UNCORRECTED TRANSCRIPT OF ORAL EVIDENCE
To be published as HC 1 936-ii

House of COMMONS

Oral EVIDENCE

TAKEN BEFORE the

SCIENCE AND TECHNOLOGY Committee

BRIDGING THE "VALLEY OF DEATH": IMPROVING THE COMMERCIALISATION OF RESEARCH

Wednesday 25 april 2012

katie potts, anne glover, matthew bullock and stephen welton

DR RICHARD WORSWICK, DR PETER DEAN and DR TREVOR FRANCIS

Evidence heard in Public Questions 46 - 95

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Oral Evidence

Taken before the Science and Technology Committee

on Wednesday 25 April 2012

Members present:

Andrew Miller (Chair)

Stephen Metcalfe

Stephen Mosley

Sarah Newton

Graham Stringer

Hywel Williams

Roger Williams

________________

Examination of Witnesses

Witnesses: Katie Potts, Managing Director, Herald Investment Management Ltd, Anne Glover, Co-founder and Chief Executive, Amadeus Capital Partners Ltd, Matthew Bullock, Chairman, Centre for Business Research, University of Cambridge, and Chairman, UK Innovation Research Centre, University of Cambridge and Imperial College, and Stephen Welton, Chief Executive Officer, Business Growth Fund, gave evidence.

Q46Chair: Good morning and welcome to our witnesses. We are extremely grateful that you have given up time to come and speak to us. It would be helpful for the record if you would be kind enough to introduce yourselves.

Anne Glover: I am Anne Glover, chief executive of Amadeus Capital Partners. We are a technology venture capital group that has been in existence since 1997 with £500 million under management. I have been in the industry in the UK since 1989.

Katie Potts: I am Katie Potts from Herald Investment Management. I started my working life at GKN, which, somewhat eccentrically, educated me as a welding engineer. I then went to the City. In 1994 I set up Herald Investment Management. It was born of my frustrations at Warburgs because I thought large companies were boring. Investors were not going to make money and you had to invest in smaller companies, but there were too many risks and there was too little liquidity. So I said, "Why not have a collective vehicle that invests in lots of them to spread the risk?"

Matthew Bullock: My name is Matthew Bullock. I have been involved in financing technology companies since the late ’70s. I spent 10 years as Barclays head of technology financing team and 12 years as chairman of a life sciences company that grew out of the Cambridge phenomenon. I am also chairman of the Centre for Business Research and the UK Innovation Research Centre, which is a joint venture between Cambridge and Imperial. I am a director of Addenbrooke’s where I take an interest in the commercialisation of medical services and dialysis.

Stephen Welton: I am Stephen Welton. I am chief executive of the Business Growth Fund. We were set up last year by five of the major UK banks to provide growth capital to SMEs across the UK. We have £2.5 billion worth of capital. We are investing in a range of companies, which include technology-related businesses, and we provide growth rather than start-up capital. I have spent my career in the investment industry, and also for a couple of years I ran a media and technology company. So I have seen businesses from both sides of the fence.

Q47Chair: We have got rather a lot to get through in a very short time, so we will try to make things reasonably succinct. If you have any additional information to feed to us afterwards because we don’t have time to squeeze it in, we would be grateful if you would follow up with letters. We all accept that cash flow is the lifeblood of small companies. What is your impression of where small high-tech companies get their money to maintain cash flow?

Anne Glover: At the beginning, it is their own capital as entrepreneurs and angels. Later on, they can get it from venture capitalists but also corporations who do licensing agreements with them. For small high-tech loss-making businesses debt is not an option, so the grants that are also offered by various Government bodies like the Technology Strategy Board are an important component.

Matthew Bullock: There is a different model from that, which is a respectable one. The one that is more commonly adopted is that people get into business basically by selling their competencies as a service. This produces quite early cash flow. It requires large lead customers, usually large companies, but they can be research institutes or could possibly be Government-which is perhaps an issue for us to come back to-where they sell their services, usually on a term basis, delivering a particular technical service, and that gives them cash flow very early on. This is the soft model as opposed to what Anne is talking about, which is the hard start-up model, and it is in fact the dominant model. Although the hard company model is the classically understood one, it is very much the exception.

Q48Chair: Is there in the different models an ideal balance or is it horses for courses?

Matthew Bullock: I think the answer is that if you can get venture capital it is the first best solution, but the truth is that it is not very readily available and most companies get into businesses by selling their services and moving up the scale gradually to create a product. It is possible to get into that business with personal equity, maybe with some angel support, but it is also a business that we in the bank, when I ran the group, were able to finance from a fairly early stage on debt.

Anne Glover: I agree that it is horses for courses, and it depends on the competitive framework. If you need to move very fast because of competition globally, the softer model cannot respond quickly enough.

Stephen Welton: A related point to all of this is investment readiness and the quality of financial controls and planning, which one often finds lacking in very small companies and is an area in which they invest last. Clearly, cash flow is the lifeblood of any business no matter how big, so the better prepared they are in being able to present themselves to outside investors, be they corporate or financial investors, the greater the likelihood of achieving success.

Q49Chair: We have been told that heavy reliance on equity finance is not always welcome due to its dilution effects. What are the barriers to preventing better availability of non-equity loan finances to small firms with genuine growth potential to become medium-size companies?

Matthew Bullock: If I was to compare this with America, which is often cited as the home of multiple venture capital, the real difference is Government’s attitude to procurement. Since the 1940s the US has had a consistent policy of using small firm procurement as a way of developing technologies, from both a policy and industrial point of view. In the second world war they adopted a series of what were called "V for Victory" contracts where Government Departments that wanted to stimulate the production of key bits of sensitive technology would place R and D contracts for delivery with small companies where they knew they had the competencies technically but not necessarily the business competencies.

Q50Chair: How does that explain the success of, say, biotech companies these days?

Matthew Bullock: If you look at many biotech companies, they are actually tool companies and not necessarily people who are going for a silver bullet drug. One has to say that in America there are very large programmes of support. My own company had a major contract with DARPA for the production of blood. As a simple voir dire, soldiers die on battlefields because they lose blood. They wanted to produce sacks of fresh pluripotential blood in the battlefield. To do that, they needed to have equipment that could produce such things. There is nobody in the world who does that.

They came to us and said, "You are part of a consortium. We would like you to bid for this, and we will give you milestone payments for the achievement of different steps in the production process." It was an extremely well-run process by a rather experienced postdoc. This was a Government Department bureaucrat in the DOD. At the end of the period, he changed consortia members to make sure he got the best bid. He said to us, "When you come to your second stage, here is our market forecast for the world market for blood. When you put forward your next proposal we want you to come with a plan of how you will deliver us blood for $10 a sack."

That is driven by a very clear and long-experienced group of people in DARPA, ARPA, the Office of Naval Research and other Government Departments, who use procurement creatively to stimulate the growth of companies. On the back of that many venture capitalists then come into these companies and put their money in when they have got a product defined from the result of such contracts.

Stephen Welton: Often it is incredibly difficult for small companies to deal with Government because they do not have a lot of resources in terms of management capability. It is often the tender process or finding the right way to deal with Government in public contracting that is too difficult, and yet that is a natural way to support these smaller businesses who are trying to innovate. The companies we talk to bemoan the rhetoric in terms of being able to work with the public sector. The reality of landing contracts and the cost of tendering puts them off even from starting in the first place. They find it too big and amorphous a body to work with.

Anne Glover: I would agree that Government procurement can add tremendously early on, but, frankly, the bigger reason for the success of high-tech growth companies-very specifically growth companies in the US-is the financing chain that exists all the way up the ladder. Therefore, it is the presence of the exit markets and capital exit that encourages middle and early stage investors to continue to finance the company through its losses. I think we will come back to that later. For the 10 years when Sarbanes-Oxley was dominant, US venture returns were very low. The House has just passed the JOBS Act, which is removing and rolling back five years of regulation and is going to transform the venture industry in the US again. We will, unfortunately, be left behind by that or have to go to those markets.

Q51Chair: It is a slightly different explanation. To try to bring the two together, is there any evidence that your additional points would not exist if there was not in the first place that different approach to Government procurement?

Anne Glover: I think they are complementary.

Matthew Bullock: Historically, small and SME American technology businesses grew from the 1940s through to about the 1980s before venture capital became freely available. What happened was that the entrepreneurs who went through those first phases sold their companies typically to large corporations. They did not go to IPOs but they gained the skills, and many of those people were the first venture capitalists.

Katie Potts: There has been far more angel investing in the States because there have been more successful companies. Look how many household names there are of first generation billionaires who have deep pockets to recycle. One area in which we have invested in start-up straight into the quoted market, even in the last year or two, is where individuals have come to me and said, "Look, we sold out our business; it was a takeover. We’re starting again. Will you put some money in?" It is backing people. They can raise worthwhile amounts of money.

Matthew Bullock: Kleiner Perkins-both of them ran businesses before they started the financing operation.

Q52Sarah Newton: We have been told that venture capital is not very well placed to support innovative science and technology start-ups or indeed to enable organisations to grow. If you look at the enterprise capital funds, so far they have tended to invest in things with a shorter return and quicker gain, like the next generation mobile, rather than graphene and new sorts of renewable energy where perhaps it is harder to understand how they can be commercialised. Do you see that as a problem given the time scales required for venture capitalists compared with the need to invest in that sort of science and technology-led innovation?

Katie Potts: Every fund manager has a pot of money and the choice whether to buy this or that. It depends on where the value is. One of the problems is that equity valuations are so low that you think, "Why take the risk that something may or may not succeed when I can buy something that is already profitable?" I consider that a real bottleneck. The problem is that the UK equity market has been shrinking month by month. If people do not have positive cash flows, they do not have new money to put into new companies. I think that is why there is such a logjam, which then makes it too risky to invest early stage because you do not know if you will get the follow-on funding to take it to the next stage. I am quite exercised about it because it is something I have done all my life and I am worried that people do not realise that the situation is so much worse than it has been.

Q53Sarah Newton: To focus on that logjam, is that driven by the need to get a return back into the fund within a particular time scale or just lack of preparedness to take on extra risk, because, as you say, it is something that might take longer or is less known to be able to be scaled up commercially within a reasonable period?

Anne Glover: I agree with Katie. The difference is that when I was doing early stage investing in the mid-1990s there was a large number of growth capital players who would continue to finance the company, and there was the prospect of a public market after that. Two of our companies are now public. For 16 years we were investors in Optos, which is in the Best of British Manufacturing exhibition for the Olympics. The reason that our time scales are short is that at the moment, historically, until Stephen’s fund came along, the availability of the next stage of capital was too weak. Basically, we had to assume that we could work only with our own and that made us much more risk averse. If there was a ladder of financing that worked, we would take the long-term risks and be happy about it.

Katie Potts: I remember in 1996 and 1997 ARM, or acorn as it was then, coming to me desperate for money. I put in £1 million when they needed it. I doubt that ARM would get funded in the current environment.

Anne Glover: It wouldn’t.

Matthew Bullock: I think there is a distinction between the two examples you gave. If one were to look at something like the energy market you talked about, that is really an issue of distribution. How do you break into the distribution in a way that enables you to overcome the inherent conservatism of some of the big utility companies or people like that? That is where I would argue that procurement, pushing some of the utility companies to procure new technologies, would be a very good way of opening their eyes to it. Graphene is different. Graphene is at a state of development that is quite common in technologies, which is what I would call really quite inchoate. We do not know what we can use graphene for. To pump equity into a graphene venture at this stage when we do not know what we are going to sell would be quite risky.

There is a company in Cambridge called Teradata, which has been working with a range of spectrum that people do not understand; it is kind of new. You spend your time going out with soft contracts trying to develop areas of the market without betting the whole company on it. I refer to people like Government Departments. I would cite the Ministry of Defence as the largest single buyer of anything in the country, and it has resolutely refused to deal with small companies; it loves being locked in with the large suppliers, for the reason that no doubt they will be arraigned by the Public Accounts Committee if they do anything as wasteful as spend money with small companies. But go off with them and try to work out what you can use the technology for. Take small bets until you are clear what product you can do with it. I use the philosophical expression "We rush to reify"; we try to turn it into a product too soon before we know what it will be used for. Sometimes you just have to get into the market in this soft way and find where you can get the applications.

To come back to Stephen’s point about skills, the two gentlemen who discovered graphene are not the kind of people who could take an investment of, say, £5 million, invest it gently over a period and go through a loss-making phase where, as the losses get greater, the pressures on you as an entrepreneur get bigger and bigger each month. You have to turn it round, successfully market it and get it exactly into the market at the right price against all your competitors from a standing start. The whole point about the soft contract is that it also educates the entrepreneurs to become business people before they start to take in equity finance from venture capitalists, which, when it comes, is always very welcome.

Stephen Welton: I have perhaps a slightly different perspective on it structurally. One of the reasons that capital is provided over the short term is the way it is raised. If you look at a classic venture capital fund or a private equity fund, for that matter, it is normally raised as a limited liability partnership with a 10-year life, and it has a five to six-year investment period. Then you have to liquidate the investments to give them back to investors, so there is a structural way in which capital is raised, which drives a need to achieve an exit.

One of the things we are capitalising on is that we are investing off our balance sheet. We can take whatever time frame we think is appropriate, subject, clearly, to our shareholders being supportive of the company. That flexibility is incredibly useful because it enables us to evaluate a business and what its cash flow is going to be, going back to the initial question. It may well be that in the short term you will be very cash negative because you are expanding overseas or investing in R and D. For many small companies, the need to get a return quickly is a disincentive because they do not feel confident enough in doing that. Often that leads to a deferral of investment, or they limit their ambition or they sell the company.

Matthew Bullock: Can I make a point on bank finance? We provided bank finance in Barclays for the kind of venture I am talking about, not the one that was running very quickly towards product development and going down through the negative loop. We lent very consistently. We had a loss rate of one sixth of the bank’s average over a 10-year period, and basically it was a very good business. We rotated our finance because basically we were providing working capital finance against contract payments from creditworthy customers who we were satisfied would be very sound debtors. We had to monitor things very closely, which we did, but it was basically quite good business for banking.

Katie Potts: On the comment you made about a lot of companies that are started by people getting revenues from services, that has been very prevalent in, say, computer software where people provide services that have generated cash for them to do other products that they can then scale, but that is not so for deep technology because you need product development; you need to file patents and get designed into a product. That takes much deeper capital, and that is why there is a funding shortage.

Matthew Bullock: I beg to differ. The company I chair now turns over 20 million and is the leading company in cell culturing automation in the world. We started off selling some contracts to Merck and Pfizer for a particular system. We got paid by them, and we have been self-financed throughout. That was a very big product; they were sometimes $2 million to $3 million sales.

Q54Hywel Williams: The situation that you describe seems to favour structurally the safe and the status quo. Do you think this provides a further problem for people enterprising in unlikely locations? I should say that I am a Member of Parliament for north-west Wales where we have some high-technology companies, but I think there is a substantial geographical problem there as well.

Anne Glover: There is but not as much as you think. For example, I know a very interesting start-up in St Asaph that came out of Daresbury. Their challenge is in the medical technology field. They have been funded by angels and venture capitalists because they are so world leading in what they do. The challenge is not location but getting profile and being willing to travel to meet the investors sometimes, because the investors are not in St Asaph, sadly. This particular company attracted a chairman from Chicago in the field because it is so high profile. However, they are struggling with the next phase of fund raising, having developed a product and just getting it ready for FDA trial.

Q55Hywel Williams: I should say I have a company located in my constituency that was based in Los Angeles, New Jersey and Llanberis.

Matthew Bullock: I think the whole issue of clusters is that they are basically risk management systems; they are ecosystems that help people to manage risks, and that is why people go there.

Katie Potts: I do not agree. I have done exercises going out to Stanford and MIT. Why have there been such successful clusters in California and in the Boston area? I think the simple reason is that there is a whole generation of management who have been trained and watched companies scale. It is not the deep technology but the management and sales skills. They feed on themselves.

Matthew Bullock: I wrote a history of the development of technology financing in America, which interviewed the original people who were involved in the 1940s. They did start, I am afraid, with very deep technology but typically came out and sold services, and it was over a period of time. This is one of the difficulties you have. If you go to California and just visit, you get a snapshot of where they are now; you do not see how they develop.

Katie Potts: I go five times a year.

Matthew Bullock: You have to go backwards, not just currently.

Anne Glover: I agree, Matthew, but I think the world has accelerated. This is the challenge. I know the history rather well myself having lived it. It is very informed and helpful, but the reality today is that development activity is much faster than it was even then. I do not necessarily mean in just mobile where Instagram goes in nine weeks to $1 billion. In the life sciences and deep technology the pace of change is just phenomenal. The good news is that we can be connected through the internet and by travel, and we can create these distributed organisations. It has never been so good to be an entrepreneur in a wonderful place to live, as opposed to where you do not want to live, as long as you have a global attitude and build an organisation globally and travel for the needs, whether it is customer contracts or finance. I am not as worried about the regional problem. Clusters are very helpful, and I agree with Katie that it is the experience you get from clusters that matters, but it is how we get the people connected to the growth prospects that exist in the world today, which are well beyond America, frankly.

Stephen Welton: I think that raises a very interesting opportunity for all these small companies, which is to harness the experience of very capable people who are keen to work with smaller businesses, and that has no boundaries. There are a lot of very talented people who have made money; they become angel investors, or they have experience in particular areas of technology and science. If you can harness that expertise with somebody who has got something very innovative and the passion and ambition to grow, that truly has a lot of potential. They should be thinking globally. We are a small market. In Wales, Scotland or anywhere else in the UK there is no lack of innovation and entrepreneurship. I do not think that is a nationalistic thing. If you have a good idea, you should be able to attract capital and get people who will in a way endorse that idea because they are prepared to put their time and effort into it, which in turn helps to bring capital. Capital will follow the experience. If somebody has a brilliant idea but not the proven track record to commercialise it and build the sales network internationally, it is very difficult to convince somebody who will be more dispassionate in looking at an opportunity that it is going to work.

Q56Stephen Metcalfe: I want to explore a little further the soft start-up model. One of you said that ARM would not get funded in the current climate. Would ARM have been able to start up using the soft start model?

Matthew Bullock: To go back, ARM was founded out of Acorn; Acorn was funded by bank finance against the contract from the BBC. Its original contract was from Bally, a slot machine manufacturer, for whom they did some small electronic cards. It was a development contract of exactly the sort I am talking about. They then shot forward. As you know, the BBC contract put them into a position where they did an IPO, and some of that is history. ARM was project no. 96 in their R and D portfolio. They had to go down because they were bumped out into the real world by the collapse of Acorn. They had to go off and get licensing contracts to get themselves going.

Katie Potts: They raised money from other investors-from public market shareholders.

Matthew Bullock: Did they?

Anne Glover: Yes, absolutely. There was substantial funding. The IP licensing model is a difficult one to get up and running. Interestingly, there is a small listed company on the AIM market on the same business model based in Los Angeles. They came into the UK market because the market did understand the licensing model and were able to get public capital. They were not able to get private capital at that particular time. It is a very difficult business model to get off the ground because it relies so heavily on the belief that these large companies will deal with a small company, but it can be done. I do not think a venture capitalist would finance it today.

Katie Potts: I flatter myself that I have been significant on a global basis in investing in the IP licensing model. I have invested in Ceva in Israel, in ARM and in Imagination. I invested in a company called Virage Logic in the States. That is a material proportion. It has been a good model that I flatter myself I spotted early. You have to invest in advance of revenues, and it is a classic example of why it is a capital-intensive business. What happened with something like Imagination is that they sold a $2 million licence to Intel and a $2 million licence to Texas Instruments. They had to design their technology into their products, and then Texas Instruments had to sell it to Apple, Nokia and so on. There is another 18-month design cycle, so from signing the licence to having products on the shelves is a three-year period. That needs a lot of funding. It is a classic of development costs occurring in advance of revenues. It is absurd to think you can fund it out of-

Anne Glover: Correct me if I am wrong, but you have done it as a public market investor.

Katie Potts: We have done it as a public market investor.

Anne Glover: That is the point.

Katie Potts: My concern is that in days gone by we could do it with nine other people and there are not nine other people to do it with any more, because pension fund and insurance companies at their peak in 1994 owned about 60% of the UK stock market. They have now withered to less than 20%, and they have been replaced by overseas investors, who do not look at smaller companies and do not care about early stage companies. That degree of shrinkage means cash outflow. That is why people have also been too ready to accept takeover bids. If you have redemptions, you have to give some money back. They say, "Oh, great; there’s a takeover bid. We can take some money out." It makes me weep having gone through the risk phase and then finding that foreign companies buy them too cheaply.

Matthew Bullock: The licence is not the soft model. If you are going to do licensing, you have to produce a product, so you are into all the heavy capital expenditure. You do not have the marketing so much because you have dealt with that issue, but you have all the production expenditure, which is high risk. That is not bankable.

Q57Stephen Metcalfe: I suppose what I am trying to get at is: what are the limitations of the soft model?

Matthew Bullock: It is slow.

Q58Stephen Metcalfe: But is that the only limitation? There is no technology that could not develop under it. What I am concerned about is whether there are particular sectors of technology that will slip through the gaps because they do not fall into either of the two main models.

Matthew Bullock: Pharmaceutical development is very hard to do. You are doing something very specific. It is possible to develop pharmaceutical tools companies that get into areas and develop ideas that you can then sell in the soft model. It is impossible to do a drug development as a soft company. My view about biotech is that a lot of people rushed to set up silver bullet companies because the money was there. They spent the money and often produced very little. Mine is a more gradual approach-perhaps more a farmer’s than hunter’s approach. I would come back to the Cambridge area. Cambridge is predominantly filled with soft, not hard, companies. When the money is there it is great, but the money does come and it does go.

One point on clusters, which I do think are important, is that they are social systems. If the system suddenly withers because there is no money, the skills go. When Acorn and Sinclair both collapsed, we as a bank worked very hard to try to make sure we did not have a cataclysmic collapse. We subsidised them so we did not fracture the social network that meant everybody said, "Oh, gosh, British technology companies are a mess. Don’t go near them." We sustained the Cambridge network across that period so that people stayed in the game. It is very important that people do not adopt strategies that tip them over the edge. It is the valley of death. The reason it is called that is that most people do not get across it.

Q59Stephen Metcalfe: But was that out of the goodness of your heart or because there was a commercial imperative?

Matthew Bullock: Commercial value. We were making money as a bank out of doing lending of this sort and we thought it was worthwhile trying to sustain the system.

Anne Glover: You asked whether there were businesses being missed by either of these approaches. I think there are. I would argue that it is not so much businesses as opportunities that get missed; in other words, we are rather good at starting companies, or even rather good at getting them up to a certain small scale, but the financial ecosystem as it is currently-I am not talking about what it was-does not necessarily encourage those companies to stay as the global leader in their space. There is a combination of factors happening here, which is a little bit of the public market point that Katie is bringing in, which is that, even if you do get listed, you are not able to scale because there is not the support, the price is not as competitive, and you cannot make acquisitions. That means it is rather difficult for us to maintain a leadership position. So it is not just the valley of death; it is taking those opportunities and creating heroes out of our entrepreneurs. I was saddened when Mike Lynch sold his company to HP. It was 8.6 billion. That was a venture-backed start-up in the mid-1990s. It required venture capital because he was a very ambitious leader who went on an acquisition spree.

Katie Potts: We put money in before there was profitability in the public market.

Anne Glover: That happened in the mid-1990s; it is not happening today. We can look back on our laurels. I am worried about right now.

Stephen Welton: That is an excellent point. For the start-up and innovation phases to work you have to have the next stage on the next rung of the ladder, because it provides the liquidity and returns to the early investors and entrepreneurs can fund more start-ups. When people talk about equity gaps, there is more than one; there are multiple equity gaps. It will always be hardest to start up a company from scratch. A lot of companies fail because they do not have commercial viability, but a lot of companies are then getting to the first phase where they have a commercial product and sales; they have gone through proof of concept funding, and they then need to scale up. It is a completely different set of challenges.

Then there are challenges of management as well as product commercialisation, and the amounts of money are considerably greater. They are going to go beyond the realms of what either individuals or venture capitalists can fund. That is where you need growth capital. The returns for growth capital are clearly lower because you are not looking for a home run; you are looking to try to build something that has already got a degree of substance. The more you can make that part of the market work, the more it will reinforce the financing for start-ups. As businesses get bigger, it becomes easier to raise capital.

Katie Potts: I have raised two venture capital limited partnerships without any tax subsidising from institutional investors. Regularly I say at my venture meeting that I just do not get why we should take the risk of investing in an early stage company that needs 10 million to get to revenues when we can buy things cheaply in the quoted market that are already profitable. Looking investors in the face, I say it is better for them to put money into the quoted market.

Stephen Welton: Maybe that shows there are opportunities in the quoted market, so for the 10 million venture start-up you have got to find something more compelling to do that. I think the fact you can raise money for businesses that are more mature in and of itself is not a bad thing. What we want to do is expand the number of growing medium-size companies. Based on the research we have done, there are 5,000 companies currently in the UK turning over between 2.5 million and 100 million, growing in excess of 10% per annum.
These have grown well; they are not growing at 50% compound per annum. Those are the businesses which can go from 2.5 million, 5 million, 10 million to 20 million. The economic effects of that are dramatic in terms of employment, tax revenues and everything else, but that market needs funding from investors and banks. If that market works well, it does not necessarily mean that the start-up end of the market is working well, but it will clearly be a healthy part of the ecosystem, because the more this continuum of finance is proving to be successful the more it will help all companies.

Anne Glover: I think we are hearing a theme here, which is public growth and venture. We are all suffering from a lack of local capital interested in taking risk. All three of us are trying to raise capital in today’s market. Stephen, you have already done it, but through rather unusual means. It is the lack of appetite for risk at any of these stages that is present in today’s financial markets that we have to address.

Q60Hywel Williams: Do the Government do enough to encourage serial entrepreneurship? We have heard, for example, that failure is less stigmatised in the United States than, say, in the UK. Is initial failure too stigmatised in this country to promote serial entrepreneurship?

Stephen Welton: I would pick up the point that Anne made. I think the entrepreneurs who create successful businesses really are heroes, and they are local heroes because they start in all different parts of the country. We do need to have Government as well as the media promoting entrepreneurial activity. Even in today’s environment, entrepreneurs are not vilified as doing something wrong. We want to get behind entrepreneurs. These are the people who have the ideas, courage and ambition to set up businesses. We should focus more on what it is that makes an entrepreneur successful. Often failure may be that you are just not realising your potential. Sometimes the best advice to an entrepreneur is, "This particular idea isn’t going to work. You’ve got a lot of potential as an individual, but try something different."

Maybe there is an element of serendipity in doing that, but, focusing right now on where the economy is, there is quite clearly a lack of investment. That goes right across the cycle, and that will be true of the largest as well as the smallest companies in the country and is reflected by the fact that companies are hoarding cash. If you look at the SME sector now, they are net depositors with the banking system, which is absurd. You have small companies effectively lending money to the banks because they are not investing. I think it reflects a culture now that there is an unwillingness to invest, and partly that is to do with confidence, but it partly reflects the need to promote entrepreneurship. Government can definitely play a part there.

Katie Potts: At a higher level it is completely bewildering to me that pension funds are happy to buy Government bonds that yield negative returns in real terms rather than own equities that can yield 3% or 4%. The stock market is incredibly cheap relative to bonds. I do not understand actuaries driving allocation.

Anne Glover: I would like to give you a piece of good news. I think that problem is solved and you do not need to worry about serial entrepreneurs any more. In our latest fund 70% of the people we back are serial entrepreneurs, not all of whom have been successful. I would not say that the cultural challenge that I encountered when I came back has gone completely from every pocket, but it has largely gone. Entrepreneurs’ relief has been very helpful in attracting people back into that risk-taking mode. It is not the people that we are missing.

Matthew Bullock: I would say it depends on how you fail. There are good and bad failures, and people watch that. If you fail honourably, by and large people say, "Okay; you’ve tried your hardest and it didn’t work out. That’s fine." If you commit fraud and burn people, they remember it.

Q61Chair: That has always been the clear case in the US. There is an absolute distinction between the person who takes somebody for a ride and the person who goes down honourably. Do you think that is more the case here now?

Matthew Bullock: I do. I agree with Anne that we have come on a long way, and people can have honourable failures and start again with a different idea. To be clear, the truth is that we have had an economy that has been pumped up on debt steroids for a long time, and, as we withdraw from that, it is going to be enormously painful for a very long time. There is going to be very little cash. As a company we have managed to raise a bank loan. It took us a long time when we thought we were a pretty successful company, and we just went through a great moil with the banks. They are suffering from the de-gearing from the phantasmagoria they created.

Q62Hywel Williams: This is a comment rather than a question, but I think it is counter-intuitive. It was picking winners but is picking losers, and there is some mileage in that.

Matthew Bullock: To be clear, if an entrepreneur can get venture and equity capital, it is by far the best route, but it is not very frequently available. Is it 4% of businesses who get some venture capital actually get finance, so 96% do not get equity finance of one sort or another? Are we going to say to them that they cannot get into the business? As a banker I was very happy to deal with the 96%. I was very happy for the 4%; it was terrific, but let’s keep those percentages in mind. There are 96% of people who do not get venture capital who could still be in the business, and those are the ones who could grow slower businesses but build up their skills. To come back to Stephen’s point, growth capital is more frequently available than start-up capital. My experience is getting people to the base where they have got a business, got the experience and know their markets, which is very important. In this country’s approach, as Government, you are the biggest customer in Government; you have the most technical demands; you have an enormous range of things that you would like to see developed. We absolutely do not use it as an engine of growth; it is absolutely absurd.

Q63Roger Williams: I have just had a message to say we are back in recession, or a technical recession, so perhaps the Government will focus on these things a little more. Banks are not really held in very high esteem in this country at the moment. Do you think there is a lever there that Government could use in some way to encourage banks to be a bit more generous-that is the wrong word-or to invest with greater passion in some of the businesses we are talking about?

Stephen Welton: We have to remember that banks are there to lend money and therefore they have to be repaid. It is a pretty old-fashioned idea. To pick up Matthew’s idea, we have gone through the last 20 or 30 years with an explosion of debt finance, whether that is for companies, individuals or countries. One can see the consequences of that now. What we absolutely need is a banking system that is working very well but is prudent, because to lend too much money especially to small companies too early, to go back to the point about cash flow, will lead to inevitable consequences and the business will fail. What is important is to make sure businesses are soundly capitalised and they raise the right type of finance. If they are a small growing company, they can raise invoice discounting on the back of their debtors. There is a continuous debate about whether banks are not lending or companies are not borrowing. There is probably an element of both. There is a need to get the banks to lend, but companies need to be prepared to borrow and be happy with the terms on which they are raising that debt.

Part of the answer here is to look at the whole picture. From our standpoint, when we invest in companies we put capital on to the balance sheet; we strengthen the management by putting people on to the board; we review the financial and strategic plans; we challenge the management. All of those things are a good thing. We turn round to the banks and say, "Given all of that, this must be more creditworthy. Therefore, you should lend more because it is a stronger capital base." In my mind that is a much more practical way of trying to address this. We need the banks to be lending but to make sure that borrowers understand how to borrow. How do you approach a bank? What is a bank looking for? I do not think that in terms of what we are talking about here for start-ups you will get banks lending large sums of money to businesses that have no proven cash flow, because then it is not a loan they are making; it is an investment, and they need to recognise it as such.

Katie Potts: Primarily, the banks should fund the growth in working capital for a growing business, i.e. to fund stocks and debtors, whereas equity is needed to fund development costs.

Matthew Bullock: If you go down the cash flow profile of a start-up, you will start up with development expenditure, which is people’s equipment, laboratory space and so forth. Then, if you stabilise the product, you will start to invest in machinery to produce the product, and you will have to start to invest in marketing and distribution. To go back to what I said in my evidence, IBM’s rule was that it was one, three, 10: one to stabilise the product; three to get it ready and manufactured; and 10 to market it. For some technologies it would be bigger than 10. If you are a small company, you will have to find 13 units, as it were, before you even start to get a sale.

You do not know whether you are going to get a buyer if you go down the speculative route, which is the hard company route. It is very hard for a bank to say, "I’m going to invest all that money in the hope that you have judged this brand new market correctly." We turned it round the other way, which was to say, "Do you have a sale? Do you have somebody who will actually buy something from you?" Typically, they were large lead customers. Then we would say, "Get a contract from that person and we will then finance it." He did not have any of the major manufacturing expenditure because typically it was a softer start; he did not have the marketing expenditure; and he was therefore able to start the business at a much lower figure. That is bankable. The kind of company that goes off down product development and then takes the product to market has to have equity finance. Banks cannot touch that and deal with that.

Katie Potts: Why can we not require pension funds to have an allocation in their portfolios to equities or UK or European smaller company equities? It would not cost anything.

Anne Glover: As to our portfolio, those who are qualifying for bank loans can find them. It is the equity capital that is missing in today’s environment; it is the follow-on equity capital and the exit equity capital in the capital markets.

Q64Roger Williams: It is unrealistic to expect that banks would change their criteria against which they would lend to these companies.

Matthew Bullock: Although it is tighter because basically there is less money around, period, banks are continuing to lend in this way. I have now left Barclays, and I do not think they have the same focus team they had when I was there. As a way of doing the business, it is still possible to get that kind of finance, but it is against many other priorities where people are clamouring for finance. As a bank it requires quite a commitment to do it, and I do not see that at the present time.

Q65Roger Williams: Over the years many organisations have been charged by Government to lend in to SMEs. In hindsight, some of those have seemed to be quite successful. I think 3i was set up in 1994 or something like that.

Matthew Bullock: In 1946, after the Macmillan gap.

Q66Roger Williams: So in a way we are not dealing with a new issue.

Anne Glover: They called it loans but it was actually equity that they provided.

Matthew Bullock: They used to provide convertible mortgages, so if they gave you a long-term loan and took the freeholds of your property they would take equity in your company. When I was starting in finance in Cambridge that was what 3i offered. From a bank shareholder point of view, it did not make a very good return for a long time; I think it made below 10% return. In the end, banks were quite happy to get rid of you.

Stephen Welton: I think that is too much of a simplification. If you look at the creation of ICFC after the second world war, that was created on the back of the Macmillan report, which he worked on with Keynes to look at small companies. This is a long-standing problem, and it will be here in another 70 years. Small companies will always find it harder to raise capital. ICFC was very innovative for its time; it effectively created the venture capital industry in this country. A lot of people who worked at ICFC, which went on to become 3i, now populate the private equity industry and that model was replicated across the world, so it clearly worked. What happened over time is that the very gap ICFC was set up to address, which was small amounts of capital, maybe by way of loan capital, preference shares or ordinary shares, moved away from its roots, so it became a private equity firm operating on a global basis doing what other private equity firms are doing. I am not saying that is wrong; it is just a natural progression that it made as a company. In doing that it moved away from providing small amounts of capital to lots of companies.

Matthew is right in the sense that the return from investing in lots of small companies is not as great as investing tens of millions in a few companies and having some good successes. I suppose the capitalist system works on the basis that capital will always go to the highest returning asset classes, and buy-outs and private equity have performed very well. They are not performing as well now because the leverage in the system is reducing. If I look at what we are trying to do, essentially it is to go back to where ICFC started. We are providing between £2 million and £10 million worth of growth capital to small companies. It is harder to do that because we need to have a lot of people right across the country to talk to lots of companies, but our own experience in a few months shows that there are lots of companies who are interested to talk to us because we are providing something they cannot get anywhere else. There is definitely a structural gap here and the challenge is to fill it, recognising that it is only part of the solution. That goes back to the point we are all making that there is a continuous range of issues here.

Q67Roger Williams: You would say that the business growth fund that you operate at the moment is the current institution that takes the place of ICFC or 3i.

Stephen Welton: We have some similar historical origins in terms of how we have come about out of a recession with the support of the banks encouraged by the Government. There are direct parallels there, but it would be naive to think that one institution alone can plug a gap. We can certainly make a big impact on that. The much bigger effect will be how we work with the banks generally and the banking system generally, because, if banks are lending more to SMEs and SMEs are borrowing more, the economy will be healthier. One of the things we are tracking now is the population of companies that are growing at 10% per annum. It was 7,000 companies three years ago; it is now 4,000 companies. A very simple litmus test for us is that on a quarter-by-quarter basis, if those 4,000 become 5,000 or 6,000, the economy must be healthier. It is no more scientific than that, and I do not think it needs to be. It is a reflection of the fact that there is growth at the bottom of the economy.

Q68Stephen Mosley: On the business loan fund, what sort of metrics are you using to determine whether or not you are successful?

Stephen Welton: Following on from the previous comment, this is a structural gap. If we are here in 10 years I think we have been successful. To be here in 10 years we have got a commercially viable business, because we have shareholders, who are not running a charity and expect to get a return on their capital. In order for us to be commercially successful, we have to back businesses that are in turn going to grow and be very successful. We are very confident that there are a lot of companies in this environment, even if we are back in recession, that are growing.

Maybe entrepreneurs are by nature schizophrenic individuals. The companies we talk to are almost bashful about telling us they are growing. It is almost as if they think they are tempting fate by saying, "We’re growing; maybe we’ll stop growing, or maybe somebody will come and clobber us." There is a lot of enterprise and innovation. These are businesses that will be able to capitalise on the weak environment we are in. A lot of the successful companies you are going to see in five and 10 years will be growing right now. They will be the ones that are taking advantage of what is a different view of the world. When the economy is growing and every company is growing, it looks easy to make a business successful. It is not. The really good quality companies of the next five to 10 years are being created now, so we are very positive, frankly. In a way it is self-selecting, because the companies that come to us are by definition more ambitious because they are talking to us about raising capital, but we have not seen anything to suggest that it is a very small segment and that companies are not prepared to sell a stake in their business if they think they get something for that. It has to be about more than just money, because I think you will hear a consistent theme that for small companies to succeed they need a range of different things. Expertise and help are as important as the money, because money invested in the wrong area will clearly not make a return.

Katie Potts: On a brighter note, I have about 120 investments in UK tech companies and there is not a recession. I am old enough to have dealt with recessions in the past. In 2002 every conversation was, "What’s the burn rate? How many people are you making redundant?" It is not that environment at all. Now we hear, "We cannot get the right skills; it is hard to recruit."

Anne Glover: It is not a global recession in tech; I agree with that.

Katie Potts: It isn’t a global recession in tech.

Anne Glover: No; it is not a global recession in tech; tech is doing very well.

Katie Potts: But there is a shortage of capital for new start-ups.

Matthew Bullock: We have come quite a long way; we are not back to the 1940s, as it were. The management community-people who have been involved with companies and have that expertise-and the simple density of angels is much greater than it was. Companies are growing, and I would echo the comment that it is not in a recession there. It is clear that the banks are more difficult to deal with than they were. If I look at the 1990s when the Centre for Business Research did continuous studies of the availability of finance, there is no question that finance became more freely available to small companies. It dropped down as a barrier to growth versus availability of skills. It has come up again. Is it going to be insuperable? No; it is just difficult. On both the bank and equity side it is more difficult. Because of our experience in the last 30 years we have built a much more robust entrepreneurial community that can cope with that, but it is important we do not think there is only one way to start a company. There are many ways to start a company, and we have an active start-up community that is continuing to form companies, and when the equity comes back undoubtedly they will be there to take advantage of it.

Q69Stephen Mosley: One issue that has cropped up several times in the discussion has been the availability of pension fund money. The regulators are encouraging pension funds to invest in things like bonds, which are well understood; there is plenty of information about them; they can make predictions as to their future earnings, growth and so on. When it comes to small equities, you do not have that information. What sort of information is needed? Is there any way that we can improve the information that you get on companies in AIM or before that?

Anne Glover: That is the fallacy; it is about taking risk and allocating a small proportion of a very large capital base to long-term risk equities. You could do a statistical analysis on history, but even that would not tell you very much because it is about the future.

Katie Potts: The frustration is that the long-term records show that small companies have out-performed. One of the problems of the abolition of defined benefit pension schemes to defined contribution is that corporates do not then have a vested interest in maximising the return; they just want not to get into trouble.

Matthew Bullock: I think that is true. The environment for trustees coming on to pension fund trustee boards is to minimise risk. Companies themselves have to put in large amounts of capital so they do not want to make any mistakes, and the trustees are told in the regulatory environment, "Your duty is to make sure that you take no risk."

Anne Glover: It is a real problem. Only yesterday I was sent through the data on what is happening in venture. I found it fascinating that Katie came up with exactly the same figure for public markets. Less than 20% of the capital provided to venture now comes from major financial institutions: pension funds, insurance companies and banks. All of them have withdrawn from this risk category because of regulation. Much of it is at the European level; you have Solvency II for the insurance companies, Basel III for the banks, and now you have the EU Pension Funds Directive coming through as well. Then you compound it with the asset allocators basically saying, "Go for bonds instead of equities", and our savings industry-this group of equity providers who are managed institutionally-do not support the equity culture that is required to build high-growth companies. We have to completely reinvent where we go to raise our capital-from family offices and individuals.

Katie Potts: We used to hide behind the pension funds and insurance companies because they were responsible investors with good corporate governance and kept pay under control. Why has pay gone out of control in the private sector? It is because pension funds are not there.

Anne Glover: We need to figure out how to address that issue for the whole chain to work.

Matthew Bullock: And the love of trading. To take the banks, I have to say that the big shift in the financial sector is from "invest and hold" to trading.

Q70Stephen Mosley: As MPs we get constituents coming to us with good business ideas. Sometimes they are running their own businesses and they are looking for finance. We also get people who have either sold a business or, in many cases, have very substantial sums of money they want to invest. They say, "Do you know how we can get more funding or how we can invest some money we have got?" In both those situations what would you advise? Can people with money come to guys like you and say, "I’ve got x million to invest"?

Anne Glover: Yes, they can.

Stephen Welton: I tell you how we address that. We are fortunate that we have a substantial capital base, so we do not need capital. What we definitely value, though, is expertise. We have private investors; they could be angel investors or exactly the sort of individuals you are talking to. They have sold a business and have a lot of capital to invest. We are very keen to work alongside them. If a company needs £3 million and we have a private investor who wants to put in £1 million, we will invest £2 million. We do not mind how much we are investing. We would prefer the latter because we get the benefit of somebody who, in the great phrase, has got skin in the game. They have money in the company and take it more seriously; they commit more time to it. That is a very positive thing.

How you get pension funds to invest is a different issue. As to how you get private individuals with money to invest, I do not think that is a problem. In my experience, most individuals who have made a lot of capital are quite keen to reinvest it. They like working with small companies because they understand it; they think it is quite fun and enjoyable, and clearly tax policy is trying to encourage that as well. I do not think that is a problem area. As Anne said, there are enough serial entrepreneurs out there, so if there are issues they are focused more on the institution than the individual.

Katie Potts: I would say they should go to the British Venture Capital Association for the list of people who invest in various companies.

Q71Graham Stringer: In answer to previous questions you defined a number of issues that are important to successful companies, but when you look at where the UK Innovation Investment Fund has invested, approximately half of its investments have gone overseas. Why is that? What are we not doing as well as the Germans, who take half of that half for their investment? What are they doing better than us? Why are we not getting more?

Katie Potts: From my perspective, Germany is not innovative. Germany has been fantastic at making its big companies even bigger, but there is not innovation in Germany. The start-ups are in Israel and America.

Anne Glover: I do not know the answer to that. The decision making on some of them has been extraordinary. I agree with Katie that it is not particularly because Germany is more innovative.

Katie Potts: There are successful first generation businesses in Germany.

Stephen Welton: As to where the Germans have clearly been successful, they have coined this phrase that everybody trots out about "Mittelstadt". Everybody talks in hallowed terms about the "Mittelstadt", which is the backbone of the German economy-that is, medium-size and small companies up to companies like Bosch and huge global engineering companies. What the Germans have shown they can do very well is build a business for generation to generation, so there are more examples of family companies going through generations than in this country or the US, where there is perhaps a tendency to sell and capitalise on the gain you have got. I think they are very good at harnessing Government and exporting very well. They use their commercial power as a country to support their small and medium-size businesses. That is something we definitely should be doing, going back to what Government can do here. Trade missions focused on small companies, technology and innovation are clearly a very good thing. The likes of Rolls-Royce are fantastic businesses, but look at all the suppliers to Rolls-Royce or all our automotive companies. The Germans are very good at getting behind those sorts of small businesses.

Matthew Bullock: The German model is a real puzzle. Even though we have done a lot of research on different industrial policies, we do not understand clearly how the German economy works in the Mittelstadt. One thing that I think is clear from the research we have done is that the role of the trade associations has turned out to be more important. They create, if you like, communities in sectors whereby the large companies tend to have a clearer relationship with their small suppliers and place contracts with them. I would say that is very non-existent here. When I was in the bank I used to deal with GEC, Racal and people like that. The bank had a 40% market share. We knew all these small technology companies. I used to say to them, "Are you interested in seeing these small technology companies? You might find something of interest." One finance director said to me, "Why should I pay any interest? I’ll just wait until the banks put them into receivership and then pick them up cheap."

Anne Glover: The German venture industry is suffering in exactly the same way as the UK and a number of countries, so it is not isolated at all, but one thing it does have which we do not is a big private wealth management industry. There are lots of German doctors and dentists who will add capital to funds. This is entirely speculation. I know that the innovation fund has always required matching investment, which it should do, so it is entirely appropriate; but the German VCs I know have been able to raise money from those domestic sources more easily than the equivalent domestic sources available in the UK.

Q72Graham Stringer: I have diverted my own question on to Germany, whereas I was interested, if not more so, in what this country and the regions, which again do not do as well as the south-east, could do better to attract funds. What we are interested in as a Committee at the end of the day is what recommendations we can make to Government to help small businesses in this country do better. What is missing?

Matthew Bullock: One of the things that we have done in the eastern region is set up an SBIR programme in the health sector. This was done when we had EEDA, and obviously such entities no longer exist. It has been quite interesting. I met a company that had got one of these contracts. It is producing an innovative product that has some legs on it; it is a device. That was done at a regional level. It was capable of being done at a regional level, and it is producing a number of companies that have got into business as a result.

To go back to Germany, Germans are very regionally as well as sectorially oriented. They find it easier to put together their thinking at regional level than we do in this country, where everything is very metropolitan and goes straight up to London.

Stephen Welton: As a very recent experience, we set up in May of last year. One thing that is absolutely critical is not to be a London-centric organisation, dealing with the UK from London. Obviously, the south-east is an important part of the economy, but it is a part of the economy. The thing we were adamant to do right from the beginning was to be regional. You need to be local to the companies that you are talking to. There is a lot of expertise around the country, which was why we set up six offices around the country very rapidly. The thing we found hardest to do, which was a surprise to me, was that, when we started to open offices and expand, the professional services communities in some of the regional cities in the country-that could be in Bristol or Manchester-had diverted their own resources away from helping small companies to raise capital because it was not very profitable. We need to be reinvesting in the professional services communities around the country because they are important. The accountants and lawyers who deal with small companies are often the source of advice and mentoring to get them to a bank or investor. That will definitely help in promoting things regionally and making sure you have expertise-and, critically, that you have real accountability and decision making locally.

If the banking industry have a challenge, it is that they have centralised their model so much that the credit committees are all-powerful, and a lot of the local credit officers in the regions do not necessarily know what the outcome of the credit committee is going to be. That is not empowering the people on the ground, who have to make decisions that are pretty fundamental. Do you trust the people you are backing? The judgment of people, understanding how they sit within their local community-all these very old-fashioned business principles-are critically important, and we need to do more to invest in that. I think the banks are taking that on board just in terms of the qualifications of the people working within them to make sure their regional centres have more power than they used to, so it is going to regional credit committees rather than national credit committees. Things like that, which are perhaps unseen, will start to make a difference.

Anne Glover: To dovetail a couple of ideas that have come up in this conversation, local authority pension funds could become a major player in the provision of equity capital for SMEs across the UK. They probably need to be coordinated through a fund-of-fund programme and incentivised to do it as opposed to being told to do it. It would be possible to create a win-win situation if you created a fund-of-fund type of activity, with the local authority pension funds getting a benefit from being asked to participate in some way if the Government could figure it out or perhaps create that on the fly. That would be a way of involving local authorities.

Chair: Thank you very much for a very informative session. I have let it overrun a few minutes because it was a very useful session and we are extremely grateful for your time. I know there will be some follow-up questions. I have had to stop colleagues pushing harder. Thank you very much for the session.

Examination of Witnesses

Witnesses: Dr Richard Worswick, Chairman, Cobalt Light Systems, Dr Peter Dean, founder and Chairman, Cambio Ltd, and independent consultant, inventor and entrepreneur, and Dr Trevor Francis, Technical Director, Byotrol Technology Ltd, gave evidence.

Q73Chair: Good morning, gentlemen. Thank you very much for coming. I know you were listening to the previous session. Would you kindly introduce yourselves for the record?

Dr Dean: I am Peter Dean from Cambridge.

Dr Worswick: I am Richard Worswick. I am currently a non-executive chairman of a small company called Cobalt Light Systems Ltd, which has developed sophisticated instruments mainly for use in the pharmaceutical industry and for airport security, using novel Raman sceptroscopy, which arose from work at the Rutherford Appleton Laboratory, part of the STFC. I was previously the Government Chemist and chief executive of the Laboratory of the Government Chemist. In 1996 I led a management buy-out to purchase the laboratory as part of a competitive privatisation. As chief executive of the company I formed, I developed LGC into an international company with laboratories and offices in more than 20 countries. In recognition of LGC’s achievement I was awarded Entrepreneur of the Year in 2003. I should emphasise that I finally ended my involvement with LGC a couple of years ago when the company was sold to Bridgepoint. During my career I have had experience of both the private and public sectors and small and large companies.

Dr Francis: I am Trevor Francis. I am director of technology for an SME called Byotrol based in Daresbury. We are an AIM-listed company employing 27 people. Our technology is an anti-microbial technology that is applicable for hygiene disinfection. We also have a consumer division where our products are currently found in Boots, Tesco and other locations.

Q74Chair: I can see Daresbury from my garden. Welcome to all three of you. You are here to tell us about your experience, if you have had it, of the valley of death. Have you been there? When did you realise you were there?

Dr Worswick: In my career financing has never been straightforward, but I have to confess that I have been very fortunate in not having experienced the valley of death. It was a term with which I was not particularly familiar until your inquiry. I should emphasise that my experience at LGC was quite different from my current experience with a very small company, Cobalt Light Systems. LGC is a science-based service company and grew from a turnover of about 14 million when I took it over to well over 100 million in less than 10 years. It now employs well over 1,000 people in many countries.

I think the toughest part was the initial growth. There are certain barriers when a company grows. Getting to 50 million for us was a huge achievement. During that period most of the expansion was funded from revenue. To pick up a point made at an earlier session, early sales-particularly of services-enabled us to generate a good cash flow, even though we were not particularly profitable. We used that cash flow to invest in new ventures. We also got bank loans, particularly for some acquisitions, both in the UK and Europe, but the 1990s was a period when it was relatively easy to get such loans. We also received some modest regional development funding when we wanted to expand in the north-west, which was psychologically quite important.

Q75Chair: Was that from the RDA?

Dr Worswick: That was from the RDA, yes. In Germany we received some generous capital allowances from the federal state of Brandenburg because we had a company just south of Berlin that was very innovative. Their allowances and the relationship with the local government there was one of the reasons we decided to invest more in that area in Germany.

Q76Chair: Before I ask the others to respond, in both the UK and Germany the availability of funds through a regional government structure made a difference to you.

Dr Worswick: It made a small difference. I do not think it would have changed our decision, but in the north-west it enabled us to take on more people more quickly than we would have been able to do. In Brandenburg we decided to invest quite heavily in equipment. We got very good grants. I think it was 50% of capital on instruments and so on. That was very attractive at a time when we were not flush for cash. That reinforced our decision about that area. There were other reasons why we wanted to expand in Germany, but that was one of the factors.

Coming to equity finance, for LGC our initial investor was 3i, but their cash input was relatively small. Once we got to 50 million we could afford much more in the way of infrastructure, business development and so on, and in 2004 we brought in a new investor, Legal & General Ventures, and got a lot of capital and bank finance which we could use for a further phase of growth.

Just to finish, and I don’t want to hog the conversation, Cobalt is very different. Cobalt Light Systems is a small company making the liquid bottle scanner that can be used at airports. It scans a bottle in four seconds and tells you whether there is an explosive, or something like it, inside it. It got going as a company only three years ago. I joined as chairman in March 2009, and the chief executive, Paul Loeffen, was appointed shortly after. Current sales are only about £1 million per annum, although we have plans for a very rapid expansion over the next 18 months. The initial investment of £700,000 came from Oxford Technology Enterprise Capital Fund, a Government-backed seed fund, Rainbow Seed Fund, a few private individuals, and the Research Council, STFC, put in money. We have since borrowed money from HSBC for working capital, which I can talk about.

Dr Francis: We are in the valley of death as a small technology company. We went a different route. The founder of Byotrol is Stephen Falder. His family owned a paint company in Manchester. They put family money into it initially and got some additional seed money. In 2005 they went to AIM and got AIM-listed on the basis that there was no alternative source of income for them. That has taken them down a route where they need to commit to sales targets and delivery against sales revenue at a time when the company is looking to try and expand its technology base and build its capability. As we speak, we are trying to balance our cash flow against our sales commitments, identify new markets in which to sell and, equally, to try to find sources of revenue to fund new technology programmes that we would dearly like to run.

Q77Chair: Are you seeing light at the end of the tunnel?

Dr Francis: We are in a joint development agreement with a Fortune 150 company. That joint development agreement has had an extension of six months to this summer while it carries out some market concept work. If that comes through, we will see light at the end of the tunnel; if it does not come through, then we will see a longer tunnel, I suspect.

Dr Dean: One of the biggest problems I have seen over the years, which is a stumbling block within the valley, is the appalling attitude in our universities towards patenting. In the UK we suffer from having a patent system that is not a level playing field with the rest of the world. In a paper which I have prepared for you I make the point that Japan, USA and Canada all have grace periods that we do not have. I know the European collective system is improving and is up for further improvement, but in the British university context one of the difficulties is that there is no patent strategy to guide the inventor through the process.

I think one of the reasons why your colleagues picked me out was the invention to do with diabetic management. I was happy enough to get asked to solve the problem in the ’80s. We produced a patent, which the university did not support financially in any way. The company involved, which was Canadian, suggested that they take all the patent costs and run the patent for us, which was fine. At the end of six months they pulled out; they said they had changed their objectives and were doing something else. As a result, the university of Liverpool was asked to support the patent through its foreign filings and whatever. It refused to do that, and the patent was sold to the USA for a pittance. The USA completed the patent. There are 283 million diabetics in the world. That university of Liverpool test is used pretty much throughout the world, but there is no royalty coming to this country because of the failure to strategise the patent process. To me, that is one of the stumbling blocks within the valley.

I have had seven companies start up with me. The one I am in currently has much more serious problems within the valley. We are getting in enormous revenues from the States with crucifixion on the time it takes to clear cheques, would you believe? It can take three or four months, and we are expected to fund that cash flow differential, in an outrageous manner in my opinion. This is because the international banking community insists on protection against money-laundering, blah, blah. It is all perfectly valid, but, believe me, when you are in the valley, it is hell and I wish that we could do something about it. If Government wish to do something about the situation immediately to create a level playing field, it would be to improve our patent system so that we enjoy the same grace periods or at least a level playing field.

Dr Francis: To comment on Peter’s view on patents, I recently sat as a panel member at the R and D Society, which reviewed Sir Tim Wilson’s business-university collaboration paper. The vice-chancellor of Cambridge, Professor Borysiewicz, made a very similar statement about the ownership of patents within universities. The patent process definitely needs looking at for the particular reason that universities may well come up with technical know-how; they identify it and file it as a patent. The complication is that to maintain patents becomes very expensive. We spend in the region of £500,000 a year simply protecting our patents around the world. When you are a small £2 million or £3 million business, that is an incredible amount of cash flow that you need to manage. However, we are a technology company and we thrive on new technology and patents.

The difficulty is that, if a university, having filed a patent, decides after two years that it does not want to continue to fund it because it is no longer of interest, it simply lets it lapse. That puts it into the public domain. Companies like us do not even know about the patent because there is no national database you can search to identify patents of relevance to you as a business. That simply passes into the public domain instead of potentially passing to companies that could equally use that patent for knowledge and exploit it.

Q78Stephen Metcalfe: We have heard conflicting reports or different views on the best way to support a company in its early days, whether that is access to some early major clients or finance. Which of those two do you think is more important? Please do not say "both". We want you to decide which route you think works best.

Dr Worswick: If I could speak for Cobalt Light Systems Ltd, this was technology that came out of the Research Council, STFC, and the Rutherford Appleton Laboratory. It was very fortunate that that laboratory had an innovation unit, which incidentally handled the patents. We have not had the same problems because they were quite savvy about the things that needed to be patented. We obviously pay for them now, but the work had been done very well. It is important to remember that the time taken to go from proof of concept to a product that is marketable is quite long. Before our company was even formed, they supported quite a lot of work-£5,000 here, £10,000 there-showing that this technology had applications.

That led to the forming of a company. Again, that innovation unit, of which I have had good experience, was very instrumental in finding investors and so on. Clearly, in getting that thing going, the initial capital is absolutely vital. Having said that-I am not going to say both are important-early sales are incredibly important, because not only do they bring in cash flow but they give you experience of the market and an understanding of how you manufacture or provide a service.

Taking up a point from the earlier session, Government can be incredibly helpful, particularly in novel technologies like Raman spectroscopy. We were fortunate in getting an early contract from a Government Department, which involved a certain amount of development, and making some early sales to the pharmaceutical industry. Investment is very important, but I would say that getting going and pulling yourselves up gradually through sales and processes is perhaps more important.

Q79Stephen Metcalfe: But you started off with finance.

Dr Worswick: A little bit of finance to get the thing going and then early work and you gear up, but it takes time, and it has taken a long period of time even to reach the point we are at now.

Dr Francis: I would definitely say that customers are more important than capital. We have been fortunate in a couple of our directors. I had a long career with Unilever, so it gave us real influence, action and entry to a number of senior people not only in that organisation but other people you can network. I think it is the selling of innovation that is one of the most difficult parts of the total process. I know that the Committee has spent a lot of time looking at the finance, venture capital and access to funding, but, if you look at the complete process of commercialisation of research and understanding what the customer needs, selling a technology that is looking for a solution is incredibly difficult. If somebody has a problem and you can solve it, it is incredibly easy.

In Unilever there were scientists who had worked in research for maybe 25 years and had never seen one single piece of the research on to the consumer market. On the other side, there are all these orphans-i.e. technical ideas, sitting in research that never got commercialised. First and foremost, I think it is the customer.

That takes me on to Richard’s previous point about Government. We at Byotrol try to sell into the healthcare sector. Healthcare in the UK is dominated by the NHS. I know you have heard it before, but when I was at Liverpool at an innovation conference about nine months ago, the lady chairing it was a BBC presenter who had been on "Tomorrow’s World" and so on. She said she was doing a documentary to be called "Seventeen". When asked why, she said that it had taken 17 years for a small technology company to get innovation into the NHS. As you can imagine, most small companies do not have that period of time.

Q80Chair: You must relate to that.

Dr Dean: I agree with the other two. Customers have always been first. We have been asked, for example, by FSS to provide support in various things, all funded by ourselves but they were the customer. I think it is a pointless comparison, because Richard’s point was that you needed to get proof of concept before you get anywhere near a customer. Of course, that does cost money, but I would say, as a small business in biotech, that customers come first and always have done.

Q81Stephen Metcalfe: As we have already discussed, one of the biggest potential customers is Government. It operates, via the TSB, the Small Business Research Initiative. Do you rate that as a way of stimulating innovation and supporting businesses in this sector?

Dr Francis: We had one entry into SBRI; interestingly, it was for a hand hygiene system for the NHS. We thought we were pretty well placed for it. We did not get it; a new and more novel technology did. I do not know how that technology got on. My view about SBRI is that there are probably better schemes that are more relevant for us as a company. We were fortunate to receive from the North West Development Agency what was called a grant-now a SMART award-and we recently put in a European WP7 application. We are also looking at KTPs. It may well suit other companies, but for us there are other more interesting opportunities.

Dr Worswick: Coming back to the point about the NHS, at LGC I spent the best part of a year of my life trying to sell genetic services to the NHS. I went round lots of hospitals and met lots of people in the Department of Health and so on. After a year we decided we could not waste any more effort; it was terribly difficult.

Leaving that aside, I come back to your point about other support and TSB in particular. Cobalt has been fortunate. We got a grant from the South East England Development Agency-SEEDA-which is now of course closed. That was quite important. It was £100,000 to develop a particular instrument. We have just recently been awarded £180,000 from the TSB-the Technology Strategy Board. The procedures there have not been very helpful. We applied last September under an open round and got a huge amount of support from people who said this technology was incredibly important. We did hear very quickly. Within a month we heard informally that our proposal was likely to be accepted. It then went into a black hole.

I have seen it from both sides. I have worked for large organisations. Perhaps a four-month delay for a large organisation is not very long, but last September Cobalt had cash to last it a few months. You have to pay your staff and so on. Knowing that we were getting this would have made a lot of difference. There was a helpline at TSB, which was never answered, and we had unhelpful exchanges of e-mail. They are probably doing the right thing overall, but as a small company interacting with them we found it quite difficult. We have been awarded this grant, for which I am eternally grateful because it is very important to us. The £180,000 will contribute to this airport scanner, which is potentially a huge market and is very exciting.

Dr Dean: One of the problems is that many of the rules for application are rather unclear and complicated. My own view, and that of several people I have talked to, is that the Government are not doing their job if there are too many consultants to help you through this morass of technology information, how to apply and all those sorts of things. Several companies I have been in have applied for various bits of support. One TSB support was very successful: MediZine. It went on to become a substantial company, but for Cambio in Cambridge we have not failed; we just have not got the time to apply, and that is awful.

Dr Worswick: The time to apply is quite important. There is a comparison with the US system, because we are also applying to be on the qualified products list. There you have quite a good system. You just fill in five pages, submit it and very quickly you get a yes/no answer as to whether it is of interest. If it is of interest it is followed up, but you have a filter system, which means that, if you know you have no hope in the first place, you do not waste a huge amount of time filling in very long forms. The way in which you interact with Government Departments is incredibly important.

Dr Francis: To be fair to SBRI, they have that scheme; it is two pages for the very first application phase, and it takes more detail afterwards. When you look at some of the European schemes, they are even more complicated. We put in an application last week and we would not expect to hear anything until July. That is for about £1 million, which would be a significant piece of research activity for us.

Q82Stephen Mosley: We have heard evidence that people find it difficult to navigate the complicated and ever-changing Government funding initiatives. I guess from your previous responses your answer to that would be yes.

Dr Dean: There is an additional complication, which is the business of full effect of the economic costings that go on. You put in for a grant or make a case for some money, to whomsoever, and you find that the institute you want to work with has a very expensive loading, which in a way is paying for something we have already paid for. The business taxing system allows for the fixed costs of universities. Many of the industrial people I have talked to feel that the industry already pays for that. The difference is small and not necessarily a problem; it is the fact that you have to pay twice that comes over hard. There are 135% costings for a typical NHS laboratory for a trial, when we are already paying taxes to support that. That does not seem fair.

Dr Worswick: Coming back to Government support, the one thing that is very simple is R and D tax credits, of which I am a strong supporter. When they were introduced in the mid1990s by Gordon Brown, it took a little while before tax inspectors and companies learned how to use the system, but it is now well established. It has been extended a bit, but from the point of view of small companies it has not changed a lot. It is completely nonbureaucratic, and it has been a real help to us. I cannot remember the sums exactly, but it is of the order of £60,000 or £70,000. That helps our cash flow enormously at Cobalt Light Systems. It did at LGC; it encouraged us to invest more in R and D. I strongly support that system as being very simple and clear cut, and I would happily see it extended.

Dr Francis: My experience has been on two levels. Going back to the Regional Development Fund, at that time our relationship with the North West Development Agency and through some of the business contacts was very good. It was local; they were quite often in Daresbury. You could meet them and have a coffee and talk to them about what you were trying to do, and they would help to guide you as advisers. Within the KTP there are business advisers. The difficulty of being a small company is that you just do not have the time and resources, so you have many people trying to keep a lot of different plates in the air at the same time and running from one thing to the next, never really sitting down and spending a lot of real focused time on saying, "What am I going to do? How am I going to use the TSB? How am I going to get the innovation awards?"

The other point I wanted to make is that companies need to decide almost strategically that they are going to be very focused on going after awards as part of their financing system. You can then spend a lot more time looking at virtually every single award, but that takes a strategic direction, which I do not think many companies take. You have an entrepreneur who has an idea that he wants to get to market, but he has problems with finance and cash flow, and the whole thing becomes a mêlée. More Government advice about what his strategy is, how he will get to market, how he will get funding and whether he has looked at the TSB could be provided for many of these small companies.

Dr Dean: This is all about communication, if the Government were prepared to advertise in places where inventors read stuff- for example, the factual magazine Nature, which is regarded very highly by most scientists as a good place to read things. Very infrequently do I see adverts that promote Government activity in particular areas. I think it is all about simplifying the system and communicating.

Dr Worswick: I would agree with that. The regional support was pretty well organised. Whether one is in favour of regions having their own budgets and so on is another matter, but the network they created was very helpful when you applied to them.

Q83Chair: I take it that for all three of you the simple answer to this question is that you do not know. With the demise of the RDAs, where do you go to find the parallel information and support?

Dr Worswick: I suppose it is the TSB, which is getting going, but I agree with Trevor. If you are very small, you have to make a decision. Are you going to spend a lot of time understanding these schemes and tailoring your application to them, or are you just going to go ahead and do what you can without them?

Q84Sarah Newton: We have heard a lot of discussion about the different sorts of finance that businesses can access or would like to access. What has been your experience of the ease with which you can access them versus your preference? Are you driven to what is easily accessible rather than your preference?

Dr Worswick: For a bigger company, in LGC we had substantial equity finance. I was keen that all the staff should have shares. We had schemes so they would have some ownership of the finance, but we went for bank loans as well. Starting up a smaller company is different. Obviously, you have to start with equity finance. We got that from an enterprise capital scheme and other investors. About a year ago we felt that we were getting in orders and we could do with some support with working capital.

We approached HSBC, with whom I had had a very long and excellent relationship, under the Government loan guarantee scheme. We wanted to borrow £400,000 for working capital on a specific project. It took a fair amount of time but that is okay; they had due diligence and so on. Remember that 75% of that-£300,000-was covered by Government guarantees. They then turned round and said, "Well, the directors of the company will have to warrant the other £100,000." I did warrant for my part; I was in a position where I could afford to lose that amount of money if push came to shove. Another director was able to do that; another director did so for a very small amount. But there was a bank saying, "We’ll lend you money, but you’ve got to cover it all so there’s no risk at all", and for that you pay a premium interest rate. I think 2% is added on for the Government risk premium and so on, so it is about 7% on all of it.

At the end, they said, "Moreover, we’ll lend you £400,000, but we will give it to you in two tranches. We’ll give you £200,000 and then another £200,000 when you’ve met certain milestones." Six months later we thought we had met the milestones. We went before the bank’s credit committee and were turned down and another milestone was produced. In the end, we made lots of protests and got the £400,000. According to my contacts, we were one of rather few companies in the area who got that far, so we have done jolly well in getting that loan.

I make this point not to knock HSBC because other banks-not so much HSBC-have got into terrible trouble with dodgy loans to all sorts of people. They have now reacted and said, "Why should we put £400,000, albeit for working capital, into a small company with a relatively small turnover? The risks are quite high." They probably are. I can see their point of view, but I have to say it was deeply frustrating from our point of view.

Having said that, a month ago we finished another funding round. We have raised £2 million, largely from existing investors, to fund manufacturing. We are optimistic that we are going into a very steep growth phase. Because it was from existing investors who knew us it was relatively straightforward, so we did not experience a valley of death there.

Dr Francis: We went AIM in 2005, for the reason that, as a technology company that is not involved in manufacturing, the heart of the business is the technical know-how that we develop. Venture capitalists really do not want to touch us with a bargepole. We have not got assets. Therefore, we are incredibly high risk. After getting through the early family and seed money, AIM was really the only place to go. I would not knock AIM too heavily. We have been back five times and over that period of time we have raised about £15 million. On at least one occasion we were offered an awful lot more than we were asking for, which we declined, perhaps rightly, because the founder would have found himself incredibly rich. What you then do is squander the money instead of using it wisely.

The difficulty of AIM is twofold. First, at the very early stage as an entrepreneur you go along and then list. You are desperate for money. There is no other choice; you have to get the money or the company will literally fold. You tend to be over-optimistic and commit to sales targets that are probably far too early. It is all about managing the expectations of the AIM market and what you as a business are likely to achieve. Had we gone along and said, "Look, we’re going to take four years to develop our technical base; we’re not going to be delivering any sales", life would have been so much easier. However, in order to get the money, we committed to a sales revenue over a period of time. You are then committed to delivering against that, which then becomes the management focus instead of doing what you really should be doing, which is developing the technology.

Dr Dean: In the 1980s we tried to raise 20 million-odd for agricultural genetics. I was one of the directors. We were very successful. Most of it came through Rothschild and other venture capitalists. Venture capitalists imposed an IRR of 33%, which was punitive but very nice for them, if we could get it. I think that was the demise of that particular technology transfer exercise, and I hope that it never gets done again that particular way. If anybody wants to consult me afterwards, I am happy to tell them about it.

Q85Sarah Newton: Some of the types of finance that are available come with so-called expertise and advice. How important do you think it is to have that type of support perhaps for the start-ups or people who have reached a particular stage and need to get up to the next one?

Dr Dean: It is absolutely vital. If you are lucky enough to be on a science park, of which there are, I think, 17 around Cambridge, you have blessings of communal activity and communal patenting. You have lots of technology around lots of people who are looking to move and so forth. I think that is a lovely place to start. I have done it several times, and I recommend it to anybody.

Dr Worswick: I would echo that it is not just the investment; it is getting advice from your investors. 3i were fairly hands off in that they had a minority stake in LGC, but when we had Legal & General Ventures we had very helpful advice from them, particularly initially. Banks-as I have said, I have had a long relationship with HSBC-have provided some extremely good advice. When you are trying to expand internationally, you desperately need help in different countries. You may have to raise finance in different countries. A small company does not have the expertise to do that, so you have to be able to draw on their expertise. It is a very important part of investment.

In the case of Cobalt Light Systems, at the beginning, Oxford Technology Management, which invested in us, were very hands on. One of their partners spent time with the company. They are quite experienced in the pitfalls of getting small start-ups going, and they have given some very useful advice. At Cobalt we have an excellent board with our investors represented on it as well as other senior management.

Dr Francis: I agree it is absolutely vital. If I go to our experience of AIM, the AIM investors did not impose the disciplines that some of the venture capitalists would have done. There is nobody on the board. Yes, it appoints non-execs, and, yes, AIM is expensive as well, but you do not get people coming in and telling you how to run your business. However, people who would have worked with the management at the time would have said, "What is your strategy? What is your business model? Who are you trying to sell to? Are you trying to sell to people who will really appreciate the technology?" That in itself would have been a very useful exercise.

Q86Stephen Metcalfe: I think we are all aware that clustering or supported networks have a role to play in helping to nurture this. How important do you think that is in helping to convert early technology?

Dr Worswick: It is quite important. Cobalt is on the same site as the Rutherford Appleton Laboratory in a building that was built for start-up companies. Right from the beginning, the innovation unit there was able to provide us with some space. The scientist Pavel Matousek, who invented this clever technology, is just across the road. Particularly at the beginning he spent quite a lot of time with the company sorting out problems that arose, so there was close proximity to and association with a larger organisation. In enforcing patents and so on a small company has very little muscle, but if you say you are a spin-off from the STFC Rutherford Appleton Laboratory you hope someone will take notice. That is incredibly useful.

LGC was at Teddington, which is a very bad place to be for a technology company. I much preferred being in the north-west and the proximity to Manchester university, where there was a pool of excellent young staff to join you and so on. Location is important. Although I have never been on a science park, I like the idea; it has distinct advantages.

Dr Dean: You need a critical mass around the inventor. If you have an enterprise club, science park or that sort of thing, it is so much easier and networking there is absolutely vital. You can pick it up so much more easily that way. I think the Government should be prepared to fund things opportunistically. For example, in Manchester the discovery of graphene was very well brought out. There was a sudden realisation that if we did not do it now we would lose it. I am hoping to start something up with the John Innes Institute in Norwich on exactly the same lines. They have a good attitude in that area. They have a sort of science park, but it could be much improved.

Dr Francis: It is utterly vital. The reason we are based in Daresbury is that I was looking for a laboratory for Byotrol at the time and was part of the Daresbury business network meetings that happen once a month on a Friday. From my career in Unilever, there are two things. First, innovation happens at the interface; it does not happen internally; it happens when you interact with others. Creating networks and contacts between similar types of businesses, universities and all the other players is critical just for innovation itself. Second, innovation is chaotic, so you try to make sure you have got the interactions wherever you can.

Daresbury has been a great place for us to be located. We are close to Manchester, Liverpool, Lancaster and so on. I just wish we could get more interaction in Daresbury with the universities. There is still a belief that universities expect people to come to them as opposed to going to the customer. I think that getting greater interaction between universities-

Q87Chair: It used not to be the case, did it? I remember that one of your colleagues from Unilever was a visiting professor from Manchester working in Daresbury.

Dr Francis: It depends on which area you are talking about. Where there is a big research programme in Daresbury relating to physics or whatever, that is more likely to be the case. If you are an SME based in Daresbury, that is much less likely to happen.

Sir Tim Wilson’s review of business-university collaboration spent a lot of time looking at big business and universities. I am not necessarily just critical of universities, but they really do not know how to interact with very small technology companies, and it is quite a struggle.

Dr Worswick: I think it is quite a good model. I do not know whether your Committee will be visiting science parks or companies, but you will be very welcome to visit Cobalt Light Systems, which is an example of a very small but interesting company, and see how it interacts with the Research Council laboratory on the same site. It is not too far from London.

Dr Dean: Innovation is not taught in our universities. It is a fundamental process, which follows invention. I go round the country giving talks on this and I am appalled at how few people have heard half the points I want to make.

Q88Stephen Metcalfe: The Government have a focus on investing in science and technology commercialisation. Do they have their balance right in funding capital projects and putting money into that side of things, or should they be investing more in the support structures and networks to try to encourage self-development?

Dr Worswick: That is an incredibly difficult and complicated question. The fact that the science budget has to a degree been protected is hugely beneficial. From a rather parochial view of someone who is helping a company to supply scientific instruments, there were cutbacks in the capital budgets of universities, which affected us terribly because what we are selling is a capital purchase. You buy an instrument to analyse something very quickly. That has slowed down the market, because a lot of the market is in universities, Government establishments and so on. I would like to see investment in science continuing. I do not think it is an either/or. It has to improve some of the linkages. Clearly, for the NHS, for example, the linkages are appalling, but I would hate to see that being at the expense of capital schemes.

Dr Dean: I regard that question as extremely complicated. I do not know how to answer you most accurately. If you read the paper that I have written for your colleagues, at the back of it you will find a bit about Cambridge university’s failure to keep a business going even though they were getting a good revenue stream from it, basically because they were not prepared to support the technology-the machines-with simple contracts for maintenance.

Dr Francis: I am probably not best placed to answer that question because we are not really that heavily involved in capitalisation. The bigger question is not an either/or, but the total amount of money that is available for the commercialisation of research is the biggest challenge.

Q89Hywel Williams: I am a Welsh MP. First, how important is it to be close to London in order to commercialise research? Secondly, how aware are you of the efforts of Governments in Cardiff, Edinburgh and perhaps Belfast in this field? Are they salient at all in your thinking, or is the relationship here and with Government here?

Dr Worswick: From our point of view, being close to London is not hugely important; being close to some centres and having good transport links is important. But you must remember that even small companies are acting internationally on the supply side in buying in pieces of equipment. We buy equipment that is manufactured by a company in Northern Ireland; we buy in equipment manufactured in Denmark and the US. We are selling into markets that are international, too. It is really being networked rather than where you are actually sitting. I would love Cobalt to move to Cornwall, but quite seriously, there are some transport problems. Our instrument is quite big and we need to get it around Europe and internationally, even to Wales.

Dr Francis: For us, other than the links with the financial investors, it does not matter at all. In fact, for us, it is more about identifying the right university. I am in Cardiff on Monday and Tuesday of next week looking at the university. It really does not matter at all.

Q90Hywel Williams: I am just wondering whether the Welsh Government have any salience at all in your thinking, or is it just the university?

Dr Francis: We have a sister company through one of our investors that is based in Flint in Wales. We know that they probably have good access to alternative types of funding, which we look at with a degree of jealousy, but it is not such a critical aspect of it.

Dr Dean: Cardiff pulled off a spectacular one when they got Martin Evans from Cambridge to join them. He is obviously doing very well.

Q91Chair: I think the mention of Cornwall has pricked up Sarah’s ears.

Dr Worswick: It is only because I like Cornwall.

Q92Sarah Newton: As a Cornish MP I would like to do everything I can to overcome those barriers that would enable you to move to Cornwall and join the other vibrant and innovative manufacturing companies that we have there.

Dr Worswick: More seriously, at the next stage, if we are to set up manufacturing facilities for this instrument, there are some quite difficult choices, to be frank whether you put it in the UK or somewhere else.

Q93Chair: I was going to come to that.

Dr Worswick: We are not in that league yet.

Q94Chair: Given the three of you have very broad and somewhat different experiences-I do not invite you to look outside at the weather before you answer this question-if you were starting again now, where would you locate both as a start-up and subsequently developing into a manufacturing operation?

Dr Worswick: For LGC, it would not have been in Teddington. Would you be in the UK? There was a little discussion about Germany. Our experience in Germany was very positive. When we were expanding in the Brandenburg district we were visited by Ministers from the area. They made you feel really good about it. There is something about the culture in the UK that means we do not link politics with industry terribly well. You have pictures of politicians in hard hats visiting engineering firms and it looks as if it is the first time in their lives they have ever been inside. I have taken Ministers round LGC and it is the first time in their lives that they have been in a laboratory.

Chair: Yes?

Dr Worswick: I don’t know; maybe I am being unfair. This is all very anecdotal and I am not critical of politicians in any way, but in Germany you have a network among the finance sector, politicians, industrialists and so on. This does affect the growth; it is the climate.

Q95Chair: You have moved around a bit.

Dr Dean: I have started three companies in Liverpool. Michael Heseltine was appointed by her Ladyship to visit as the Minister. I am afraid that not even he was able to make much of an impression. Much as I love Liverpool, the critical mass does not exist. As to the networks you can create, albeit Manchester is excellent, they are too far away for Liverpool. Abingdon or Cambridge in my experience have been the easiest places because of the points I have made.

Dr Francis: As to the UK, there has been a lot of discussion in previous panels about the soft innovation model. Where you have a couple of very large companies that have real needs, small technology companies can feed off them, be close to them and interact with them. Creating a hub of innovation with universities and small technology companies is absolutely the ideal place to be in many ways. In the north-west we have AstraZeneca; in Macclesfield we have Unilever and Port Sunlight; but the ability to interact with either of those companies is difficult. There is no hub, for example, in the north-west of a soft innovation model. As a result, we are very much in a hard innovation model.

I did my postdoc in Germany. What amazed me continually was the ability of the prof at the time to be able to go to companies like Volkswagen and simply say, "I’ve got a visiting professor coming from Japan. I need you to give me 200,000 DM." He got it without any difficulty. Subsequently, when I left Unilever and was running an innovation consultancy, I looked very much to the German model. The German family model is absolutely critical. The key point is that, if you are an entrepreneur and you have to go and get money, you virtually sell 95% of your idea very quickly either to venture capital, AIM or whatever. You are left with 5%. That literally leaves the vast majority of people emotionally drained of the energy to take their idea forward. In Germany you have a family business model that is willing to put more money into it. It does not necessarily take complete ownership away from the individual-from the entrepreneur-and that allows greater ownership of the idea, the technology and the company within the hands of the individual instead of investment houses.

Chair: Gentlemen, thank you very much for your time this morning. It has been a very interesting session. I hope you found it valuable, too.

Prepared 1st May 2012