You in the back! Stop yawning. I’ll try to make it interesting.
Two pieces on the Euro VC scene in Techcrunch today had me thinking. The first outlined what government might need to do to help this market.. The second outlined the parlous state of European early-stage funding.
The Dow Jones data Mike Butcher reported
shows a moribund market. Government can help, there is no doubt. Sort of Keynesian pump-priming of the innovation economy — public works.
As I’ve argued before, government and regulation is fundamentally at odds with the way entrepreneurs need to work and do work. The East London tech hub is interesting but at £200m, it is less than Twitter will have raised after its next venture round—in other words puny.
But let’s step back and take a view of what I think is really happening in the UK relative to the Valley and what if anything can be done. Entrepreneurs
: Silicon Valley is to tech entrepreneurs what Hollywood is to actors and directors. Our top film talent goes to Hollywood because that is where the capital and talent and know how resides. Sure, we have occasional ‘hits’ but the building together of a film is a complex endeavour that relies on both a set of understanding, resources, behaviours and capital that work in LA.
Why would Silicon Valley be any different? The environment is more conducive to excel so the vast bulk of those who truly want to excel and excel in that way will go to Silicon Valley.
If you want to make huge Hollywood movies, go to Hollywood. If you want to make indy docs, then do it from London or Berlin or Manila or Tehran or Vancouver.
Are there sufficiently good people in the UK to build good or great tech-based businesses? Yes. But let’s not kid ourselves about the fact that some of the best gets creamed over to the US; and the mediocre who go there end up in an environment that nourishes and enriches them and makes them much better.Capital
: There is not enough capital in the UK for early stage tech business. You can name the handful of firms investing, and their investing partners. Between Eden, M8, Notion, Baldy, Index, Profounders, Atomico, DHTV and whoever else, there are probably fewer than 25 new early stage deals done per year that are UK-based. (Call early stage sub £1m in revenues or sub £2.5m in capital raised.)
Index will frequently invest in the US or rehouse in the US (look at Basno or Erply). Baldy is similar. Even Seedcamp is now going global with a small portion of its small fund going to UK businesses.
And what capital there is takes a far different view of risk than capital in the US—in fact it takes the view (which I have heard) - this sounds like a Silicon Valley deal, not a European one? Customers
: Early stage tech companies whether they know it or not need understanding customers. We don’t know exactly what we are selling or for how much. We need you to buy into the vision and go on the customer development journey with us.
On the West Coast there is a 30 yr history of companies working with young tech firms, going through a risky, uncertain journey in that relationship but ending up benefitting. These customers implicitly understand the customer development process—they probably went through it themselves.
My experience over 12 years has been that this is much less the case in the UK. This isn’t a blame game, this is a reality of people’s experience and the business culture. So let’s step back:Talent
: talent is exported for very good individual reasons, let’s not kid ourselves.Capital
: there isn’t enough in early stage deals. The best investors understand capital moves globally and opportunities are global, so understandably invest where they can. The ones with local mandates need to make the best decisions on a risk-reward basis for their LPs (and their own survival), so in the absence of needing to move fast or jumping early, they don’t. And frankly, why should they? Business isn’t a charity. And being a VC in an asset class (European venture) that every LP hates is a tough ride without blowing yourself up on absurd deals.Customers
: this is an issue for anyone involved in customer development. It can be done, but it is harder. I am at a loss to figure out how to persuade this group to participate.
The point is that great companies don’t have to be the next Google. They can be tremendously successful and adopt a different path. In focussing on simply building the next Google, when for a set of deep systemic reasons it is going to be much harder, your surely going to create a bunch of also rans.There are technology-backed businesses that can thrive locally and be hugely successful locally. There are those which thrive locally and can become successful globally. There are those whose natural markets are not the West coast.
And all of these can be much larger than the derided ‘lifestyle’ business.
Last.fm is a good example of the first. Brightpearl might be a similar model. Huddle has the promise of being the second. MoshiMonsters is killing it. Markit is a decent success, as is Betfair.What is interesting about running through these examples is there is no real common pattern about the nature of the entrepreneurs and backers.
Betfair was backed (to the tune of £1.5m) by traders and run by traders. Balderton came in as a minor shareholder via its investment in Flutter which Betfair acquired. Markit was also took a different route to its success run by bankers and backed by the same.
But for all there success, Autonomy, Markit, Betfair, Skype, Last.fm are not ‘Google size successes’. They are 1 or 2 or 3 orders of magnitude smaller than Google by value creation. Last.fm’s acquisition price was of the same order as that of Slide, which in the Valley was widely regarded as a failure
.What can be done?
The fundamental issue is not about entrepeneurs and entrepreneurial ambition. Every entrepreneur wants to be successful. Blindingly and heartbreakingly so. And they take on the risk with vigour and energy.
The real issue is to allow their to be more risk-taking on the capital side-which boils down to investors needing to be able to invest more and take more risks. Match capital with a determined entrepreneur and great things could happen.
A great example of this is Michael Smith at Moshi Monsters
. His initial business was complicated one involving finding buried treasure. But because of his success with Firebox, he was able to secure pretty substantial VC backing, which allowed his company to chase the wrong business for years before executing a pivot, hitting on Moshi Monsters and knocking it through the park.
But for most other entrepreneurs living off consulting revenues or small amounts of seed, the time to pivot and find the inflection point is strictly limited. And it isn’t clear that those constraints lead to stronger businesses.
However, VCs cannot be expected to open their pocket books in a form of social hari-kiri. Their LPs should not bear the burden of what is government industrial policy. Their LPs have already borne years of generally poor results compared to their other asset choices.
If early stage businesses bring benefits like new products, jobs and growth. And if entrepeneurs need the right kind of balance sheet to succeed. And if investors need to make rational economic decisions … then a circle needs to be squared.If you want to make a film like Avatar, go to Hollywood. If you want to build Google or Twitter, then go to the Valley.
If you want to build Betfair, Markit, Skype, Autonomy then you can do it from Europe—and the returns can be phemonenal.
Now that’s out the way, we still have the thorny issue of the capital gap. Let’s assume that we need our VCs because they do bring skills of capital allocation and deal management to the table. Surely the answer is the Keynesian pump-priming. Not £200m across a set-of infrastructure projects. But cash designed to defray risk,not to crowd out private investment, but to enable it.
But how much? If a typical deal needs £10m allocated to it over its life, starting from a £500k seed and then working its way through twists and turns, and we want to see 500 deals in the UK come through the pipe over the next few years, then we need a capital pool of around £5bn.If government wants to pump prime this market, then screw the labour laws and policy-issues. The issue (as Techncrunch reported) is that less than £50m a year goes into early stage deals in the UK.
Investors need to invest more. And the role for government in this market failure is to reduce the risks for these beaten up investors throughout the funding cycle, starting with guarantees at seed level but carrying through to Series A, B and C. And that could be done by co-matching funds which take the first hit of losses, ahead of any private money. Or through becoming an LP in VC funds and offering incentives for UK-domiciled deals at particular stages of development. (So: your carry on a deal you seed and then follow through on is 30% but on a deal you join at Series B is only 15%).
My four pence. Yours?