UK can be one of top tech economies - if it takes risks

Nor is Britain condemned to be on a path of irredeemable economic decline. Rather we possess one of the greatest centres of entrepreneurial scientific and tech talent in the world. Over the past 20 years, had we got our act together, Britain could have built the most powerful tech sector in Europe, rivalling even the US and China proportionally. The task now – which must be the priority of Sir Keir Starmer’s newly established Growth Board – is to make sure the same mistake is not repeated in the next two decades.

Consider this: two-fifths of Europe’s fastest-growing tech companies, with revenue ranging between $25m and $1bn, are British. From this pool of 770 companies – which ranges from satellites, semi-conductors and fintech to AI-driven drug discovery and green technologies – the great companies of tomorrow will emerge, with all that means for jobs, wealth, tax and national morale. If Britain can create a better ecosystem of financial, business and public support, that prize is within our grasp.

Take Cambridge University. Not only have its alumni created more startups per capita than any other European university (Oxford, Imperial, University College London and Manchester are all in the top eight) it is only narrowly beaten by California’s Bay Area in the creation of tech enterprises valued at a billion dollars, so-called unicorns, per head.

Foreign buyers see Cambridge and our other top universities as a happy hunting ground for an extraordinary array of fantastic young companies. Indeed as many as 65% of our academic spinouts are bought by overseas investors. As Stephen Welton, chair of the British Business Bank, observes, Britain is in danger of becoming an economy that incubates companies for others.

One great feature of capitalism is that innovation is constantly expressed by fresh waves of agile, young firms: half of new jobs are created by just 5% of young firms which both energetically challenge and feed off larger incumbents. But getting this “creative destruction” dynamic right is tricky. Too many of Britain's large firms are sclerotic while still large enough to resist competition; and too many of our small firms – nearly 95% – are bought (whether by British or overseas companies) before they reach maturity.

Britain must get better at helping startups find the resources to scale up while staying independent – and rooted in Britain. For it is not just the use of frontier technologies that propels these young companies. Their founders’ energy and agility are propelled by a commitment to purpose: they want to use their particular technology or branch of science to improve the lot of humankind. This is the better face of capitalism.

Purpose is an effective tool. It acts as a “north star” to inform strategy, manage inevitable crises, motivate staff, and even raise capital. Founders pitching to investors in Silicon Valley take care to ensure they know their purpose. It is the badge of ambition that helps seal the deal.

Working on the Growth Trilogy – three reports on how Britain can best nurture our many startups – over the past 15 months, I have been inspired by the purpose of all the founders I met – whether that’s Stan Boland, a brilliant serial entrepreneur who could have been our Jensen Huang (co-founder of digital tech giant Nvidia), or Matthew Scullion, founder and CEO of data analytics company Matillion, one of Britain’s unicorns.

Venture capitalists, who have emerged as critically important builders of 21st-century businesses, can inspire in the same way. Saul Klein, easily Britain and Europe’s most successful venture capitalist, declares that his company’s purpose “is not some philosophic sidecar – it’s integrated”.

Cambridge-based Hermann Hauser, who was involved in a string of Cambridge successes including Arm (which was listed in the US in 2023), says all the founders he backs “want to make a difference in the world – the ‘why’ of the company as they often call it”.

Britain’s successful startups and scaleups start as private companies and, increasingly, remain so even after they reach a size that would once have precipitated a stock market floatation.

Since the millennium, capitalism has been going private at an astonishing pace. Global private assets under management were only $2tn in 2003; by 2033 one forecast suggests that figure could be $59tn.

Today, companies can find the funds they need from sources other than the stock market, and so can stay private and exploit the freedom to be solely focused on growth, just as technological opportunities are accelerating.

Enter venture capital (VC). It is the bridge between the booming private markets, pools of risk capital and the extraordinary business possibilities of today’s new technologies. Rather than debt, what today’s tech founders primarily need, given the inherent uncertainties they face, is risk capital, and venture capitalists supply it.

VC may provide less than 0.2% of all US investment every year, but the successful companies they back go on to constitute half of the US’s quoted companies. All the so-called Magnificent Seven (Apple, Microsoft, Amazon, Alphabet, Meta, Tesla and Nvidia) were originally VC backed. Extraordinarily, companies that attract VC backing – they generally emerge from the US’s powerful science base and university sector – are seven times more likely to generate good jobs and innovative spillovers, with economy-wide effects on productivity. The US’s vibrant stock market caps this process of creating phenomenal economic value.

But failure is inherent to the process. Only a tiny fraction of the companies in which VC invests will succeed; 80% of venture capital investors have never invested in either a unicorn or a “thoroughbred” (a company that grows to revenues of more than $100m).

Astonishingly few (0.16%) have financed even 10 successes. To improve the odds, they screen who they back, then fund them in sequential rounds so that each phase is justified by previous performance, and they then stay in close touch with the companies. They are the builders of breakthrough businesses.

What attracts US venture capitalists and others to Britain is the knowledge that, for all their strengths, British tech scaleups are acutely short of vital risk capital, especially as they get beyond the early stages. Estimates vary of the “equity gap” – between the billions they need and the funds they actually get each year– but it is certainly larger than £10bn and could be twice that.

At this point, US money steps in. British founders face a bitter Hobson’s choice as they start to raise serious cash privately. Indeed, for companies seeking £250m or more, 85% of the investment comes from overseas, chiefly the US. And they must either: accept the money and see voting control pass to others, leading to eventual acquisition; or cut their cloth according to what is available and scale back their ambition.

Boland has been through this three times: losing control of the direction of the company and seeing the precious business he built squandered. He says American owners in particular put founders under intense pressure to relocate to the US. It’s “pernicious”. Every acquisition means jobs, research, intellectual capital, economic value, networks, supply chain opportunities and potential taxes leaking overseas.

For a hypothetical growth company with revenue of $25m, the cumulative lost economic value over 10 years is estimated at around $5bn. If Britain is to grow a trillion-pound tech economy in the decades ahead – as it could and should – there must be less incubation of companies for other countries to buy, and more building up of our companies ourselves.

Yet acquisition is part of capitalism’s rhythm. It is how founders and investors in the company are rewarded for their efforts, and money is recycled for another round of investment. Equally, acquisition by another company with deep pockets, complementary technologies or, in the US case, access to its sophisticated market, is often fundamental to the acquiree’s success. All of the US’s Magnificent Seven, for example, have reached their standing by taking over others. It’s best to be part of that than to languish on the sidelines.

The issue for Britain is the degree: it has seen an avalanche of overseas acquisition. Three thousand companies in the tech sector are estimated to have been sold abroad in the past decade. The most frequent reason was lack of capital to grow and stay independent.

Indifferent investor interest in an underperforming stock market given the flight of pension fund investment – a trillion pounds of UK shares sold since 2000 – has cut the viability of sourcing capital via an initial public offering (IPO).

Boland, Klein and many others in the founder/venture investment community advocate a dramatic upward step change in the flow of UK equity capital to British venture capitalists to invest in our founder entrepreneurs and, more widely, to support our stock market. This becomes a challenge to everyone in Britain – from the City of London to individual savers – to accept and embrace a culture of risk. In the 21st-century economy, it is the precondition for growth, and a vital way of escaping our current fiscal vice.

It starts with pension funds, which have the scale, time horizons and expensive in-house expertise to assess and take on diversified risks. International evidence shows that the larger an economy’s pension funds, the better it performs economically.

They invest in domestic public equity, lowering businesses’ cost of capital. They create a lively IPO market and find a proportion of their investments (1% or less) to allocate to venture capital. Although this is risky, the returns are high, as are the wider economic benefits. Other countries – Australia, Canada, the US – have pension superfunds worth up to £100bn which do this task, delivering returns as high as 9% a year. Britain, however, is plagued by a plethora of small pension funds with typically lower returns.

The good news is that Labour has started the process. With a fair wind, between six and eight superfunds could emerge from fast-growing defined-contribution pension funds, and another four to six from local authority pension funds.

If, in addition, the Pension Protection Fund is given the green light to consolidate, and Britain creates funds for public sector employees, we could have more than a dozen superfunds within two or three years. Lifting the paltry contributions individuals and companies make into their pensions would also help.

But that is only the beginning. Too many British VC deals – 83% – are focused on digital tech; but the next phase of technologically driven growth is going to be in expensive and complex technologies – so called deeptech. Similarly, the geographical bias in favour of London, Oxford and Cambridge means that many great potential companies in Britain’s nations and regions are overlooked.

VC is also prone to feast and famine: at the moment as many as £200bn-worth of venture-backed companies are on the industry’s books awaiting either a buyer or the chance of a stock market listing. The cycle needs to be better managed.

Step forward the British Business Bank (BBB), armed with a total financial capacity of £25bn and a backer of 50 unicorns, whose task must be to unravel these conundrums. The BBB must co-invest alongside the VC sector to leverage as much investment as possible (even in public companies) and channel funds across the UK and into deeptech. It must be a catalyst, an actor in its own right and backstop to the entire system. If we want Britain to match proportionally what Americans invest, the BBB will need its capital doubled again.

It must be buttressed by transformation across the ecosystem. Pension funds which choose not to play their part in this mobilisation could forgo tax privileges. Britain needs them to invest more in a vibrant stock market. Stamp duty needs to be recast to promote share buying.

Nor should the taxpayer pay for savers to save cash in their individual savings accounts (Isas); at a minimum, tax relief should be given on cash only if there is an equal investment in shares. The tax system must be reshaped so there are tax incentives for issuing equity – the yeast of today’s fast-moving economy – and tax relief on company debt is phased out.

Equally, whenever a company is bought by an overseas investor, it should at least repay any innovation grants it received. An innovative state should be an innovative procurer, supporting innovative young companies from which it buys goods and services. By taking equity stakes like a venture capitalist, taxpayers should benefit from the success they are helping to generate. And British companies, laggards internationally, should be encouraged to do the same. Growing companies need orders as much as they need capital.

This is the path to growth. Of course there are hazards. Rules, standards and accountability for publicly quoted companies are there for a reason: they are important economic and social actors, because what they do with their technology, staff and goods and services impacts on us all. Today’s “privatisation of capitalism” cannot permit technologies as important as AI and advances in drug discovery to develop in their own private garden until they are sprung on society. Transparency and accountability remain essential. Society makes choices about how technologies and business develop, and they must be reflected in the standards we expect in both private and public markets.

Britain has the entrepreneurial founders, the science, the capital and the financiers to create one of the world’s great tech economies. This would not only create jobs, taxes and growth, breaking us out of the vice in which we are locked, but also allow us to makes the rules in the 21st-century tech world so that it reflects our values and priorities. We would meet American tech entrepreneurs, such as those accompanying Trump on his UK visit, on more equal terms. Pride in Britain could be reignited. There is a growing consensus in the City and business that this is the direction in which we must travel – and hope that the government will unashamedly adopt it as its core purpose. For if not this now, then what – and when?

Photograph by University of Cambridge