STARTUP PERFORMANCE IN WALES

One of the key economic indicators regarding growth of an entrepreneurial economy is the number of new businesses being born every year.

As various academic research studies have shown, young firms create the majority of jobs in an economy and, simply put, employment will rise with an increase in the number of start-ups.
For example, a study from the Kauffman Foundation in the USA showed that new businesses account for nearly all net new job creation. Indeed, companies less than one year old have created an average of 1.5 million American jobs per year over the past three decades.

That is why the most recent data published by the Office for National Statistics (ONS) on business births in the UK is to be welcomed as it shows that a total of 1.85 million new firms have been established during the period 2010-15.

Of course, there have also been 1.47 million businesses that have closed down over the same period but the overall growth in the stock of firms means that net effect on the economy (and employment) has been positive for the last five years.

In fact, the situation has been improving year on year and the 383,000 business births in 2015 were the highest recorded since comparable records began in 2000, equivalent to a business birth rate (i.e. new firms as a proportion of active businesses) of 14.3 per cent.

This increase in the number of total business births is probably reflected in the strengthening of the labour market from an employment rate of 70.5 per cent in December 2010 to 74 per cent at the end of 2015.

In addition, the rate of business deaths has fallen to 9.4 per cent, the lowest level since 2006 with firms surviving longer as a result. Indeed, the data shows that four out of ten businesses born in 2010 are still active in 2015, which is a major improvement on the position during the last decade.

In terms of regional differences, London had the highest business birth rate (18.6 per cent) and Northern Ireland the lowest (9.7 per cent). Interestingly, this also seems to be reflected in the growth in the relative prosperity of both regions since 2010 as discussed in last week’s column.

If we examine new business formation by industry, the highest rate of business births in 2015 was business administration and support (20.4 per cent), which probably reflects the ease by which a business can be established in this sector but also the growing demand for such services within the wider economy.

It is also worth noting that in terms of absolute growth in the number of business births between 2010-15, a total of 160,000 business administration and support firms were created. This was followed by management consultancy (154,485), retail (142,265), specialised construction (138,735) and computer programming/consultancy (130,490).

This is not surprising as there has been evidence of an increase in new businesses being established in niche areas by professionals with support structures, such as co-working spaces, being created to encourage such growth.

In terms of the percentage increase in the number of new firms, the surprising growth sector over this period was “electricity, gas, steam and air conditioning supply” which went from 220 new firms in 2010 to 3,220 in 2015 (an increase of 1364 per cent). This probably reflects the increase in smaller scale generation around the UK over the last few years and is good news for the further development of this market, especially in terms of local environmentally friendly energy schemes.

In Wales, the business birth rate was slightly lower than the UK at 12.1 per cent in 2015. The overall number of new businesses had increased by 58,190 since 2010 with a total of 51,970 firms closing over the same period.

In terms of percentage growth since 2010, the annual number of new businesses created in the Welsh economy has grown by 54 per cent. This is lower than the UK average (63 per cent) over this period but considerably higher than either Scotland or Northern Ireland.

Not surprisingly perhaps, Cardiff has created the largest number of new firms (8,645) since 2010, accounting for 15 per cent of the Welsh total. However, the highest growth rate over the six-year period has been experienced in Merthyr Tydfil and Blaenau Gwent, suggesting that entrepreneurship may be finally beginning to flourish in our poorest communities where it is most needed.

Therefore, the good news for the UK economy is the statistics suggest that an enterprise revolution over the last few years is having a positive effect on jobs and prosperity and whilst Wales is doing relatively well as compared to other regions, there is remains scope for improvement over the next few years in ensuring that entrepreneurial activity develops further.

VENTURE CAPITAL IN WALES


Whilst there has been much talk about encouraging greater numbers of start-ups in Wales, it is equally important that these businesses scale-up quickly and create jobs and prosperity within the economy.

As discussed in this column last year, business angels are critical in helping potential high growth start-ups to establish themselves in the market.

But whilst such informal investment is important, research has shown that it is more formal equity vehicles, such as venture capital, that really enable firms to grow especially in technology-intensive sectors.

In order to gain investment, firms will normally submit their plans to venture capital businesses who will then, if they are interested in the proposal, undertake a process of due diligence to examine the business model, the products or services and most important of all, the ability of the venture team to deliver.

If they are satisfied with this, then the venture capital firm will invest in the company in exchange for equity. They will also take an active role within the business, usually by taking a place on the board to ensure that the company is meeting key milestones in order to trigger further rounds of investment.

The aim for the venture capital business – which normally sets up a specific fund to make a small number of investments in a limited number of firms - is to make a profit on their investment through an exit, typically after four to six years which is achieved through an acquisition/merger with another firm or a flotation on the stock exchange.

Given that the focus of venture capital is to grow high potential new firms, it is not surprising that it is often associated with innovative start-ups that as they grow require and attract highly qualified engineers, higher salaries, and requirements for service provision from other companies.

The profile of such firms - risky, early stage and requiring large amounts of capital  - means that banks normally run a mile from investing into these ventures. More importantly, the experience, expertise and knowledge which venture capitalists bring to the firm is normally not available from traditional funding providers.

However, this type of funding is important to the economy because technology companies, if successful tend to grow more rapidly than other sectors, creating proportionally more new products and markets than larger companies.

In fact, studies have shown that venture backed companies outperform non-venture backed companies on most operational performance indicators including revenue, productivity, gross income and, most importantly, employment. They also become the launch pad for other innovative products and technologies and they help create a culture of entrepreneurship more widely within the business community.

So what is the position in Wales when it comes to venture capital funding?

According to a study by Roger Maggs, one of Wales’ most successful venture capitalists, the vast majority of venture capital funding in Wales is provided by Finance Wales, the Welsh Government’s funding arm for SMEs.

Unfortunately, his research shows that the vast majority of this funding has largely ignored those high potential start-ups that can make so much difference to the Welsh economy.

For example, during the period 2009-2013, Finance Wales invested venture capital in only nine start-up companies, which equates to just 12 per cent of the total equity funding into Welsh businesses.

Indeed, the majority of seems to have gone into supporting management buy-outs (MBOs) which will maintain successful companies but will not lead to the innovation and growth required by a region such as Wales which is the poorest in the UK. Whilst other equity providers across the UK invested, on average, in 5.5 start-ups per million head of population, the figure for Finance Wales was 3.

Of course, that was the situation under the old mandate and structure of Finance Wales and it will be interesting to see what will happen going forward when the new Development Bank for Wales is established.

It is not a supply issue as research suggests that there seems to be sufficient supply of available venture capital funding. The problem is therefore not the quantity of finance but in how the investment of the available funds is organised and there are concerns as to whether a single, large and centralised entity such as Finance Wales is the optimum vehicle for direct venture capital investments in start-ups.

Instead, should the Welsh Government seek to encourage, as other successful countries have done, the attraction of venture capital companies with the experience, expertise and, most importantly, a successful track record of developing innovative businesses? Certainly, that has been the approach for life sciences in Wales where the Arthurian Fund, led by Sir Chris Evans, is independently responsible for providing venture capital into this sector and there is no reason at all why this model could not be adopted for other sectors.



And with Wales only investing 2 per cent of all UK venture capital funding over the last decade, it is clear there needs to be a radical change to ensure that those firms with the potential for growth are provided with the capital they need to make a difference to the Welsh economy.

VENTURE CAPITAL IN WALES


Whilst there has been much talk about encouraging greater numbers of start-ups in Wales, it is equally important that these businesses scale-up quickly and create jobs and prosperity within the economy.

As discussed in this column last year, business angels are critical in helping potential high growth start-ups to establish themselves in the market.

But whilst such informal investment is important, research has shown that it is more formal equity vehicles, such as venture capital, that really enable firms to grow especially in technology-intensive sectors.

In order to gain investment, firms will normally submit their plans to venture capital businesses who will then, if they are interested in the proposal, undertake a process of due diligence to examine the business model, the products or services and most important of all, the ability of the venture team to deliver.

If they are satisfied with this, then the venture capital firm will invest in the company in exchange for equity. They will also take an active role within the business, usually by taking a place on the board to ensure that the company is meeting key milestones in order to trigger further rounds of investment.

The aim for the venture capital business – which normally sets up a specific fund to make a small number of investments in a limited number of firms - is to make a profit on their investment through an exit, typically after four to six years which is achieved through an acquisition/merger with another firm or a flotation on the stock exchange.

Given that the focus of venture capital is to grow high potential new firms, it is not surprising that it is often associated with innovative start-ups that as they grow require and attract highly qualified engineers, higher salaries, and requirements for service provision from other companies.

The profile of such firms - risky, early stage and requiring large amounts of capital  - means that banks normally run a mile from investing into these ventures. More importantly, the experience, expertise and knowledge which venture capitalists bring to the firm is normally not available from traditional funding providers.

However, this type of funding is important to the economy because technology companies, if successful tend to grow more rapidly than other sectors, creating proportionally more new products and markets than larger companies.

In fact, studies have shown that venture backed companies outperform non-venture backed companies on most operational performance indicators including revenue, productivity, gross income and, most importantly, employment. They also become the launch pad for other innovative products and technologies and they help create a culture of entrepreneurship more widely within the business community.

So what is the position in Wales when it comes to venture capital funding?

According to a study by Roger Maggs, one of Wales’ most successful venture capitalists, the vast majority of venture capital funding in Wales is provided by Finance Wales, the Welsh Government’s funding arm for SMEs.

Unfortunately, his research shows that the vast majority of this funding has largely ignored those high potential start-ups that can make so much difference to the Welsh economy.

For example, during the period 2009-2013, Finance Wales invested venture capital in only nine start-up companies, which equates to just 12 per cent of the total equity funding into Welsh businesses.

Indeed, the majority of seems to have gone into supporting management buy-outs (MBOs) which will maintain successful companies but will not lead to the innovation and growth required by a region such as Wales which is the poorest in the UK. Whilst other equity providers across the UK invested, on average, in 5.5 start-ups per million head of population, the figure for Finance Wales was 3.

Of course, that was the situation under the old mandate and structure of Finance Wales and it will be interesting to see what will happen going forward when the new Development Bank for Wales is established.

It is not a supply issue as research suggests that there seems to be sufficient supply of available venture capital funding. The problem is therefore not the quantity of finance but in how the investment of the available funds is organised and there are concerns as to whether a single, large and centralised entity such as Finance Wales is the optimum vehicle for direct venture capital investments in start-ups.

Instead, should the Welsh Government seek to encourage, as other successful countries have done, the attraction of venture capital companies with the experience, expertise and, most importantly, a successful track record of developing innovative businesses? Certainly, that has been the approach for life sciences in Wales where the Arthurian Fund, led by Sir Chris Evans, is independently responsible for providing venture capital into this sector and there is no reason at all why this model could not be adopted for other sectors.



And with Wales only investing 2 per cent of all UK venture capital funding over the last decade, it is clear there needs to be a radical change to ensure that those firms with the potential for growth are provided with the capital they need to make a difference to the Welsh economy.