“A future economy requires us to be at the forefront of the next scientific and technological revolutions. Becoming a scientific superpower is something we can be – I don’t think that’s hubristic or unrealistic.”
That’s what Rishi Sunak, UK chancellor of the exchequer, said at the country’s parliament when presenting his annual national budget on March 3.
A key element was a £1.6 billion ($2.2 billion) funding package for small and innovative companies to further support their recovery from the pandemic, and to channel more investment into the UK’s venture capital sector.
The UK has a strong small business culture, particularly in the pharmaceutical, life sciences and tech sectors. The government hopes these companies will drive the economy forward in the wake of the pandemic and the UK’s exit from the European Union.
However, start-ups and venture growth firms often struggle to find external capital from investors. This issue was highlighted in a government review that directly led to the establishment of British Patient Capital (BPC) in 2018.
Access to capital
“If you compare the situation in the UK to the US, there was a much lower pro rata volume of companies in the UK that were actually applying for growth finance,” says BPC chief executive Judith Hartley. “Secondly, when they did apply, the amount that they were seeking was roughly half of the equivalent companies in the US.”
But BPC has been given £2.5 billion to invest in UK venture funds and drum up more interest from institutions. To date, it has put £1.2 billion of this to work in 49 funds run by 35 different managers, with third-party investors adding £5.3 billion. It aims to become authorized by the UK regulator, the Financial Conduct Authority, with a view to advising on VC allocations rather than simply acting as a general supporter of the sector.
The timing is appropriate, as the UK government is attempting to galvanize domestic pension funds to back infrastructure projects and small company investment.
The introduction of automatic enrollment into workplace pension plans in 2012 has created fast-growing defined contribution (DC) funds with decades-long investment time horizons.
However, current regulations mean that VC is not attractive or viable for many DC plans. Pension plans usually require daily dealing, despite money being locked away until retirement. In addition, a 75-basis-point charge cap for auto-enrollment pension plans limits access to more expensive strategies.
BPC’s managing director Ian Connatty highlights the growth of UK DC as a significant long-term theme for the venture capital sector. The affordability of venture funds will play a vital role in the “long-term make-up” of the sector’s investors.
The limitations do not completely deter institutions from allocating to VC, Connatty says.
Firing up fintech
Across Europe, fintech has attracted the most venture capital investment of any sector over the past five years: €30.5 billion in total, including €8 billion in 2020, according to Dealroom.
Although fintech makes up 13 percent of BPC’s portfolio, Hartley says the figure is likely much higher given crossover with such sectors as artificial intelligence and cybersecurity.
Financial companies also make up a significant proportion of BPC’s biggest winners, with more than half of the unicorns it has backed coming from this sector.
One such company is Revolut, which became the UK’s first digital bank unicorn in 2018. While so-called challenger banks have captured headlines in recent years, BPC sees companies such as Concirrus, an insurance technology company, as examples of where fintech can demonstrate most growth.
“Start-ups are increasingly moving into the insurance markets, regulatory and compliance support, and providing capital markets infrastructure and technologies,” Connatty said on the British Business Bank’s website in 2019.
Financial services contributes £132 billion a year to the UK economy, nearly 7 percent of total economic output, according to a February 2021 government report, and it is a sector that is prime for disruption.
“Financial services are a meaningful part of the UK economy,” Connatty says. “So there is a level of activity already there. That creates people who understand financial services, and it creates customers and a demand for products and services.”
He adds, “The UK has done well on the regulatory aspect of financial services innovation. When you combine that with [improving] access to capital, those are good conditions for innovation to thrive in.”