As published on City AM on 20th May 2020.
The month between the announcement of the Future Fund – part of the government’s billion-pound package of financial support for innovative firms hit by the fallout of the coronavirus pandemic – and its opening for applications today has seen concerted lobbying from those concerned that it will fail to work as intended.
I share those concerns. The Future Fund will only benefit companies that have already secured venture capital funding, excluding the 99 per cent of “true” startups that are still pre-VC. This is because while angel investors are in theory able to participate, the Future Fund’s Convertible Loan Notes (CLNs) are not compatible with the SEIS and EIS vehicles through which the vast majority of them invest. In reality, very few will take the plunge.
With more than half of all funding for UK startups coming from individual investors – venture capital contributes less than 20 per cent – this is a big problem. Venture-backed companies should have a longer financial runway than their more vulnerable early-stage counterparts.
But I anticipate the Future Fund will be exhausted within a week as – in the absence of angel investors – VC firms hoover up the money to protect their existing portfolio companies. With VCs holding off on new deals for the time being, very little – possibly none – of the Future Fund will go to first-time recipients of VC backing. The most vulnerable companies will miss out and many will fail as a result, their innovation and job creation potential lost from the economy.
I would suggest the government did not consult widely enough in developing the Future Fund – or at least did not give due weight to the concerns of those of us at the early-stage coalface, not just the VC community.
How could it resolve the issue? One suggestion – that the income tax relief on investments made through EIS could be dramatically increased to boost angels’ confidence and keep the investment pipeline flowing regardless of compatibility with the Future Fund – risks blurring boundaries between EIS and SEIS, potentially harming the latter in the long-term.
Another proposed solution – making EIS compatible with CLNs – is impractical, requiring legal changes with wider-reaching ramifications. A better solution would be to roll out a “Future Fund 2.0” that doesn’t rely on CLNs – or even a different fund explicitly targeted at pre-VC startups – to enable investments made by angels through EIS to be eligible for government matching. It had been hoped that change could be achieved in time for the opening of applications this week, but it has apparently fallen foul of EU State Aid legislation and it seems we might have to wait until September at the earliest for a solution.
A wide range of UK startup success stories, from meal kit retailer Gousto – often namechecked by Chancellor Rishi Sunak – to biometrics and digital ID company Onfido, touted as a potential provider of “immunity passports”, benefited early on from SEIS/EIS funding. Likewise many of the R&D-derived, IP-rich companies spun out of universities that the government has pledged to put at the heart of the UK’s industrial strategy.
There are a lot of excellent entrepreneurs building all manner of innovative early-stage businesses, for whom the current crisis represents an existential threat. It has been suggested that Innovate UK grants and the recently-announced Bounce Back Loan Scheme could plug the funding gap.
But while any eligible company should take the BBLS money, pre-revenue startups can claim nothing – and the grants are only available to highly innovative companies for specific projects. If we are to protect these businesses and safeguard the future of UK innovation, grants and loans will only go so far. We urgently need an equity funding scheme for early-stage companies. We need a Future Fund 2.0.
