InvestUK Executive Chairman Rupert Gather writes for Capx
61 Days, 17 hours, 2 minutes and 37 seconds......
So says my “Time Until Pubs Open in England” app as I write. Blessed relief, not just about the pubs opening but what it says about a return to normal life. £500 billion and 125,000 deaths later, we can see a vaccinated, confused but certain path to our old lives. To help us along the way, the Government is focusing on recovery and “Building Back Better” - © President Bill Clinton (2008), UN Secretary General Ban Ki-Moon (2010), PM Boris Johnson (2020) President Joe Biden (2021)!
The question is how?
There has been much talk about infrastructure spending as the solution. I remember at school being taught that Keynesian economics was the only way to kickstart a recovery. Politicians love these grand projects: they are a physical embodiment of “doing something” and it’s true that they do have a stimulating effect, even if it is inflationary. Economic theory has moved in many respects since the 1970s so we can hope for a more nuanced approach, but this doesn’t take away from the real problem that big infrastructure projects are generally a waste of money. The Said Business School has studied over 3,000 ‘Megaprojects’ and discovered that just 27% were on budget or better, 2.8% were on budget and on time, and only 0.2% of projects were on budget, on time and on benefits. In other words, the typical project is significantly more costly than promised, delivering significantly less benefit at a much later date than scheduled. Be afraid about HS2, be very afraid.
The real solution lies with innovators. There are 5.6 million such entrepreneurial businesses in the UK that employ 16 million people and make up 47% of private sector GDP. It’s not just about the value to GDP and job creation, though, it’s the contribution to the growth of innovation and the spur to competition that generates new ways of doing business. Pandemic lockdown, for example, has seen a record rise in start-ups and innovation as companies reinvent whole business models and the power of the online world levels the playing field for new entrants.
At InvestUK, we see this first-hand. We act for clients seeking to start companies or source private equity investments, matched to their area of expertise, relevance or strategic objectives. We have developed a pipeline of investment opportunities for our international clients and have completed nearly 350 transactions in the last 6 years. The problem with innovative businesses is that they are by definition very risky. You don’t need to be a devotee of Schumpeterian creative destruction to note that more than 50% of companies formed in the UK in the last three years have failed. So, the sad truth is that if you are in the business of predicting success, you are as likely to back a failure as you are to find a great opportunity.
Conventionally this is why investors have stuck with portfolios and invested in say 10 companies in the certain knowledge that 3 will go bust, 4 will flatline and 3 will be superheroes. The trouble with this strategy is that it becomes a self-fulfilling prophesy with investors having to put their money in highly risky businesses offering a huge return of 40%+ annual IRR to end up with say 15% when they have taken into account the duds. Apparently, it’s now become even worse where the EIS/SEIS tax protected investor is pursuing the ‘Californian model’ where they are expecting 9 out of 10 to fail, assuming just one will become a super-superhero. Truly a Unicorn.
InvestUK has done a huge amount of work trying to spot winners because our clients typically just invest in a single business and need to get it right. As far as we can track it, we have a failure rate of about 10%, much better than the market although as you would expect our average IRR is correspondingly lower at 8%. Our methodology generally follows ground rules set out by the Home Office for international entrepreneurs wanting to establish enterprises in the UK under the Innovator Visa. These are standardised tests of Innovation, Viability and Scalability. Whilst it is necessary to abide by these metrics, Field Marshal Helmuth von Moltke observed that “no battle plan ever survives the first encounter with the enemy,”. Well, the same could be said about business plans so personally I prefer the three ‘P’s. Important as pubs are – and they are, for the very fabric and sanity of the nation depends on them – they are not what I had in mind. Rather, these ‘P’s make up a simple way of looking at what makes a backable proposition:
The first P is the ‘Past’, the founder’s history - and I don’t just mean standard business metrics like profit & loss and cash generation, I mean looking at their successes and failures in all parts of their life.
The second P is the ‘Plan’ which is where the entrepreneur lays out the future of their company. We have missed many brilliant opportunities but as we know from Dragon’s Den, it is notoriously hard picking winners. Everyone knows the story of Trunki, the ubiquitous pull along children’s’ suitcase that was killed as a proposition when the handle broke live on the show. Duncan Ballantyne stated with compete certainty that Tangle Teaser looked like a horse brush and wouldn’t make any money - but is now a £200m company. My favourite is the wonderfully named ‘Wobble Wizard’ which is literally a small rubber wedge that stops a table wobbling. One Dragon said that “it was the most ridiculous idea I’ve ever heard of, what’s wrong with a folded beermat”…… but that was before the entrepreneur received a £1m order for steadying university exam tables.
The final ‘P’ - and to me the most important - is ‘People’. Now this doesn’t necessarily mean the management, although whether they are likeable certainly helps. A property investor friend of mine in Hong Kong relies on his Feng Shui Consultant who guides him on the Chi, or flow of energy in a building project. He claimed the opinion of this Master was more reliable than the accountants he used for his due diligence. He was rather like Napoleon Bonaparte who preferred lucky generals to goods ones.
For all the soaring success and risk of failure, innovators are the precarious rock upon which we must build our post-Covid success. They can make one heap of all their winnings and “risk it on one turn of pitch-and-toss” and never breathe a word about their loss. They drive innovation and build viable and scalable businesses. And they make for great company in the pub……
.…..61 Days, 15 hours, 15 minutes and 20 seconds.