Equity gap 'smokescreen for ineptitude'

Money is not the only pre-requisite. Being able to identify an opportunity to commercialise a particular new technology is one thing: being able to grow it into an established, successful commercial proposition is another, according to Iain Wilcock, of Quester, one the UK’s leading investors in university spin-outs, with 20 years’ experience.

While he agrees that there is indeed an equity gap, Wilcock says arguments over its existence mean that real issues are not debated.

“The universities [say] there is insufficient risk capital and the investors [say] there are not enough high quality investment opportunities,” says Wilcock. “In our opinion there is an element of truth in both statements, but the challenge is to improve the interface.”

White paper

Quester has published a white paper, “Building viable university spinouts: a VC’s view on three key ingredients for success”, which considers how to achieve this.

Quester is involved in a number of university-linked funds including Oxford’s ISIS College Fund and the Sulis Seedcorn Fund, a £9 million fund linked with Bristol, Bath and Southampton universities.

One of Quester’s more candid conclusions is that building successful companies takes “both a long-term capital commitment, and a distinct set of highly specialist skills, based on many years of experience, which many VCs are not in a position to provide”.

The paper argues that by their very nature university spin-outs are very diverse and a single rigid approach is not practicable.

But at the same time different types of investors have different motivations and abilities to support businesses. Identifying appropriate sources of capital for a particular spin out is thus a key step in creating a viable company.

Typically early stage VCs are making around 20 investments within a particular fund over a three – five year investment phase. These range from £2 million to £10 million, with the expectation that this will yield a return of ten times or more.

But says Wilcock, “Not all university spin-outs offer this kind of potential – even though they are may be commercially viable.”

While access to more seed funding does increase the number of spin outs, it is not obvious that it increases the proportion of VC type investment opportunities.

Ingredients for investment

So what are the three ingredients Quester looking for in a university-originated investment opportunity?

The first is that the intellectual property is on a secure footing – this means IPR must be strong enough to protect small innovative companies from larger latecomers.

Second there must be good management in place. “Early-stage investing is a people activity and depends on good execution,” says Wilcock. But many university spin-outs don’t have high quality management, as few successful academics have the skills and experience to make the transition to managing an early stage venture.

The third ingredient to go into the mixture is a suitable capital structure. “Simple fair capital structures that reward founders, managers and investors need to be put in place,” says Wilcock. Stakeholders should discuss the future funding requirements of the business and its effect on capital structure.