Chilcomb Management Services was founded in 2012 with the purpose of enabling the formation and funding of a deliberately small group of early-stage companies.
The majority of these companies are based at the Harwell Science Campus in Oxfordshire, a globally recognised facility owned by the UK Government.
We have raised £32m of funding that has created nearly 100 high-value jobs in “deep tech” companies whose sales are typically 50%+ as exports. Because we provide an outsourced finance function, we remain deeply connected with the companies that we work with, as well as with the investors who have provided funding.
This document therefore provides an informed perspective from the type of company that many parts of Government want the UK to develop.
There appears to be little shortage of funding. Beauhurst is the recognised database of UK unquoted companies – we commend this data source to the Committee. They state that in the first quarter of 2022:
Beauhurst go on to report that seed stage companies are experiencing a decline in the volume and value of funding, whilst the number deals over £100m in quarter 1 2022 exceeded the total number for the four quarters of 2021.
This data corroborates my observation that:
Making physical products often takes longer and absorbs more capital. Successful product-based companies are often rewarded with longer-lasting sales (precisely because physical products evolve and change less rapidly than software). Unfortunately, many investors still shy away from product-based businesses and this is one of the two factors that constrain the UK’s growth (the other is workforce skills).
All of the companies that we work with are selling products to large and often well-established business customers (as opposed to consumers). Our companies typically work with potential customers on some level of integration into their own product or system. This can last anything between 1 month and 5 years, and where the design-in time is prolonged there is often some payment from customers for the design-in process. This means there has to be a strong sense of co-operation with established businesses, many of them beyond the UK.
Innovate UK and their Knowledge Transfer Network have a number of initiatives that encourage co-operation with established industry partners. These can work well if all parties are sincere about the engagement.
The Harwell Oxford science campus is a powerful mix of early-stage and mature companies, working alongside various Government institutions. Having all of these people on one site, with some specialist “ring-leaders” who encourage partnerships – is very powerful.
EIS and SEIS are a significant encouragement to private investors to make the risky investment commitments to early-stage companies. This is often the first source of equity funds for a new venture. These schemes have provided a valued stimulus to early-stage private investment.
The schemes became more complex in 2018. We understand the rationale (assure the reliefs are focussed on genuinely risky businesses and also assure that these reliefs don’t go to one company for years and years on end). The new, enhanced rules are only just getting understood and we advise against any further changes for the foreseeable future.
The VCT regime appears to have channelled too much money into enterprises that are deemed to be less risky, and in some cases were already receiving other forms of Government support (e.g., wind farms or care homes). The 2018 amendments to VCT rules were intended to encourage these investment vehicles to direct money towards riskier and knowledge-intensive enterprises. We have seen greater investment interest from VCT’s. Where the relevant fund manager has not previously worked with “deep tech” companies, by their own admission it can be a challenge to undertake investments. If the relevant fund managers can build greater in-house experience of these types of investment, then this problem should reduce over time.
The current regime, overseen by the Financial Conduct Authority, is appropriate for the oversight of venture capital funds that accept investment from professional investors.
Any fund that accepts investment from the general public has to comply with the Financial Promotions regime. This originates in EU law. Investors and investment professionals are now familiar with the operation of this regime – and in particular with the standardised format of Prospectuses. We do not suggest significant change to this regime.
The British Business Bank is a cornerstone investor in Enterprise Capital Funds. In turn, these funds have been early and leading investors in a number of businesses that we work with. Prior to the ECF programme, it would have been very difficult, or perhaps impossible, to raise the early funding for the businesses that we work with.
ARIA is at an early stage in its life, and it is too soon to know its impact on early-stage deep tech companies.
Pension funds are long-term investments and it makes sense to allocate an appropriate element of a typical pension fund to higher risk, higher reward long-term investments. This should be straightforward for pension funds managed by investment professionals.
If a privately invested pension fund was allowed to allocate money to un-quoted venture capital investments, there would need to be some basic protections. The most simple way to achieve these would be to only allow such investments if the pension fund has a certificate from a professional adviser confirming they have discussed the risks with the fund-holder, with the certificate including an agreed limit on investments in un-quoted companies.
The rise of crowd funding means there is now a public market for investment in venture capital. We have been involved in one fund-raising exercise on the Seedrs platform. It was managed with appropriate safeguards for raising money from the public.
It is not possible to teach skills such as innovation or entrepreneurship. The education system can only operate certain types of programme that may enable young people to show their potential in these innate skills. Many schools seem to provide opportunities to demonstrate enterprise via some sort of business development competition.
The education system, and British society more generally, places great emphasise on people’s self-worth and doing what is right for each individual, over-and-above the collective good. This is in many ways commendable, but in the workplace nearly every job has an impact on other people and there are occasions where we want colleagues to have a better awareness of the impact of actions, or inactions (!), on others. These qualities are even more critical in a manufacturing environment.
It's important for policy makers to remember that the economy needs at least 20 workers with a variety of skills for every one entrepreneur. Fostering skills of personal responsibility as a contributor to a team would be valuable for nearly every job that exists in a typical deep tech company – if person X does not complete their job correctly, on time, they have an impact on the rest of the team. Sometimes this means completing the job even if person X is not feeling 100%.
The development of science and engineering skills remains of critical value. Practical skills – the ability to make things, to understand how to work with different materials – remain in chronically short supply. Could we harness the skills of a recently retired generation to mentor and train the next generation?
Reflecting on the most talented young colleagues that we encounter: They generally have an innate inquisitiveness, an ability to learn under their own initiative and a positive outlook on taking risks. The quest for “safety” imposes a risk that people will never do or say things that may cause any chance of an adverse outcome. This is not the spirit of enterprise, nor of technological progress.
There is a need for many people to understand the difference between fear and risk, and to understand that risk management does not equate to “not being allowed to do things” – it’s a way to help people understand risk (as opposed to reacting to their own fears) and then take actions to manage the impact of risk-taking behaviour.
The best venture capital investors that we have worked with are science or engineering graduates. The ones that trained as lawyers, accountants or bankers generally have a very poor level of empathy for the teams that they invest in. It is relatively easy for a scientist or engineer to learn corporate finance. Britain will build a better base of deep tech companies where we can encourage commercially savvy engineers and scientists to lead investment funding.
Most of the businesses that we work with sponsor immigrant workers. The current UK visa system strikes a fair balance between encouraging talent from overseas whilst assuring employers conduct a proper search within the UK.
New levies such as the Immigration Health Surcharge and the Skills Surcharge were added around 2018. Like many such measures, the Government should be more forthright in saying they are a tax to try and plug gaps in the public finances. We would also recommend that these levies are collected via the PAYE system over the lifetime of the sponsorship (typically 3 years).
International venture capital funds already have good representation in London. We do not know how difficult or easy it is for their staff to obtain short-term or long-term Visas.
Encouraging more seed stage investment from professional investors
If Government believes that the youngest companies would benefit from a larger pool of professional investment (i.e. venture capital targeting seed stage):
Provide tax benefits akin to EIS to VC funds that make these investments.
This could either be an enhancement on the carried interest regime – or else a limitation of current carried interest tax treatment such that it is less beneficial where the underlying investments are in more established and less risky businesses.
The boring bit – making Company Law less opaque
A typical 5-year old, VC-backed company may have several different classes of shares, governed by a Shareholders Agreement and Articles of Association. When we sit with employees and explain that they have a share option in their company, but there is a “waterfall of liquidation preferences and various transfer provisions that may mean your share option over 0.5% of the company will never earn you a 0.5% share in its value” ….this is a problem! It enhances the preconception that “everything is rigged in favour of the investors”.
Early-stage companies need venture capital. Venture capital needs early-stage companies and it also needs the best employees to work for them. Professional investors, encouraged by lawyers and corporate financiers, have developed complex funding and governance structures that are difficult to justify to a typical employee share-option holder.
The Government may be able to enable simplification by having a tidy-up of the Companies Act (why do private companies still have Articles of Association and Shareholders Agreements?). How about providing model shareholders agreements with a selection of clauses that can be deleted or amended as appropriate? The British Venture Capital Association has already done a lot of work on this but it would benefit from feedback from other stakeholders.
The tax system already provides some valuable rules that assure employees who own share options in genuinely risky enterprises have the chance to share in the rewards of their work. The most used of these is the Enterprise Management Incentive scheme (EMI).
EMI generally works well. It has some detailed rules, which are needed to meet its original aims. Most of these are sensible, but the rule that prevents part-time workers from having EMI share options should be removed. There are a number of key roles, such as Finance, where a small growing company only needs part-time support. Part-time workers are no less valuable.
The Committee should scrutinise the Beauhurst database. You will find a number of funds that already target particular issues such as regional investment, female founders, manufacturing and so on. Some of these funds already receive targeted Government support.
It is already significantly challenging to establish a successful deep tech venture. It will always be preferrable for such ventures to cluster around a particular pool of talent such as a university or cluster of similar businesses.
There may be greater success in targeting specific businesses that are on the verge of “scale up” and providing significant incentives for them to locate some or all of their operations in one of the levelling up areas.
Becoming a technology superpower
We have provided some detailed analysis on this topic to HM Treasury in 2017 and are happy to provide this to the Committee if of interest.
Warning – the oncoming capital shortage
2022 has seen significant decline in the value of nearly every asset class. This will have an impact on Venture Capital. The latest missive from Sequoia, a leading Silicon Valley VC, is often seen as a barometer of industry trends. The Committee should take note of this: