings, have picked up dramati-cally, following a period during 2002-03 when very few signifi-cant exits occurred. This has allowed investors an opportu-nity to exit many of their more mature investments. Following on from this, many investment companies are now looking to raise new funds on the back of recent high-profile exits.
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Figure 8Venture-Backed Companies by Sector and Year of Incorporation
The average time since in-vestment for the current UK venture portfolio indicates that there remains a significant number of companies which will be expecting to exit in the coming years. The average age of the companies in the current UK venture portfolio is 6.7 years. This figure includes a number of outliers such as Aberdeen Football club which was incorporated in 1903. Excluding the oldest 5% of companies from the calcula-tion, the average age of the UK venture portfolio is 5.8 years, which would place the aver-age venture-backed company formation in July 2000.
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However, this figure may be slightly misleading of the overall venture capital market as it under-represents those companies formed recently, which have not yet raised ven-ture funding but will go on to do so in the future. A more representative measure may be the average time of the first round of institutional investment for the companies which have received venture capital funding. For the current venture-backed portfolio, this figure is four years, placing the average of the first in-stitutional deal into current venture-backed companies as March 2002.
Only 16% of the companies currently in the UK venture portfolio had received insti-tutional funding prior to the peak of the bubble in March 2000 and only 9% of the cur-rently committed institutional capital was invested prior to this point.
In light of the current UK ven-ture portfolio, it appears that the overhang from the high levels of deal activity during the bubble has now passed and that there is now far more
capital invested into these companies post-boom than during it. The drop in funding in 2002 following the boom can be seen clearly in the reduced number of companies which received their first insti-tutional rounds in 2002. The chart of the number of companies receiving their first round each year strongly resembles the overall invest-ment of institutional capital into venture-backed compa-nies. When we compare this data of the current portfolio with historical data on the absolute levels of investment,
we find that although the majority of pre-bubble invest-ments have now exited, the current distribution of capital still represents a challenge for investors. The £4bn of capital which remains from the total invested between 2001 and 2005 needs to have a current net asset value of £6bn in order to maintain a fairly mod-est, by venture capital stand-ards, gross IRR of just 10% on the money remaining invested.
OriginsOf the 1,437 currently venture-backed companies in the UK, 19% are spin-outs or start-ups of a UK university and an-other 5% are spin-outs from a corporation or other non-uni-versity origin. The 275 univer-sity-originated companies have raised a total of £1.1 billion in capital, £981m of which was provided in institutional deals.
In total, 47 different UK univer-sities have been responsible for the origination of one or more of the UK venture-backed companies. The five most ac-tive universities (Cambridge, Imperial, Oxford, Edinburgh, and Bristol) were responsible for the existence of 44% of all
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Figure 9Venture-Backed Companies by First Institutional Deal
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Figure 10Institutional Capital Invested by Year
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university-originated venture-backed companies. There are, however, some distinct differ-ences between the companies originating from universities in the UK and those which result from other sources.
From the levels of institutional funding raised by companies according to their origin, it is clear that university-originated companies resemble inde-pendent start-ups much more closely than they resemble corporate spin-outs. This is to be expected since corporate spin-outs tend to be fully op-erational, revenue generating entities when spun-out and usually require the investment both to buy out the existing owners and provide capital for growth. This is unlike com-panies formed from universi-ties, which are generally very early stage without developed products or revenue. Technol-ogy transfer offices in univer-sities are actively seeking to attract capital to support these companies, and in many cases invest themselves or through university affiliated funds.
Some of the observed trend to smaller deals in university-originated companies is a result of a much earlier start of institutional funding for these companies. Independent start-ups may spend considerably longer using private sources
of funding (such as founders, their families and friends) be-fore raising institutional capi-tal. There have been a number of debates in recent years as to whether raising institutional equity finance at such an early stage is the most suitable path for university-originated com-panies, particularly those with long lead times to marketable products, such as in the bio-technology or semiconductor industries.
To some extent, the first institutional funding starts a countdown and forces the company to aim continually for a future exit event, potentially resulting in short-term deci-sions which may not benefit the company in the long run.
Universities remain an impor-tant source of innovative tech-nology companies. In recent years, many universities have attempted to improve proc-esses for identifying potential spin-outs within the university and also assist in the formation of start-ups associated with the university to ensure these companies have the highest chances of success. A wide range of strategies have been adopted to encourage the growth and success of univer-sity spin-outs and start-ups. The success of these measures, as well as the opinion of inves-tors on their worth, has been reviewed by Library House in a report prepared for the BVCA (BVCA/Library House, Creating Success from University Spin-outs, November 2005).
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Figure 11Distribution of Investment by Origin
Company Type Companies InstitutionalInvestment(£m)
AverageInvestment (£m)
Median Investment (£m)
University-Originated 275 (19.1%) 981.2 (16.5%) 3.6 0.5
Independent Start-ups 1,095 (76.2%) 4,497.9 (75.6%) 4.1 1.4
Corporate Spin-outs 67 (4.7%) 471.0 (7.9%) 7.0 3.0
All Companies 1,437 (100.0%) 5,950.0 (100.0%) 4.1 1.3
Table 10Venture-Backed Companies and Investment by Origin
25
Company Origins — Imperial College Case Study
London’s Imperial College has been consistently ranked in the top three UK universities with regard to teaching and research, with over 90% of the assessed departments gaining a 5 or 5* rating in the latest RAE ratings. Despite having fewer students, it comes a close second to Cam-bridge in terms of the number of spin-out companies formed, with 32 active venture-backed companies compared with 36 for Cambridge. This high level of spin-outs could be due to the fact that Imperial focusses purely on disciplines with obvious commercial applications, namely science, technology and medicine.
In 1988, Imperial Innovations was established to help the college commercialise inventions and assist in setting up new spin-out companies. It uses a business model that covers the entire proc-ess of early stage technology commercialisation, from identifying ideas to incubating and invest-ing in spin-out companies, this approach is arguably more complete than those used by many technology transfer offices. Susan Searle, chief executive of Imperial Innovations, sees Imperial’s past successes as a source of inspiration for future spin-outs. ‘Seeing academic staff succeeding in business without having to compromise their academic career is the biggest motivator for the young scientists and technologists to create companies of their own. I think this is why Imperial College has produced a disproportionate amount of good spin-out companies.’
Ms Searle has seen high levels of interest from VCs in Imperial spin-outs but is keen to point out that only some companies are suitable for investment. ‘There has definitely been an increase in interest in spin-outs recently. However, the term spin-out is too broadly used; not all spin-outs are appropriate for VC backing. It is important that we develop those which are ready for investment.’
Among venture-backed companies, Oxford and Cambridge spin-outs have received, on average, more than twice the amount of funding of Imperial spin-outs. However, the average annual revenue generated by Impe-rial spin-outs is higher.
In 2005, Imperial Innovations underwent significant restruc-turing with the goal of be-coming a more returns driven, focussed organisation. After a private share placement, 29% of the company became owned by external investors. According to Imperial Innovations, external responsibility has upped the pace of deals and increased their technology pipeline. Ms Searle commented: ‘This has made a huge change to the way we operate. It has brought funding into the company and enabled us to accelerate. It has allowed us to make investments and also encourage co-investment by showing that we’re dedicated to our companies. Our structure is the same as that of any other company, and our backers want to see a return on their investment.’ At the time of its private placement, Imperial Innovations stated that it intended to provide an exit for its investors by floating within three years.
More recently, in April 2006, Imperial Innovations also launched the Imperial Incubator, which will provide laboratory and office space for around 8-12 companies and was funded by Imperial Col-lege along with the London Development Agency. On this subject, Ms. Searle commented ‘We’re very excited by the opening of the Incubator, and are confident that it will fill up very quickly. Incubation is a large part of what we do in terms of developing solid businesses through our well established network of experience. It’s nice that we’re now able to physically incubate some of our companies and have a central point to work from.’
University of Cambridge
Imperial Innovations
Oxford University
University of Edinburgh University of Bristol
All University Spin-Outs
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Figure 12University-Originated Companies Average Revenues and Investment
26
Development Stage The development stage of the venture-backed companies, as indicated by the current status of their most advanced product, shows that, on the whole, the UK venture port-folio is at an advanced stage. 19% of the companies are at the earliest stages of product development, with either an untested product concept or a product undergoing internal development. 4% have a prod-uct currently undergoing either clinical trials or beta testing trials with external customers. The remaining 77% have at least one developed product which is currently on sale to customers and generating revenue. These companies are significantly more advanced then the typical early stage venture capital investment where companies rarely have products actively on sale and are usually pre-revenue.This finding may highlight a significant preference of UK
venture capital investors for later stage investments of ven-ture or growth capital rather than early stage investment.
Investment StageThe relatively late develop-ment stage of the products of the majority of companies compared with the expec-
tation for a typical venture portfolio tallies to a certain extent with the fact that the majority of companies (60%) have received only one insti-tutional funding round. This does not correspond to the ‘typical’ venture capital invest-ment model, where successful companies receive increasing
47%
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6%
3%
Healthcare & Life Sciences
Energy
Chemicals & Materials
Industrial
Information Technology
Communications
Services & Retail
Overall
Concept Product Development Product Trials Shipping Product
Figure 13Companies by Stage of Product Development
Table 11Average Institutional Round Size by Sector (£m)
Note: Average deal sizes not determined for categories with fewer than ten deals
1st 2nd 3rd 4th+ Avg.
Chemicals & Materials 1.5 0.8 - - 1.4
Communications 2.5 3.3 3.7 2.3 2.8
Energy 4.3 - - - 4.9
Healthcare & Life Sciences 1.4 2.6 4.6 3.1 2.2
Industrial 0.9 1.1 2.9 - 1.2
Information Technology 1.9 2.9 3.0 3.3 2.4
Services & Retail 3.3 3.8 4.1 2.2 3.4
Round Average 2.1 2.9 3.6 3.0 2.5
27
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Figure 14Investment Stage by Year of First Institutional Deal
capital allocation in fairly regu-lar rounds.
The average Institutional round size table shows that over-all there is a slight increase in deal size as the funding stage increases. First institu-tional rounds have an average disclosed deal value of £2.1m across all sectors which rises to £3.6m for third-round deals before dropping off for later deals. The actual deal sizes vary widely across the sectors, but the majority of sectors with sufficient deals show the typical venture investment pat-tern of two rounds of increas-ing size until the third round.
In addition, the breakdown of the current funding stage according to the year of first institutional round shows that even for those companies which received their first insti-tutional round in 2000, almost half have yet to receive further funding. This may, in part, be a reflection of the tendency of UK venture investors to make later stage investments. It is likely that many of the com-panies in this set which have yet to receive a second round of investment may not require
one as they were late stage investment in the first place and are now cash generating. This is a further indication of the move of many UK venture investors away from early stage investments and into growth and expansion stage investments.
Revenue and ProfitabilitySeveral pieces of evidence regarding the venture-backed portfolio point to a large degree of late stage expansion or growth capital deals into established companies rather than early stage venture. If
indeed the UK venture capital market is composed of a large amount of later stage growth capital investments this should be reflected in the financials of the companies in the portfolio.
The UK has relatively high lev-els of reporting requirements for small private companies compared with much of the rest of the world. This provides a large amount of audited data regarding these companies. However, there are certain caveats to using this data, as not all companies are required to provide detailed accounts.
Table 12Company Revenue and Profit by Sector
Sector Companies Reporting
Total Revenue (£m) Profit (£m)
% Companies Reporting
Services & Retail 161 2,462.8 12.5 51%
Information Technology 240 1,071.6 -149.7 49%
Communications 86 664.4 -58.7 45%
Healthcare & Life Sciences 129 296.4 -160.9 49%
Industrial 42 169.1 -20.0 42%
Energy 16 125.9 -9.8 62%
Chemicals & Materials 28 62.2 -10.4 48%
Total 702 4,852.3 -397.0 49%
28
Smaller companies are only required to provide abbrevi-ated accounts which do not include revenue or profitability figures. Recent changes to the rules governing reporting have raised the levels at which com-panies are required to report full financial figures and have increased the number of com-panies reporting only abbrevi-ated figures. As many venture-backed companies are either too recently incorporated to have filed accounts or qualify for abbreviated reporting, the number of companies not providing audited financials is 735, 51% of the total portfolio.
The data included in this report relates solely to the financial figures for the au-dited accounts submitted by the companies in the portfo-lio. The PCI Online database holds information on not only audited financial figures, but also company estimates. Dur-ing profiling, Library House
asks for information related to current revenue and profit-ability estimates and future forecasts where this is known and disclosed by the manage-ment, and this information is provided in addition to audited accounts for users of our online service. However, it is unaudited and may not be entirely accurate, and as a result is not included in this aggregate analysis. Since more than half of the companies in the portfolio do not provide audited revenue or profitability figures, as they are eligible to submit abbreviated accounts, the reported rev-enue figures for the portfolio as a whole will underestimate the actual figures. The companies in the UK ven-ture-backed portfolio reported total revenues of £4.85bn in their last reported year with 10% of companies reporting revenue of £5m or more. For
comparison, the Library House PCI Online revenue figures, including unaudited values given by the management, is £5.2bn indicating that there may be an additional eight per cent revenue generated by these companies which goes unreported.
In terms of revenue distribu-tion by sector, services & retail clearly leads, with 20% of the companies reporting in the highest revenue bracket. This is reflected in the table of lead-ing companies by reported revenue. Ten out of the top 15 companies by revenue are operating in the services and retail sector, almost evenly split between the general services & retail and business support services sub-sectors.
49%
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Services & Retail
Communications
Information Technology
Energy
Industrial
Chemicals & Materials
Healthcare & Life Sciences
Overall
Not Reported Up to £1m £1-£5m More than £5m
49%
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3%
Services & Retail
Communications
Information Technology
Energy
Industrial
Chemicals & Materials
Healthcare & Life Sciences
Overall
Not Reported Up to £1m £1-£5m More than £5m
Figure 14Companies by Latest Reported Revenue
29
Employee NumbersRevenue and profitability fig-ures taken from the manage-ment teams during a phone interview may not be fully accurate as the management may simply not know the fig-ures at the time or may report approximate values. However, Library House also asks for the number of employees, a figure which is usually more acurate when gathered directly from the management rather then the financial statements, which by their nature may be a year or more out of date.
The venture-backed portfolio currently employs over 66,000 people, 42% of whom work in services & retail companies.
This is equivalent to an aver-age of almost 90 employees per company in the services
& retail sector compared with 45 in the next highest sector, communications.
Table 13Top 15 Companies by Latest Reported Revenue
*Indicates additional undisclosed funding was raised
Table 14Number of Companies by Number of Employees
Sector Total Number of Employees
Average Number of Employees per Company
Services & Retail 28,037 89.3
Communications 8,565 45.1
Information Technology 19,164 39.4
Industrial 3,252 32.8
Healthcare & Life Sciences 5,716 21.7
Energy 529 20.3
Chemicals & Materials 795 13.7
Total 66,058 46.0
Company Name Revenue (£m)
Profit (£m)
Total Capital (£m)
Sector
AMP Enterprises Ltd 287.1 9.0 28.0 General Services & Retail
Loyalty Management UK Ltd 228.9 9.6 25.0 Business Support Services
Alan Dick & Company Ltd 178.1 5.6 17.5* Communication Hardware, Soft-ware & Systems
Alexander Mann Group Ltd 164.3 -3.3 25.0* Business Support Services
Healthcare at Home Ltd 160.1 3.6 0.0* Health Care Services
Corona Energy Holdings Ltd 154.2 1.2 0.0* Business Support Services
The Funding Corporation Ltd 118.7 4.2 25.0* General Services & Retail
BizzEnergy Group Ltd 109.4 2.0 10.5 Infrastructure
The Sporting Exchange Ltd (Betfair)
107.1 22.3 0.0* General Services & Retail
Gamma Telecom Holdings Ltd
100.0 1.0 23.0 Communication Services, Content & Media
Ebuyer Holdings Ltd 84.7 1.5 18.0* Consumer Goods
Ocado Ltd 84.7 -37.8 123.5 General Services & Retail
Azzurri Communications Ltd 81.7 7.4 0.0* IT Services
Empire World Trade Ltd 76.3 1.7 0.5* General Services & Retail
Drive Assist UK Ltd 72.3 12.3 92.0 Business Support Services
30
Exit PlansIn order to assess the likely upcoming exit activity, Library House surveyed a selection of the current UK venture-backed portfolio to identify their expected exit route and the horizon to exit. Responses were collected only from those companies which had a defined exit plan. Compa-nies with the fairly generic response of ‘either trade sale or IPO within 3-5 years’ were excluded. Overall, the response rate showed that only approxi-mately one in five companies had a defined exit plan they were willing to disclose. Of the 190 firms which were includ-ed, almost two-thirds expect-ed an exit through trade sale and almost one third expected an exit event to occur within the next two years.
However, despite the over-all dominance of trade sales as the expected exit route, those companies expecting to exit within the coming year showed a strong tendency towards IPO as the expected exit type. This may indicate the longer period of preparation required for IPO exits com-pared with trade sales and that
companies expecting to IPO within a year will already have had to make defined plans to that end. It may also reflect the fact that companies in ear-ly stages of M&A discussions for a trade sale may be unwill-ing to jeopardise the deal by disclosing any information to external sources even if only for use in aggregate figures. In addition, AIM has become a credible source of funding for growing companies in the UK and many companies are now thinking of an AIM listing as an alternative to further venture capital funding. This may have lowered the bar for
IPO exits to a certain extent as companies can float on AIM at an earlier stage than is pos-sible on the main market and still may be able to raise fur-ther capital through secondary offerings on AIM which was previously much harder.
Given that the average time since the first round of venture capital investment is four years for the current venture port-folio, it is not surprising to see the peak of exit expectation to be in three years’ time, placing the overall investment period at about seven years, the typi-cal expected venture capital investment period.
However, in addition to those companies which did provide information on their expected exit plans there are a large number of companies which either had no defined plans at the time or were unwilling to disclose their plans. For these companies it is occasionally possible to identify upcoming exits empirically regardless of the company’s willingness to disclose information.
As venture-backed compa-nies move towards an exit for their investors there are often a number of changes which
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Undisclosed
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Trade SaleIPO
Figure 16Expected Exit Date for Venture-Backed Companies
IPO37%
Trade Sale63%
Figure 15Most Likely Exit Route for Venture-Backed Companies
31
occur in order to prepare the company for the exit. This is most apparent in the case of an expected stock market listing, where in many cases significant changes are made prior to announcing a listing. The most obvious changes are often to the corporate struc-ture including the appoint-ment of more independent non-executive directors and a chief financial officer with prior experience working in listed companies.
Follwing an exit, the changes a company underwent to prepare are often easy to identify. Without the benefit of hindsight, however, identi-fying companies preparing for upcoming exits is challenging.In May 2004 Library House published the Biotechnology
IPO Monitor - UK (available from our website) in which we attempted to identify the most likely candidates to exit through a market listing from the biotechnology sector. From an intial long list of 28 private venture-backed companies we selected seven companies based upon detailed compari-son to recent exits at the time. These seven companies were predicted to be the most likely to have an exit event in the near future (a full description of our approach is given in the document).
This approach identified a set of companies which was quite distinct from the set which would have been achieved through either analysis of just the capital invested or the current development stage
or any other univariate analy-sis. Of the seven companies identified, four have subse-quently floated, two have been acquired and only one has remained unchanged. By comparison only three other biotechnology companies, not selected by us, which were venture-backed at the time have since floated.
Our conclusion is that identify-ing potential exit candidates can be achieved only through a detailed comparison of the companies’ financials and a comparison with recent benchmark companies which have exited. Library House is developing a scalable meth-odology to identify upcoming exit candidates. If you would like further details please con-tact us.
Table 15Predicted Biotechnology Exits and Actual Outcomes
Company Name Outcome
Allergy Therapeutics IPO on AIM in October 2004, raising £16m at a market cap of £46m, pro-viding investors with an estimated 2x return on investment.
Arakis Raised a further £29m in 2004 and was subsequently acquired by Sosei Co. Ltd in August 2005 for £106.5m, representing a greater than 2x total return on money invested.
Ardana Bioscience IPO on LSE in Q1 2005, raising approximately £21m at a market cap of £71m, outcome for investors is unclear
Microscience In June 2004, Microscience attempted to raise £40m on AIM, valuing the company at £120m to £140m. The company was subsequently acquired by US-based Emergent BioSolutions in June 2005 in an all share deal.
Oxxon Therapeutics No significant change
Strakan In July 2004, Strakan merger with French company Proskelia to form ProS-trakan. In Q4 2004, Warburg Pincus and other investors provided a further £22m, bringing the total for both companies to £130m. IPO on LSE in June 2005, raising £40m at a total market cap of £186m. Overall, we estimated that Warburg Pincus and other investors saw their initial investment re-turned.
Vectura IPO on AIM in June 2004, raising £20m at a market cap of £60m. Depend-ing on when investors sold shares in the company, a potential return of up to 4x on the investment.
32
Library House Products & Services
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33
Where Does the Money Come From?Overall, a total of £6.6bn of capital has been provided to the venture-backed companies in the UK. Over 90% of the total capital, just under £6 billion, has been invested in institutional deals, i.e. those involving at least one invest-ment company or public sector backed fund. Corporate investment deals, those led by a non-financial company, provided a further £268m
Who Is Backing Them?
Table 16Investment Deals by Investor Type and Sector
Amount Invested (£m) Institutional Corporate Private Grant or Award
Other Grand Total
Information Technology 2,022 103 33 7 59 2,224
Services & Retail 1,514 68 65 3 27 1,677
Healthcare & Life Sciences 1,029 25 15 38 29 1,137
Communications 902 53 9 1 11 975
Industrial 191 3 11 16 7 228
Energy 171 11 2 4 19 207
Chemicals & Materials 122 5 5 3 2 137
Grand Total 5,950 268 140 71 155 6,584
Number of Deals Institutional Corporate Private Grant or Award
Other Grand Total
Information Technology 852 34 73 60 172 1,191
Services & Retail 440 23 51 12 94 620
Healthcare & Life Sciences 465 29 41 108 70 713
Communications 320 25 27 11 60 443
Industrial 160 5 16 34 27 242
Energy 35 5 6 17 10 73
Chemicals & Materials 87 10 11 23 17 148
Grand Total 2,359 131 225 265 450 3,430
Private2%
Other2%
Corporate4%
Grant or Award1%
Institutional91%
Figure 17Proportion of Deals Led By Type
34
while private investors and angel groups led deals with an overall value of £140m.
Angel InvestorsIt is worth remembering, as noted previously, that the total commitment by private inves-tors and angels will be larger than £140m as deals where private investors invest along-side investment companies will be classified as institu-tional deals. In total, angels or private individuals were involved in a total of 524 deals with an overall value of £891m but only 225 deals were led by individuals and did not have either any investment compa-
nies, corporations or public sector backed funds involved.
Investment CompaniesInvestment activity is typically measured by either the overall number of deals carried out or by the overall value of the deals participated in. These two measures give very differ-ent pictures of the most active investors in the UK venture portfolio.
When listed by the total value of all deals participated in, the list of leading investors contains many of the most commonly known investors; 3i leads the table, having par-
ticipated in deals with a total disclosed deal value of almost £1.1bn into currently venture-backed companies. The next highest investor, Atlas Venture, has participated in deals with a value of £359m or under one-third of the figure for 3i. In all cases these figures refer to the overall sizes of the deals an investor was involved in, not the actual contribution of any individual party. Other notable entries in this table include Apax Partners, which, along with 3i, is one of the few investment companies to be involved across the whole spectrum of venture capital, growth or expansion capital
Table 17Top 15 Investment Companies by Total Value of All Deals Participated In
Investor Name Deals Total DealValue(£m)
Average Disclosed Deal Size (£m)
Largest Deal(£m)
Largest Deal
3i Group Plc 193 1,072.5 6.5 60.0 Specialised Petroleum Serv-ices Group Ltd
Atlas Venture 52 359 .5 7.6 23.0 Icera Inc (Icera Semiconduc-tor)
Apax Partners 34 302.6 11.6 40.0 Stage Three Music Ltd
Quester Capital Manage-ment
73 292.9 4.5 16.8 De Novo Pharmaceuticals Ltd
Advent Venture Partners 34 281.7 9.1 32.8 Oxagen Ltd
Bank of Scotland 24 239.8 12.6 90.0 Leaseway Vehicle Rental Ltd
Abingworth Manage-ment Ltd
16 222.7 13.9 32.8 Oxagen Ltd
Amadeus Capital Part-ners Limited
24 187.0 8.1 24.3 Red-M Products Ltd
Cazenove Private Equity 30 185.5 6.6 22.2 Clearswift Ltd
TA Associates Inc 3 182.1 60.7 92.0 Drive Assist UK Ltd
Advent International Corporation
17 168.4 10.5 25.0 Alexander Mann Group Ltd
Benchmark Capital 27 161.9 8.5 30.0 Codemasters Group Ltd
GIMV NV 14 156.8 11.2 31.3 Inpharmatica Ltd
Scottish Equity Partners Ltd
34 156.6 5.1 15.6 RadioScape Ltd
Schroder Ventures Life Sciences
10 148.4 14.8 32.8 Oxagen Ltd
35
to large buyout deals. These figures do not relate to the buyout activity of these firms but will include the growth or expansion capital deals. Of the remaining investment compa-nies in the list it is notable that several are from overseas, such as Benchmark, TA Associates and GIMV, and the invest-ments tracked will form only a small proportion of their total number of deals.
When arranged according to the overall number of deals participated in, rather than the value of the deals, a very dif-ferent picture emerges. The list is still dominated by 3i, once again far ahead of its nearest competitor, in this case the Ox-ford Technology VCTs, run by
Seed Capital. However, many of the entries in the table are not household name venture capital firms but are instead ei-ther early stage seed investors or public sector backed funds. Scottish Enterprises, backed by the devolved government of Scotland, the Scottish Executive, is responsible for a number of funds which invest in Scottish companies and is the first such public sec-tor backed investor to appear in the list with a total of 55 deals into 46 unique, cur-rently actively venture-backed companies. Further down, a number of other public sector backed funds appear as well as Archangel Informal Invest-ments, which despite being an angel network is included
as an institutional investor as the group operates through a dedicated fund mechanism. In total the top 15 most active investors have been involved in 714 deals into 443 individual companies. Overall the 5% of most active investors have been involved in a third of all deals into UK venture-backed companies and are involved in just under half of all compa-nies.
The distribution of the inves-tors according to the number of deals made into venture-backed companies shows that the majority of investment companies have participated in only a relatively small number of deals. 61% of the invest-ment companies have taken
Table 18Top 15 Investment Companies by Number of Deals
Investor Name Investor Type Total Deals
Total Deal Value (£m)
AverageDisclosed Deal Size (£m)
3i Group Plc Independent 193 1,072.5 6.5
Seed Capital Ltd (Oxford Technology VCT) Independent 99 49.6 0.5
Quester Capital Management Independent 73 292.9 4.5
Scottish Enterprises Ltd Public Sector Backed
55 29.2 0.7
Atlas Venture Independent 52 359.5 7.6
Aberdeen Murray Johnstone Private Equity Independent 37 115.7 3.6
Apax Partners Independent 34 302.6 11.6
Advent Venture Partners Independent 34 281.7 9.1
Scottish Equity Partners Ltd Independent 34 156.6 5.1
Advantage Creative Fund Public Sector Backed
33 5.6 0.3
Foresight Venture Partners Independent 31 41.6 1.5
Archangel Informal Investments Limited Independent* 31 15.2 0.7
Cazenove Private Equity Independent 30 185.5 6.6
North West Equity Fund Public Sector Backed
30 9.5 0.3
South East Growth Fund Managers Ltd Public Sector Backed
28 10.2 0.4
*Archangel is an independent angel group but is treated as an institutional investor, as it uses a pooled fund to make investments
36
part in only one or two deals and 90% of the investment companies have taken part in ten or fewer deals. However, the distribution does show a very long tail and 21 invest-ment companies have taken part in 20 or more deals into venture-backed companies in the UK.
Other Sources of FundingOutside the main set of in-dependent investment com-panies actively backing UK companies there is a rich set of other investors and grant providers from the public sec-tor, charities, corporations and individuals who have provided capital to the companies in the venture-backed portfolio. These exclude fund-based public sector backed inves-tors but will include non-fund based investors even if they may make investment in exchange for equity. The 15 largest deals into currently
venture-backed companies not involving any investment com-panies or corporate investors is dominated by deals carried out by individuals. In fact, the first non-individual investor on this list, The Wellcome Trust, does not appear until the 29th deal. It is notable that three of the companies receiving large non-investment company capi-
tal appear on this list twice, as these companies which require substantial amounts of funding have chosen to avoid institutional investment.
The set of most active non-investment company backers of venture-backed companies in the UK contains many of the bodies which provide large
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Figure 18Investment Companies by Number of Deals
Table 19Top 15 Deals Not Involving Investment Companies or Corporates
Company Year Total Value (£m)
Investors
Ocado Ltd 2005 15.0 Nick Roditi
Ocado Ltd 2003 15.0 Jorn Rausing
easyCar Ltd 2003 11.0 Stelios Haji-Ioannou
easyCar Ltd 2000 10.0 Stelios Haji-Ioannou
Logical Water Ltd 1999 5.4 Various business angel(s)
Adeptra Ltd 1996 4.2 Various business angel(s)
1... Ltd 2001 4.0 Various business angel(s)
1... Ltd 2000 4.0 Various business angel(s)
Cell Analysis Ltd 2005 3.0 Various business angel(s)
ComMedica Limited 2003 3.0 Various business angel(s)
The Kendal Group Ltd 2003 3.0 Leo Gestetner; Daniel Gestetner; Other private investor(s)
Community Internet Europe Ltd 1996 3.0 Management; Various business angel(s)
Keronite International Ltd 2004 2.7 Various private investor(s)
OnMedica Group Ltd 2002 2.5 Barrie Haigh
Cryptic Software Ltd 1999 2.0 Arthur (Bob) Morton
37
numbers of grants and awards to technology companies. These include both public-sec-tor-backed organisations such as the DTI and NESTA as well as private charitable organisa-tions such as the Wellcome Trust and the BBSRC. In addi-tion, one corporation appears on the list, BTG plc, previously the British Technology Group, which specialises in commer-cialising novel technologies, and Unibio, a limited company which provides an investment vehicle for several well-known biotechnology individuals, so is classified for these purposes as an investor network.
Syndication NetworksSyndication within deals provides a way for investors to diversify their risk, particularly for smaller funds which would otherwise only be able to fully fund a small number of com-panies and would therefore be highly sensitive to the risk
of failure of a single company in their portfolio. However, syndication is also indicative of the similarities or differences between investors’ investment scope and, to a certain extent, can reflect the personal net-work and relationships of the individual partners involved in deals.
In order to better understand how UK investors syndicate within deals, Library House has drawn up a full syndica-tion map of all 619 investment companies in the UK venture-backed portfolio showing the frequency of syndication within deals. It is immediately apparent that a single large interconnected set of inves-tors form the main body of the active investors into the UK portfolio. 3i, understandably as it has the most investments, forms the core of the main network and none of the con-nected investors is more than
four links from 3i. The remain-ing firms, not connected to the main network, do not form any groups larger than four.
More than half of all invest-ment companies are only two links removed from 3i and, in total, 63% of the investment companies involved in ven-ture-backed companies in the UK are connected to the main group of investors.
In order to clarify the dataset, the syndication map of the 21 investors which have been in-volved in 20 or more deals into current venture-backed com-panies is shown. The colouring of the nodes is reflective of the number of deals, increasing from yellow to red, while the thickness of the links indicates the number of deals on which the two investors have syndi-cated. Strong links are present between Atlas and Benchmark, with 11 deals syndicated, and
Table 20Top 15 Non-Investment Company Investors by Number of Deals
Investor Name Investor Type Total Deals
Total Deal Value (£m)
DTI Public Sector Organisation 148 26.6
NESTA Public Sector Organisation 30 12.7
Wellcome Trust Charity, Trust or Foundation 16 99.8
Imperial Innovations Public Sector Organisation 15 25.8
The Carbon Trust Public Sector Organisation 15 6.8
The Generics Group AG Corporate Investor 12 11.1
Scottish Executive SMART Award Public Sector Organisation 12 1.1
Invest Northern Ireland Public Sector Organisation 11 9.6
BTG Plc Corporate Investor 9 26.8
Oxfordshire Investment Opportunity Network (OION) Ltd
Investor Network/Family Office 9 6.7
European Commission Grant Public Sector Organisation 8 5.7
Simon Murdoch Individual 7 15.0
SPURplus Grant Public Sector Organisation 7 3.2
BBSRC Charity, Trust or Foundation 7 2.5
Unibio Ltd Investor Network/Family Office 5 51.1
38
3i and Quester and Advent both with 9 deals. 3i links directly to 15 of the other most active investors in the UK venture portfolio. The syndica-tion map shows only those links between investment com-panies which have syndicated within an individual deal rather than into a single company. As a result, the highly active early stage investors such as Cata-pult and Seed Capital have only limited connections to the later stage investors such as Apax and Atlas.
Interestingly, only one investor out of the 21, Archangel, has never been involved in a deal with any of the other investors. This is understandable as Arch-angel is a large fund-based angel group which is capable of, and often, fully funds early stage investments into the companies it backs and as a result it tends not to invest alongside other investors apart from some of the public-sec-tor-backed funds operating in Scotland.
Figure 20Institutional Investors with More Than 20 Deals in the Venture-Backed Portfolio
Figure 19Syndication Map, All Institutional Investors
39
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Library House organises a series of exclusive networking events for our clients and their guests. These events give clients the opportunity to meet the key people behind high-growth companies and quiz them on their businesses.
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Meet the CompaniesAn opportunity for selected companies to pitch their ideas to Library House members. Companies are given a seven-minute window to present to Library House members, followed by a short Q&A session. Companies are invited on merit. Of those companies that presented in 2004, nearly two thirds secured funding.
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40
Extent of SyndicationThe degree of syndication across funding rounds shows that as the companies progress through funding rounds the level of single investor deals decreases from 63% for first institutional funding round deals to 26% for fourth round deals and beyond. This increase in syndication is to be expected with deal size increasing as companies progress. The average level of syndication across all institu-tional deals is 1.85 investment companies per deal but this varies widely according to both stage and sector and rises rap-idly to 3.3 investors per deal for all deals above £10m.
Many of the most highly syndicated deals have been in healthcare companies, under-standable as investors both seek to diversify risk and as the deal values are relatively high.
For example, 11 investors were involved in each of the £20m funding round into Cellzome in 2003 and the £16.75m round in De Novo Pharmaceuticals in 2001. More recently, Plastic Logic had a £14m round in 2005 which involved 11 inves-tors. Despite the tendency for increased syndication in larger
deals, the biggest deals actual-ly show relatively low levels of syndication. Seven out of the 15 largest disclosed deals into the current venture portfolio involved only one investor and the average degree of syndica-tion is less than 2.5 investment companies per deal.
Table 21Most Syndicated Investment Partners within the UK Venture Portfolio
Investor 1 Investor 2 Syndicated Deals
Total Deal Value (£m)
3i Group Plc GIMV NV 11 120.4
Atlas Venture Benchmark Capital 11 100.9
3i Group Plc Quester Capital Management 9 43.2
3i Group Plc Advent Venture Partners 8 123.5
3i Group Plc Alta Berkeley Venture Partners 7 52.9
3i Group Plc Scottish Equity Partners Ltd 7 37.4
Advent Venture Partners Quester Capital Management 7 45.0
Atlas Venture Quester Capital Management 7 38.4
NIF Venture Co Ltd Quester Capital Management 7 53.9
Prelude Ventures Ltd TTP Venture Fund LP 7 12.6
3i Group Plc NIF Venture Co Ltd 6 42.4
Alta Berkeley Venture Partners Prelude Ventures Ltd 6 38.2
Alta Partners GIMV NV 6 77.5
Cambridge Gateway Fund Quester Capital Management 6 42.3
Dow Corporate Venture Capital Prelude Ventures Ltd 6 11.3
0%
20%
40%
60%
80%
100%
First Second Third Further
5 or More4321
Figure 21Deal Syndication by Investment Round
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Table 22Top 15 Largest Deals
CompanyIndustry Sub-Sector
Year InstitutionalRound
Deal Value (£m)
Investors
Drive Assist UK LtdBusiness Support Services
2004 1st 92.0 TA Associates Inc
Leaseway Vehicle Rental LtdBusiness Support Services
2005 1st 90.0 Bank of Scotland
Chelsea Stores Hold-ings LtdGeneral Services & Retail
2004 2nd 62.0 DC Thomson Ltd; Royal Bank of Scotland; Rhône Capital LLC
Just Retirement LtdBusiness Support Services
2004 1st 60.0 Langholm Capital Partners; Management; Hannover Rückversicherung AG
Agilisys Professional Services LtdIT Services
2000 2nd 60.0 Marconi Corporation Plc
Specialised Petroleum Services Group LtdAdvanced Materials
2000 1st 60.0 Bank of Scotland; 3i Group Plc; AFOS International
Magex Holdings LtdBusiness Support Services
2000 1st 51.7 Kistler Associates; SLF Ventures; InterTrust technologies Corporation; Capital Z Finan-cial Services; George Soros; Reuters Group Plc; Goldman Sachs Capital Partners; GE Equity; Westpool Investment Trust PLC; Universal Music Group Inc
Xchanging LtdBusiness Support Services
2002 3rd 50.0 General Atlantic Partners LLC
GlobeOp Financial Services LtdBusiness Support Services
2003 2nd 49.1 TA Associates Inc
IX Europe PlcIT Services
2000 2nd 41.7 Bank of America Capital Partners; First Union Capital Partners LLC; European Ac-quisition Capital Ltd
Sophos PlcIT Software
2002 4th 41.0 TA Associates Inc
Actix LtdCommunications Systems
2005 1st 40.6 The Summit Group Ltd
Stage Three Music LtdContent & Media
2004 1st 40.0 Apax Partners; Ingenious Ventures Ltd
Aspective LtdIT Services
2000 2nd 40.0 Investcorp; Kennet Venture Partners Ltd.
Bolero.net LtdIT Services
2000 2nd 35.2 Palio Capital Ltd; Baring Private Equity Partners; Apax Partners
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Mind the Gap: Public Sector InvestmentThe majority of small compa-nies are founded using capital provided by the founders, their families and friends in what are known as the FFF rounds. As the company develops, further funding may be sought from external individuals, an-gels, who provide both capital and advice in exchange for a stake in the business. Some companies, particularly those in technology sectors, require much larger amounts of fund-ing than can be provided by these private individuals in order to develop products to a marketable stage.
It is here that institutional in-vestors or banks can be called upon for further capital. This progression from acquaintanc-es through other individuals to institutional investors should provide the range of invest-
ment required for growing companies. However, there is widespread belief in the pres-ence of an equity gap, a range of deal sizes which are out of the reach of private individuals but still too small to be consid-ered by institutional investors which have significant fixed costs associated with invest-ing.
The UK government, along with a number of other governments worldwide, has identified a thriving and growing SME sector as a vital component of the productivity of the economy as a whole. As a result, eliminating the equity gap is seen to be one area where relatively small amounts of capital investment can have marked effects on the economy as a whole. One of the key problems faced by the public sector in attempt-ing to tackle the equity gap is
the scarcity of data regarding small privately held companies. Previous analysis has often relied on self-reported demand data from SMEs or anecdotal evidence.
Demand analysis can pro-vide a misleading picture, as companies that are unsuited to debt finance may also be unsuited to equity finance, either because of the nature of their business or their non-viability as an investment proposition. Without a suitable estimate of the proportion of companies that are suitable for investment, it is impossible to determine whether any gap in investment is the result of a lack of funding or a lack of suitable investments. While conventional arguments claim that it is a function of the sup-ply of investment, it could also be a function of supplied in-vestment opportunity. Indeed,
Table 23Top 15 Public Sector Investors by Number of Deals into the Current UK Venture Portfolio
Investor Name Investor Type Total Deals
Total Deal Value (£m)
DTI Public Sector Organisation (non-VC) 148 26.5
Scottish Enterprises Ltd Public Sector-Backed Fund 55 29.2
Advantage Creative Fund Public Sector-Backed Fund 33 5.6
NESTA Public Sector Organisation (non-VC) 30 12.7
North West Equity Fund Public Sector-Backed Fund 30 9.5
South East Growth Fund Managers Ltd Public Sector-Backed Fund 28 10.2
Sulis Seedcorn Fund Public Sector-Backed Fund 27 11.8
Finance Wales Plc - Unspecified Fund Public Sector-Backed Fund 22 13.7
The Capital Fund Public Sector-Backed Fund 20 9.4
RisingStars Growth Fund Public Sector-Backed Fund 20 5.0
White Rose Technology Seedcorn Fund Public Sector-Backed Fund 20 7.6
E-Synergy Ltd* Public Sector-Backed Fund 16 6.2
Merseyside Special Investment Fund Public Sector-Backed Fund 16 6.2
GEIF Ventures Public Sector-Backed Fund 16 10.6
The Carbon Trust Public Sector Organisation (non-VC) 15 6.8
*E-Synergy runs some private independent funds as well as public sector-backed funds
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surveys of investors often reveal a strong belief among venture capital partners that there are not enough high-po-tential companies in which to invest.
The UK government places the fall-off in informal investment around £250k whilst investor surveys and analyses of unmet demand estimate the deal minimum below which institu-tional investors are unwilling to invest at between £1.5-2m. The government has set up a number of initiatives to tackle this perceived gap in funding for companies in an attempt to increase the number and success of SMEs in the UK. These include a range of regional venture capital funds, tax incentives including VCT regulations and the Enterprise Investment Scheme as well as grants provided by the DTI or other governmental bodies.
Companies which have already received venture capital are, by definition, a good proxy for the companies seeking capital which are also suitable targets for investment. Therefore, the Library House data, covering all currently venture-backed companies in the UK, provides a complete view of the size of investment available to suit-able investment targets. In the figure above, displaying the number of deals in each size range across deal types, we have consolidated investment by both public sector organisa-tions and public sector backed funds into a single category to highlight the impact of public sector investment.The distri-bution of deal sizes is clearly centred around the equity gap. The claim that there is a shortage of formal institutional investment in the sub-£2m range is not supported by the investment data on venture-
backed companies. Of the 1,511 institutional (excluding public sector backed funds) deals with disclosed value, more than half (899) are £2m or below. Moreover, the vast majority (706) of the sub-£2m deals are between £250k and £2m, squarely in the area traditionally seen as the equity gap.
This data includes all invest-ment deals into companies in order to show the range of available deal sizes. It may, therefore, be claimed that this will skew the data as the eq-uity gap is traditionally seen as a problem for the first institu-tional round. However, when just the first institutional round deal sizes are included the distribution does not change significantly. Of the 848 first-round institutional (excluding public-sector backed fund) deals with a disclosed value, 557 are £2m or below. More than half of all first-round institutional deals are between £250k and £2m.
It is clear that the public sector is contributing strongly to the level of funding available to SMEs in the sub-£2m range and has effectively doubled the amount of funding avail-
able in the £100k-£500k range. However, it is also clear that institutional investors are not unwilling to make invest-ments at this level and that as the situation stands there is no ‘gap’ in the range of funding deal sizes available to growing companies in the UK.
Public sector research on the equity gap often quotes a sig-nificant gap between desired levels of investment identified by companies and the actual amount of investment received as evidence for the continuing existence of an equity gap. Library House also captures data on the funding require-ments of companies when profiled, This data is available to subscribers of PCI Online. A comparison of the funding re-quirements of companies with subsequent funding received shows that a significant gap remains between desire for funding and actual investment.However, this phenomenon is only partially related to the level of funding available and is more reflective of the fact that the majority of companies seeking funding simply do not have the potential required to warrant investment by an investor motivated by financial gain.
0
100
200
300
400
500
10 25 50 100
250
500
1,00
02,
500
5,00
0
10,0
00
25,0
00
50,0
00
100,
000
Deal Value (£000)
Num
ber
of D
eals
Institutional Public Sector Private
Corporate Other Total Deals
Figure 22Number of Deals by Size Range and Investor Type
45
Who Is Running Them?
Key DirectorsA strong, motivated and expe-rienced management team is a key part of the success for any company. In small, fast-grow-ing companies, the experience and abilities of the executive
team to adapt to the chang-ing environment and position the company for maximum growth are essential. However, measuring the strength of a management team cannot be done mathematically. There
are no fixed rules for what types of experience are actu-ally valuable in a start-up and what the perfect mix of skills would be. As a result, inves-tors often consider the people involved more on gut feeling
Table 24 Key Directors of UK Venture-Backed Companies
Director Companies Total Capital Raised (£m)
Vesa Jormakka(Argo Global Capital)
Cambridge Positioning Systems Ltd; Digital Bridges Ltd (I-play); Empower Interactive Group Ltd
99.7
Iain Wilcock (Quester) Avidex Ltd; Lectus Therapeutics Ltd; Methuen Publishing Ltd; Oxxon Therapeutics Ltd; Xention Discovery Ltd
78.8
Robert Hook (Prelude) Cambridge Positioning Systems Ltd; m-spatial Ltd; Polatis Inc; ZBD Displays Ltd
69.3
Timothy Haines Akubio Ltd; Astex Therapeutics Ltd; PowderMed Ltd 65.7
Graham o Keeffe(Atlas Venture)
Cognima Ltd; Orthogon Systems; Phyworks LLC; Radio-Scape Ltd
64.1
Glynn Williams DES Operations Ltd; Insensys Ltd; Specialised Petroleum Services Group Ltd
62.5
Timothy Brown(Alta Berkeley)
Cambridge Positioning Systems Ltd; m-spatial Ltd; Polatis Inc (Polatis Ltd); Touch Clarity Ltd
62.2
Ian Lobley (3i) Intense Ltd; Nujira Ltd; Psytechnics Ltd; The Cloud Net-works Ltd
60.0
Gerard Montanus(Atlas Venture)
Anadigm Ltd; Azea Networks Ltd; Nexagent Ltd 55.7
James Abell Chroma Therapeutics Ltd; Clinical Designs Ltd; Syntaxin Ltd 54.5
Nenad Marovac(DN Capital)
Empower Interactive Group Ltd; Jacobs Rimell Ltd; Shazam Entertainment Ltd
54.1
Malcolm Bird (Formerly DB Capital)
Adeptra Ltd; RadioScape Ltd; UbiquiSys Ltd 53.4
Peter Wolfers(FNI Venture Capital/1st Capital)
Intense Ltd; Powerlase Ltd; Ranier Technology Ltd 52.9
Jeremy Milne (Quester) Anadigm Ltd; ARTiSAN Software Tools Ltd; Community Internet Europe Ltd; Global Silicon Ltd
52.4
Michael Bennett(LMS Capital)
7 Holdings Ltd; Cityspace Ltd; Corizon Ltd 50.4
46
than according to any reliable metrics and at Library House we very often hear of deals falling through because inves-tors are simply unsure they could actually work effectively with the management team of a company. As a result of these issues it can be very hard to provide any accurate metrics of the importance of different levels of experience in the suc-cess of a company. However, it is possible to identify some interesting trends in the data regarding the people involved in running the UK venture-backed companies.
The UK corporate governance code is more specific and more prescriptive than equivalent codes in operation in many parts of the world and speci-fies quite clearly the expecta-tions and legal liabilities placed on the board of directors. In addition, the recommenda-tions for good practice, as initially set out in the Higgs Report, give indications of expected board composi-tion and length of tenure are often expected to be followed before any public market list-ing. As a result, companies in the UK tend to have a well-formed and strong board of directors, although exceptions
exist and there still remain a number of large venture-backed companies with poorly formed corporate governance structures. Investors will often insist not only on a representa-tive on the board, but also on the strengthening of the board as a whole and the inclusion of truly independent non-ex-ecutives as a pre-requisite of investment.
In order to identify the direc-tors who are truly central to the current venture-backed portfolio, the top 15 people who are currently directors of at least three venture-backed companies are shown in order
Table 25High Fliers: All CEOs of Venture-Backed Companies Under 30
Name (Position) Age Company Total Capital (£m)
Alister Rollins (MD) 24 Fitronics Ltd 0.0*
David Bell (CEO) 25 Covelus Ltd 1.0*
Andrew Dawson (Co-Founder & CTO) 26 Integral Mobile Data Ltd 0.6
Mark Miller (Founder & MD) 27 Dictate IT Ltd 0.3*
Robert Kay (Founder) 27 Microstencil Ltd 0.0*
Mark Annett (MD) 27 Niatruc Ltd 0.0
Lily Cheng (Co-Founder & CEO) 27 Splashpower Ltd 3.3*
Marcus Liassides (Founder & CEO) 27 Inuk Networks Ltd 0.0*
Paul Neilson (Founder) 27 Sports Dynamics Ltd 0.3
Mark-Paul Buckingham (MD) 27 ReacTec Ltd 0.3*
Tom Brammar (CEO) 28 Node Management Ltd 0.5*
Sarah McVittie (CEO) 28 RE5ULT Ltd (82ASK) 1.0
Maxwell Aitken (MD) 29 Sports Betting Media Ltd 11.0*
Tom Goodwin (MD) 29 Stones Group Ltd 0.3
Dotan Volach (CEO) 29 Followap Ltd 16.7
David Fox (Founder & MD) 29 Nublu Technologies Ltd 0.1
Neil Polwart (CEO) 29 Hydrosense Ltd 1.5
Peter Petrondas (MD) 29 Eazyfone Ltd 0.0*
Kenneth Tan (Founder & CEO) 29 Heuchera Technologies Ltd 0.0*
Reuben Singh (CEO) 29 ADP Call Centres Ltd 8.5*
Nick Paulson-Ellis (Founder & MD) 29 Clear Capital Ltd 0.8
Jonathan Morgan (CEO) 29 Hypertag Ltd 0.0*
Asim Mumtaz (CEO) 29 Enecsys Ltd 0.1
*Indicates additional undisclosed funding was raised
47
of the amount of capital raised by the companies. Unsurpris-ingly, the list is dominated by the senior partners of venture firms, with 11 of the top 15 directors associated with an investment company. There are four notable exceptions; Timo-thy Haines, Glynn Williams, James Abell and Malcolm Bird who do not have any identi-fied current relationship to an investment company, although Malcolm Bird was previously a representative of DB Capital.
Notably, none of these top 15 directors is a woman, a poor reflection on the UK’s accept-ance of women in the higher levels of corporate governance. The high proportion of venture capital partners in the list combined with the absence of women points to failings in the venture capital industry to promote women to some of the most responsible roles in the industry.
High FliersWhilst experience is often viewed as a benefit in an executive team, the enthusi-asm of youth is often cited as a major benefit for companies. This has been particularly noted in the US where the age
of the management teams seems to take more of a back seat to the quality of the idea compared with Europe and the UK. Library House captures data on the management team composition, including ages of the senior executives.
Although this data is not com-plete the ages of almost 80% of the senior managers in the UK venture-backed portfolio have been identified. The table shows all of the chief execu-tives or managing directors of companies who are identified as being under 30, as of 31st March 2006. In total there are 21 firms which are being run by executives under 30, equat-ing to 2% of the companies for which we have identified the ages of the senior manager.
It is not possible to determine for certain whether this low proportion of young managers of venture-backed companies in the UK is the result of a lack of young entrepreneurs or a lack of willingness among investors to back managers without experience. However, Library House’s activities bring it into contact with numer-ous entrepreneurs looking to start businesses and raise
venture finance. Our anecdotal evidence supports the theory that there are a wide number of young entrepreneurs in the UK with potentially credible business ideas who are seeking to raise funding and that it is a reluctance of venture capital investors to back an unproven team which results in a low proportion of young venture-backed chief executives or managing directors.
The relatively staid investment criteria of UK venture capital investors mean that young entrepreneurs, potentially as capable of building multi-bil-lion dollar companies, will find it even harder to get funding in the UK than more experi-enced entrepreneurs. Without investors who are willing to back younger CEOs who do not have prior experience, the UK is unlikely to build an expe-rienced talent pool of young, succesful entrepreneurs. It is these young, successful entre-preneurs who can return their knowledge and capital to the sector which will be the most important factor in generating a truly self-sustaining innova-tion economy in the UK.
48
Brothers in Arms
Our analysis of the UK venture portfolio led us to identify a number of family links within the portfolio. In some respects venture capital and entrepreneurialism seems to be much of a family business, as in many other industries. Here we have spoken to two brothers, initially from quite similar backgrounds in large accountancy firms, who both came across the venture capital sector first in the early 90s and soon left their positions to move into the VC world. They have to some extent ended up on opposite sides of the table now as one now represents 3i while the other is the chairman of two venture-backed companies and the co-founder of another start-up. Both, however, recognise the importance of a strong team for success in a growing company and are cautious about the increasing view among many involved with small companies that AIM can be the panacea for the financing needs of a growing company.
Colin Garrett - A Chairman’s View
After working for 15 years in corporate finance, chartered accountant Colin Garrett made the decision to enter the world of venture capital: ‘In the early 90s, the quoted sector for young, growing technology companies was non-existent. As a corporate finance director, I saw so many people come through the door with interesting ideas and vision that I had to get involved.’ Since 2000 Mr Garrett has occupied himself with technology companies at almost every stage of development and ownership. He is currently chairman of two ven-ture-backed companies, ZBD Displays and Pelikon, director of listed company AVEVA Group, and a co-founder of privately-owned 3G Comms.
Mr Garrett says that there are some major differences between chairing young venture-backed companies and well-established listed companies: ‘Early stage companies are hard work and time-consuming, but there’s a real “one-for-all and all-for-one” attitude. The key is to build a solid team and be careful with how you manage your cash. My role is to con-centrate on strategy and to know which boxes need to be ticked in order to raise VC fund-ing. Being chairman of a listed company is different, since they tend to have an established team and hundreds of employees; there are many different layers to these businesses. Here, it is my responsibility to challenge the board’s decisions, giving a slightly more external view. It forces me to keep up with the hot topics in the industry on a global scale.’
He also manages relationships with VCs on behalf of his venture-backed companies: ‘VCs are always interested in protecting their position, but also want to see the company do well. Every round has its difficulties; there are so many internal hoops to be jumped through, and the timing has to be right. I’ve personally always found VCs to be hard but fair.’ Both ZBD and Pelikon have raised five or six rounds of institutional funding, coming at regular intervals over the last five years. Mr Garrett explains: ‘In the UK, it seems that VCs are becoming less inclined to say ‘there’s £10m, away you go’, instead they will invest in several smaller rounds.’
When asked if he had considered floating his companies on AIM rather than raising further rounds of VC funding, Mr Garrett said: ‘If you take a tech. company to AIM early on and get it wrong, for instance with slower ramping of sales than forecast, it can be pretty painful resulting in lower valuations and no investor exits. I will definitely consider it once the tim-ing is right, though.’
Mr Garrett’s advice to young entrepreneurs: ‘It takes a long time to grow a business prop-erly, and you must be incredibly focussed and hardworking. Get as much free advice as you can through mentors and networking; give yourself as many sanity-checks as possible. It is also very important to ‘think big’ from the off, as VCs will be more interested in companies targeting global markets.’
49
Laurence Garrett - An Investor’s View
Laurence Garrett got his first taste of venture capital activity in the early 90s, whilst work-ing for Deloitte and Touche advising a VC on a particular deal. He was assessing the man-agement of a company whose sales had recently dropped from $50m to $10m. At this point the VC along with Mr Garrett got involved to turn the company around and bring revenues back up to the $50m mark. ‘I couldn’t understand how they were going to do it’ he reflected, ‘the rise in value was tremendous.’ This experience inspired Mr Garrett to join 3i in 1994, where he requested to be put into a technology specialist role, eventually focussing on the semiconductor sector, where he has been working for the last seven years with a secondary interest in wireless communications. He has seen many investments make successful exits, the most high profile of which was Cambridge Silicon Radio’s IPO in Febru-ary 2004.
When asked what characteristics he looks for in an investment opportunity, Mr Garrett commented: ‘The first thing you look at is the people – am I going to enjoy working with them? Do they have the right drive? Can they be flexible? That last question is crucial; there are a lot of incredibly driven people in the UK, but in a start-up you have to reiter-ate quickly, so your biggest advantage is nimbleness. Take for example CSR; although they had a genuine competitive advantage, it was their ability to change which allowed them to compete with the likes of Texas Instruments and Broadcom.’ So would he ever buy into a company with strong technology, knowing that he would have to replace the management team? No: ‘I don’t like getting rid of the founders. There’s a strong correlation between suc-cess and founders staying in the company; they’re part of the DNA of the business.’
We’ve all heard the joke about VCs walking into meetings backwards, but Mr Garrett says that this isn’t his experience at 3i: ‘We’re rarely looking for the exit straightaway, with early stage investments it’s just not practical, although with later stage investments we’ll sit down and talk about it.’ He went on to explain that AIM hasn’t changed this way of think-ing too much: ‘AIM’s a good opportunity for VCs as long as you can punch your way out of the £20m bracket. We see AIM more as a funding round than an exit. This is true of any public listing really; we still hold shares in CSR as we believe there’s still an upside. The add-ed liquidity gives us the option to exit, should we wish. Listing works when the liquidity’s good, the maiden year’s good, the visibility’s good in terms of being able to forecast and meet market needs, and the board is complete and robust enough for the public market. We do lose deals to AIM occasionally but it’s not a major problem.’
While 3i may not look at an exit straightaway, it does like its companies to think big right from the start: ‘It depends on the sector, but in silicon for example, you must think global, targeting firstly the US, secondly Taiwan, China and Japan, and thirdly, Europe. To do this effectively you need people with expert knowledge of these territories; people who actu-ally live and work there. Scale is definitely an advantage in venture capital — how can you accurately appraise opportunities on a global scale without a global footprint?’ When asked what qualities 3i possesses other than size, Mr Garrett responded: ‘3i is unique in its quoted status; a quality that I’m sure many private equity houses would love to have. It gives us awesome abilities in terms of fundraising and gearing, and allows us to take a different view since we’re not restricted by ten year funds.’
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Appendices
Library House Research Methodology
The contents of this report are based upon the Library House Private Company Intelligence Online database which holds information on over 4,000 companies potentially of interest to investors or other organisations interested in private companies operating in high-growth sectors. The informa-tion in this report is correct to the best of our knowledge as of 31st March 2006. The information in our database is updated continuously and is subject to change without notice.
Where possible the information contained in the database has been verified by a member of the senior management team of the company concerned. Where a company has been unable or un-willing to provide information we have made attempts to verify information independently where possible.
Acknowledgements
Library House would particularly like to thank the management of all of the companies that have provided us with the data contained within the report for their time and effort in ensuring our data is timely and correct. We understand the time contraints management teams in small, fast-growth companies operate under and appreciate the time committed to answering our questions.
We would also like to thank:
The UBS Wealth management team for sponsoring this report
The Individuals who took the time to participate in interviews and provided guidance:Colin Garrett, Chairman, ZBD Displays & PelikonLaurence Garrett, Partner, 3iBen Holmes, Principal, Index VenturesSusan Searle, Chief Executive, Imperial InnovationsDavid Sneddon, Director, Scottish Equity PartnersSteve Winetroube, Commercial Director, 99p Stores
The members of the Library House team who have contributed to this report: Maher Bekdash, Dr Arnaud Bonnet, Nick Brett, Alison Coupe, Gianluca Gottoli, Dr Darren Harper, Matthew Jones, Dr Malcolm King, Susie Lee, Enrico Magnani, Mike Moss, Leon Ooi, Dr Harsh Pershad, Jon Povah, Dr Alexis Rideau, David Roder, Sumon Sadhu, Sherif Salam, Lorena Sigala, Sam Snelson, Dr Andrew Thomson, Dr Lindsay Uppadine, Richard Youngman MBA.
The Library House Analysis & Consulting Team — Peter Lahoud Stephen Siard Jens Lapinski
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‘The purpose of the postchasm enterprise is to make money. This is a much more radical statement than it appears.’
Geoffrey Moore, Crossing the Chasm
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Disclaimer & Copyright
DisclaimerAll information used in the publication of this report has been compiled from sources that are be-lieved to be reliable. Reasonable steps have been taken to ensure that no errors or misdescriptions arise, but this cannot be guaranteed and the report does not purport to contain all information that recipients may require. Opinions contained in this report represent those of The Library House Limited at the time of publication. Neither The Library House Limited, nor any of its directors, employees, agents or advisers makes any express or implied report or warranty, and no responsibil-ity or liability is accepted by any of them, with respect to any errors or omissions in this report or any other information supplied at any time to or on behalf of the recipient, or with respect to the fairness, adequacy, accuracy or completeness of the information in this report, including without limitation the reasonableness of the projections, forecasts, estimates or any associated assump-tions contained in it, or any information otherwise supplied at any time to the recipient.
The value of investments can fall as well as rise and can be subject to large and sudden swings. In addition, it may be difficult or impossible to buy, sell, or obtain accurate information about the value of, companies or investments mentioned in this report. Past performance is not necessarily a guide to future performance.
This report does not form part of any contract and is provided for information purposes only. It is not, and is not part of, an invitation or inducement to buy, sell, subscribe for, or underwrite any investments and shall not be construed as such. Any recipient of this report who intends to acquire shares or securities in any company which is the subject of this report shall make such acquisition solely on the basis of its own assessment and investigations. The Library House Limited shall not be liable to any recipient of this report for any decision made or action taken in reliance on infor-mation in this report. Except as disclosed in the report, The Library House Limited does not hold any positions in companies mentioned in this report but may perform services or solicit business from companies mentioned. The Library House Limited’s directors, officers, employees, agents and members may have a position in any such companies or in related investments. The Library House Limited does not provide regulated investment services, and is not authorised to do so. Nothing in this report shall be taken to constitute advice or recommendations on transactions in investments, or any other regulated investment service.
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