Analysis

July 23, 2021

Should the new UK £375m ‘Breakthrough’ fund back startups or scaleups? 

VCs are divided over where deeptech funding should be deployed.


Maija Palmer

9 min read

The £375m ‘Breakthrough’ fund unveiled by the UK government earlier this week is aimed at supporting deeptech companies and turning the UK into a “science superpower”. And it’s all part of the UK’s plan to usher in an “age of entrepreneurship” in the world’s fifth-largest economy.

More funding for science-based startups is always welcome. £375m is a drop in the ocean compared to the Germany’s €10bn future tech fund, for example, but it is a good starting point, say VCs — especially if it can help convince institutional investors like pension funds to invest in this asset class alongside the government.

But investors are divided on whether the fund’s focus on scaleup companies — rather than really early-stage startups — is the right strategy.

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“There is no shortage of capital around for those looking to raise at least £30m, which is the profile of company this scheme is targeting,” says Stephen Page, CEO of SFC Capital. “Why provide additional government funding for scaleups that have already secured large amounts of VC money and are already in high demand?”

Why provide additional government funding for scaleups that have already secured large amounts of VC money and are already in high demand?

Page argues that it is the earlier-stage startups that need the help. Seed-stage rounds in the UK last year were down 36% from their 2018 levels, according to research by SFC Capital.

Tim Mills, managing partner of ACF Investors, agrees: “In our experience at ACF, the Series A/B trough is one that hardware companies in particular have a difficult time crossing.”

However, Zoe Chambers, principal at Octopus Ventures, disagrees. "At accelerator level, seed and Series A, there are a number of great investors across Europe. But when those companies need to raise £30m or more in a round, the list of who can be approached in Europe to consider investing tails off."

Moray Wright, CEO of Parkwalk, which invests in early-stage university spinouts, also believes more funding is needed at the scaleup level.

“If we want to build world-leading companies in the UK we have to have the funding ecosystem in place to take them all the way through to success. If the UK is to become a ‘science superpower’ we need to address this gap and support our winners domestically throughout their lifecycle, rather than fixating on early-stage funding,” he said.

Brian Mullins, CEO of Oxford University AI spinout company Mind Foundry, agrees that providing more late-stage funding would help keep more scaleup companies in Europe, rather than having them acquired by US and Chinese buyers.

“There are many funding options for early-stage companies. However, the lack of funding for later-stage companies means many turn to overseas investors or acquirers, particularly in China and the US, for help in realising their long-term ambitions.” he says. “For the UK to maintain its competitive edge, we need to create a clear and sustainable pathway for startups as they scale, and that starts with funding.”

Have your say — where do you think the Breakthrough funding should be focused? Email maija@sifted.eu or comment below.

Full comments from VCs and founders

Zoe Chambers, deep tech investor at Octopus Ventures

Zoe Chambers, principal, Octopus Ventures

There are a number of hurdles for deeptech startups, but we definitely see later-stage funding in UK as one of the biggest, so I think the fund is a big positive. At Series B and beyond, we often see strategic investors participating, but there is a real dearth of European growth funds that are purely financially motivated and willing to invest in businesses that are not a pure software play.

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When companies need to raise £30m or more in a round, the list of who can be approached in Europe to consider investing, tails off.

That’s why I think the slightly later stage target makes sense. At accelerator level, seed and Series A, there are a number of great investors across Europe. But when those companies need to raise £30m or more in a round, the list of who can be approached in Europe to consider investing tails off.

This is why we’ve seen UK companies acquired in their early stages (Deepmind to Google, CQC to Honeywell) or they’ve had to explore creative solutions to raising capital (SmartKem’s reverse acquisition). Hopefully, the Breakthrough Fund will start to close that gap and should help more deeptech companies reach true scale.

The fund expects to write cheques of around £10m, which equates to roughly 35 investments, so it’s certainly meaningful. As a comparable, looking just at quantum computing, the US government has committed $1bn while the Chinese have reportedly committed $10bn, so we’re still some way behind, but as a first fund, the size probably makes sense.

There’s still a question mark in my mind about the most important stakeholder here — the entrepreneur — and how they feel about having an investor on their cap table that is the government. 

Stephen Page SFC

Stephen Page, founder and CEO, SFC Capital

As a standalone exercise, the Future Fund: Breakthrough makes sense, but it’s clearly explicitly targeted at scaleups and will do little to help fund early-stage startups in life sciences, quantum computing, cleantech, and other areas of deeptech.

The issue here is that the scheme will only help the superstars, and is effectively a top-up scheme for companies that have already succeeded in securing venture capital and private equity funding. Why provide additional government funding for scaleups that have already secured large amounts of VC money and are already in high demand? There is no shortage of capital around for those looking to raise at least £30m, which is the profile of company this scheme is targeting.

The bottom line is that it’s not going to benefit the hundreds of R&D-intensive firms at the early stage that represent the next generation of the UK’s deeptech innovation pipeline.

I would go as far as to say that the VC firms that are already invested in scaleups of this size might not even take the funding on offer from this scheme, simply because there is so much dry powder at this level already, with VCs having to fight to get into rounds for these superstar businesses.

Meanwhile, early-stage funding is declining. We recently highlighted in a research report that the number of first-time funding rounds into UK seed-stage startups declined for a second consecutive year in 2020, to 36% below the 2018 peak.

The bottom line here is that while it could be a great source of funding for the top 40 to 50 companies, it’s not going to benefit the hundreds of R&D-intensive firms at the early stage that represent the next generation of the UK’s deeptech innovation pipeline — and the government funding available to those companies is a pittance in comparison.

Tim Mills

Tim Mills, managing partner, ACF Investors

Although the European venture capital market is performing very strongly with record inflows of capital, it is also quite apparent that the risk appetite for much of that new investment is relatively limited and the willingness of many investors to back truly groundbreaking technologies is far more muted than the headlines might suggest.

Although the European venture capital market is performing very strongly... the risk appetite for much of that new investment is relatively limited.

The £375m can only ever be a catalyst, but provided it is deployed at the right stage of a company's development it can be very effective. In our experience at ACF, the Series A/B trough is one that hardware companies in particular have a difficult time crossing.

Simon Menashy, partner at MMC

Simon Menashy, partner, MMC Ventures

This seems to be a pretty targeted intervention, aiming to provide match funding to a relatively small pool of high-tech scaleups. It will hopefully increase the capital available to some harder-to-fund, capital-intensive companies making long-range bets — especially outside London.

I expect Breakthrough will end up with a portfolio of fairly high-risk bets.

I don’t think this fund will compete with VCs or crowd out private funding. In most competitive funding rounds, founders are likely to choose specialist growth funds if they have that option. As a result, I expect Breakthrough will end up with a portfolio of fairly high-risk bets, although this seems to be the intention. We should expect to see losses, but these should be outweighed by the winners.

Moray Wright, CEO at Parkwalk

Moray Wright, cofounder and CEO, Parkwalk Advisors

This fund could help to ‘seed’ the later-stage growth sector and show private long-term investors, such as pension funds and insurance companies, that this is an attractive asset class to generate real positive returns on investment and for society. If this scheme encourages actuaries to the pension funds to see the real benefits of investing at this stage, then it is a step in the right direction.

The £375m fund is still hugely below our international peers.

The £375m fund is still hugely below our international peers. If we want to build world-leading companies in the UK we have to have the funding ecosystem in place to take them all the way through to success. If the UK is to become a ‘science superpower’ we need to address this gap and support our winners domestically throughout their lifecycle, rather than fixating on early-stage funding.

Brian Mullins

Brian Mullins, CEO, Mind Foundry

The UK is already a ‘science superpower’, but we are falling short in comparison to its scientific peer nations when it comes to commercialising deeptech innovation at scale, due to a lack of long-term funding options. The Future Fund: Breakthrough is a step in the right direction, as seen previously with the likes of ARIA launching next year, and more recently, £50m in government funding for our research and innovation infrastructure. However, these movements are still small in comparison to funding in this area elsewhere in the world.

There is a huge amount of potential and talent here in the UK — we need to make sure it stays here, and that will take more investment than is currently on the table.

There are many funding options for early-stage companies. However, the lack of funding for later-stage companies means many turn to overseas investors or acquirers, particularly in China and the US, for help in realising their long-term ambitions. For the UK to maintain its competitive edge, we need to create a clear and sustainable pathway for startups as they scale, and that starts with funding.

The devil will be in the details once it’s revealed, but in principle the only downside is if the investment stops at £375m. There is a huge amount of potential and talent here in the UK — we need to make sure it stays here, and that will take more investment than is currently on the table.