Venture capital: public can work with private

In recent months governments worldwide have pumped billions into economic stimulus plans, prompting much debate about whether the state should have a role in the venture capital market - and the propriety of putting public money into high-risk start-ups.  

The reality in the UK is that the government has played a role in investing money – or enabling money to be invested – in viable businesses for almost seventy years. Since the Great Depression of the 1930s, the government has been working to address the equity gap. Indeed, vast swathes of UK industry would not be where they are now without that initial funding.

An equity gap still exists today, but manifests itself differently, and we need to be even more intelligent in designing measures to address it.

A recent report, From Funding Gaps to Thin Markets: UK Government Support for Early Stage Venture Capital, published by the British Private Equity and Venture Capital Association (BVCA) and Nesta, the National Endowment for Science, Technology and the Arts, analysed the impact of investment from six UK government-backed venture capital schemes on 782 companies from 1995 to 2008.

The report highlighted important benefits that government-supported venture funding can bring to small and medium sized enterprises – not least innovative science-based businesses – in need of capital to achieve their potential. It found that firms receiving government-backed investment are able to substantially improve their performance and provide significant returns over the long term.

However, the report also highlighted difficulties and pitfalls that these past attempts to plug the private equity gap have faced in the UK, saying the overall effect has been small, and significantly less than the effects that purely private venture capital would be expected to bring.

According to the BVCA/Nesta report many of the problems arise from the structure and limitations of government-backed schemes. Too often, they have been small, regionally focused, poorly managed, and unable to provide enough start-up capital or effective follow-on funding.

Britain’s entrepreneurial landscape is one of the best in Europe, yet the report found that the UK had suffered from a “thin market” for venture capital, meaning that the economy has in the past had limited numbers of both investors and very high growth potential entrepreneurial firms, making it difficult for them to locate and develop contracts with each other at reasonable costs.

Learning from experience

Measures to encourage private investment in start-up companies – such as Capital for Enterprise Ltd, set up in April 2008 to act as the government’s venture capital fund-of-funds manager – have been critical in improving that situation.  

In the face of global recession and increasing competition from emerging economies, governments across Europe are understandably keen to use any means possible to stimulate new growth sectors. However, entrepreneurialism has generally not received the same state backing in other countries as it has in the UK, and lessons learned in the UK have yet to be acknowledged elsewhere.

As recommended in the BVCA/Nesta Thin Markets report, Capital for Enterprise’s flagship Enterprise Capital Funds have done away with geographic restrictions on how funds are allocated. There are no restrictive size limits on the funds backed by Capital for Enterprise and improvements have been made to ensure that successive rounds of funding can be made available so that innovative firms can continue to expand to their full potential.

These changes have supported and enabled real improvements in the performance of young enterprises in the UK. The government’s forthcoming £1 billion Innovation and Investment Fund, where £150 million of public money intended to pull in £850 million from private investors, will be critical in stimulating further growth.

As Europe emerges from recession, start-ups in science, technology and other innovative sectors will need an extra push up the ladder. The UK has led the field in designing ways in which governments can viably support this process, and has learned lessons from experience.

Other European countries should now take heed so that enterprises throughout Europe can flourish, aiding a strong and long lasting recovery.