Science and TechnologyWritten evidence submitted by Midven

Background to Midven

1. Midven is a privately-owned venture capital fund manager which, inter alia, manages the Rainbow Seed Fund (RSF). The Rainbow Seed Fund is a £10 million fund established in 2002 by the Department of Business, Innovation and Skills (BIS) and its predecessors to fund the early stages of commercialisation of technologies from its public sector research establishment base. RSF consists of a partnership of publicly funded research laboratories, including Rutherford Appleton and Daresbury Laboratories (STFC), Porton Down (Dstl), Babraham and John Innes Centre (BBSRC) and the various research centres of the Natural Environment Research Council (NERC).

2. RSF is managed independently by a specialist venture capital fund manager, and provides investment to support the early stages of commercialisation of technology and services from its partners. RSF makes individual investments of between £10,000 and £500,000, the upper figure being a cap imposed by BIS. The Fund (through Midven) works very closely with the technology transfer offices of the Fund’s partners.

3. Over the 10 years since inception the Fund has invested approximately £6.5 million in 24 companies. The Fund’s investment has been enormously successful, leveraging substantial other private investment of over £110 million from a range of investors from angels to overseas corporate investors. However, although the portfolio is healthy and promising, no significant returns have yet been made, underlining the length of time it takes for early stage commercialisation to bear fruit.

4. Midven believes the inquiry is timely and offers an opportunity to discuss the difficulties encountered in commercialising and exploiting UK research and technology, taking it from initial concept or invention to business profitability.

5. The Committee set out a number of questions. Midven has chosen to focus its response on questions 4, 6 and 7.

Midven’s Response

Q4. What evidence is there that Government and Technology Strategy Board initiatives to date have improved the commercialisation of research?

6. We welcome the increased grant support which Technology Strategy Board (TSB) is providing. However there are areas in which the TSB could do more:

(i)Provide more funding at the early stage, such at pre proof of concept and proof of market stages.

(ii)Significantly shorten the time taken to consider and approve/reject grant applications, and then to allow the successful projects to start.

(iii)Improve links (whether formal or informal) with the venture capital community. For the good of the UK economy it must make sense for the two to work more closely together. However, there are few, if any, people within TSB who have experience of the venture world, and (probably) vice versa.

7. The TSB also has responsibility for Government’s procurement initiative (also known as SBRI). This is overwhelmingly seen as a good idea, and it is understood that it has to be properly thought through, but in its current guise it resembles another grant programme for early stage ideas and not a route to early, sustainable sales for SMEs.

Q6. Should the UK seek to encourage more private equity investment (including venture capital and angel investment) into science and engineering sectors and if so, how can this be achieved?

This is Midven’s main area of expertise, and we break our answer down into distinct areas:

Angel investment.

Seed Fund investment.

Tax-incentivised investment.

Venture Capital investment.

Institutional investment.

Angel investment

8. As frequent co-investors alongside angels we are strong supporters of the angel sector. However, from our perspective it often seems that Government approach is over-reliant on individual entrepreneurialism, usually in the form of angel investment and involvement. Given our role we will be accused of being biased ourselves, but most angels would, we think, acknowledge the key role played by funds. Often—especially when there are a number of angels involved—the fund acts as the lead investor, negotiating terms and leading the legal documentation, and then taking the lead in post-investment monitoring and in corporate governance matters. A relatively small proportion of angels have the skill, the time and the inclination to get involved and provide the support and governance that the funds do as a matter of course. The reality is therefore that many deals would simply not happen, and many companies would not survive and prosper if one of more funds were not involved, yet this central role is very often overlooked in favour of the more newsworthy “angel angle”.

9. It is also essential to recognise that many technology investments take considerable time and funding to reach the market. And that unfortunately few angels have the financial resources to fund a technology company all the way from the very early stage of research to profitability. It is therefore not realistic to think of angels as being the complete answer to funding problems for anything other than the smaller companies. Fund managers are able to make larger investments than most angels and, not surprisingly, tend to have much better linkages to other funds, allowing larger investment rounds to be raised—obviously more important as the company grows. To cite our own experience, whilst RSF cannot claim credit for having sourced every single penny of the £110 million raised by our portfolio companies, we certainly have been involved in a substantial portion of it, and several companies would simply not have made the progress they have without us. With the best will in the world it is difficult to see how angels would have managed to achieve as much in this area.

Seed Fund Investment

10. We therefore believe that Government should pay equal attention to the role of Funds in the commercialisation field. The Government, along with the Wellcome Trust and David Sainsbury’s Gatsby Foundation, created a number of University Challenge Seed Funds in 2000–02 (Rainbow followed immediately after) that are generally regarded as having been very successful. They kick-started over 250 new companies based on University research, stimulating (on average) £9 of further investment for every £1 invested by the Seed Funds. They have created over 1,500 jobs, the great majority highly skilled, and have attracted technical and sales partnerships from companies around the globe.

11. However, Government placed multiple constraints on their operation and failed to deliver the right level of continuing support, so that many of these funds are now inactive, unable to support the current generation of university spin-outs. The key problem was undercapitalisation. Most funds were in the £4 million to £8 million range, and their investments were capped at £250,000 each (belatedly raised to £500,000 in 2009). There is widespread agreement within both the University and venture capital communities that the right level of funding would be around £20 million to £40 million per fund (over 10 years) (depending on the size of science base they need to serve) and that investment caps should be removed altogether or at least at a much higher level of at least £1 million.

12. University commercialisation structures have moved on in the past decade and we would not advocate an identical scheme to that of 10 years ago. As outlined above, the most obvious changes would be to have a smaller number of larger funds each serving a wider base. It may also be sensible to extend the remit somewhat beyond the university and PSRE boundaries to allow technology-led SME’s to access investment. Particularly if the TSB grant programmes could be encouraged to work better alongside such funds, a revitalisation of the University Challenge Seed Fund programme along these lines would bring massive benefits to the translational effort.

Tax-incentivised investment

13. The current EIS scheme is a very blunt instrument when looking to channel funds to the commercialisation area. It is not widely appreciated that the great majority of EIS funding does not go to high tech investment but rather ends up in the services field. High tech investment has fallen from 28% of the total in 2005–06 to 21% in 2009–10, whilst funding for services has gone from 30% to 54%.

14. Whilst the increase from 20% to 30% in EIS tax relief is welcome, other proposed changes to the EIS scheme will allow investment in much larger, later stage and more profitable companies than currently. This therefore increases the competition faced by early stage companies for EIS investment, with the likely outcome a further fall in the percentage secured by early stage technology companies. We would suggest consideration be given to a refinement of the current 30% EIS tax relief, whereby a higher rate of relief (eg 35%) is offered to early stage high tech companies and a reduced rate (eg 25%) to others.

15. The imminent SEIS scheme is to be welcomed, but we would suggest increasing the limit per company from £150,000 to £300,000. In our broad experience, a minimum sensible initial capitalisation for any company is of the order of £300,000. £150,000 is something of a “no-man’s land” figure. A few years ago there would have been a good chance that a seed fund would step in and match it with another £150,000 but there are now so few seed funds operating that this is more unlikely than likely to happen.

Venture Capital Investment

16. It seems likely that VC fund managers will increasingly look to the EIS market to raise funding. Institutional support for Venture Capital has been hard to find for several years and, in spite of improving results from VC funds, this trend does not look likely to change markedly. The EIS scheme, with its tax breaks to help compensate for the additional perceived risk in technology investment, seems to offer at least a partial answer for many. However, the traditional VC fund structures and investment instruments sometimes clash with EIS rules, and there is work to be done on ensuring that an optimal outcome is achieved. We therefore echo the BVCA comments on HM Treasury’s consultation paper of last summer regarding the need to look at how best to harmonise EIS rules with tried and tested venture funding patterns.

Institutional investment in venture capital

17. We believe that some form of radical fund-raising is required to revitalise the early stage technology investment sector. The “Future Technology Fund” (previously the UK Innovation Investment Fund) struggled to raise external money and has made few investments to date, illustrating the difficulties faced by the sector. It seems inevitable that the bulk of any such fund will have to come from state coffers, something that in the current climate seems difficult but £2–3 billion would kick start a serious effort to fund the next generation of technology companies.

Q7. What other types of investment or support should the Government develop?

18. We encourage the committee to again consider whether a portion of research funding (from the Research Councils) should be allocated to commercialisation or development (possibly distributed through seed funds). We would not expect a single figure to be widely accepted as “right” given the widespread differences in costs between bringing a piece of software to market and developing, say, cancer vaccines. We would, however, strongly suggest that there be a debate with the aim of asking each research body to set a target to be spent on commercialisation.

19. At the European level we understand that consideration is being given in the planning of future Framework Programmes to allow funding of Seed/Translation and Venture funds from the next FP. This is to be strongly encouraged, and it is to be hoped will also lead to more effective linkages between FP grant programmes and the investment sector.

20. The Government could assist in developing other kinds of investment or support by facilitating increased accessibility to overseas institutional investors.

21. Increasing recognition and rewards for academics’ commercial engagement could help to rebalance the current emphasis towards publication of papers. We also believe it would be helpful to consider a harmonised “rewards for inventors” scheme for all publicly-funded research, rather than the different local arrangements for universities and PSREs.

22. State Aid is sometimes cited as an obstacle to enhanced support. At the European level it must be worth a further effort to raise the de minimis level substantially to, say, £5 million per company. At a time when economic growth is THE priority for Europe (and when subsidies are in any event being cut for budgetary reasons), it simply cannot make sense for anti-competition regulations originally drawn up to stop Italy’s miners and steel industry being subsidised to get in the way of targeted economic support for the young companies that everyone agrees will provide the future growth. If there is nervousness at such a radical relaxation, it could be time limited—perhaps till Europe returns to sustained growth.

23. Declaration of interest: Midven manages the Rainbow Seed Fund (and other funds which invest in technology businesses) for which it receives a management fee and a share of profits.

24. The opinions expressed in this submission are those of Midven, the manager of the Rainbow Seed Fund, and not necessarily those of the partners in the Fund.

February 2012

Prepared 11th March 2013