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Rise of the unicorns - 06/01/16

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Technology companies with valuations of $1bn+ used to be the stuff of myth, but now so called “unicorns” abound, with 11 companies reaching the milestone over the past year in Europe alone. But is success all about the valuation? Is the recent upsurge the result of an over-inflated market, or is the entrepreneurial ecosystem getting better at nurturing and sustaining these high-potential companies?

Bailey Fisher Executive Search talked to three investors integral to that ecosystem in the UK about the reality behind the headline grabbing valuations. Simon Calver of Business Growth Fund, Alex McCracken of Silicon Valley Bank and Alex Macpherson of Octopus Ventures share their thoughts on what makes a super successful tech company, and how their organisations are identifying and supporting the outstanding entrepreneurs building the next billion dollar businesses.

Formerly Chief Executive of LOVEFiLM, Simon Calver is heading up Business Growth Fund’s new £200m fund dedicated to earlier stage UK technology companies. BGF is an independent company backed by five of the UK’s main banking groups – Barclays, HSBC, Lloyds, RBS and Standard Chartered – with up to £2.5bn to make long-term equity investments in UK growth companies. During his seven year tenure at the helm of LOVEFiLM, Simon grew the company from a series of small start-ups into a multi-million pound enterprise before negotiating the successful sale of the business to Amazon. He went on to become Chief Executive of Mothercare plc, kick-starting the turnaround plan to improve profitability and growth in the UK and accelerating international expansion.

Alex Macpherson is Head of Octopus Ventures, which recently announced a new $140m fund, the Octopus Zenith Opportunities II LP, ( or “Octopus Opportunities fund”), aimed at providing later stage growth capital to successful fast-growth companies across Europe. Under Alex’s leadership the Octopus Ventures team has established itself as one of the leading UK venture capital houses with a diverse portfolio of investments including Secret Escapes, Zoopla, Graze and SwifKey. Previously, Alex co-founded Katalyst Ventures, and led the business as CEO until its sale to Octopus in 2007.

Alex McCracken is Managing Director of Venture Services at Silicon Valley Bank, which has been fuelling the global innovation economy for more than 30 years and today provides banking and financing services to businesses of all sizes in innovation centres around the world. SVB Financial Group, the parent company of Silicon Valley Bank, has had a presence in the UK since 2004 and the UK Branch launched in 2012 to further support disruptive technology and life science businesses within the UK’s vibrant innovation sector. Prior to joining Silicon Valley Bank, Alex was an Investment Manager at TTP Ventures and previously co-founded TISS Ltd, a technology company which he grew as Managing Director, raising several series of venture funding before a successful exit in 2007.

Both Octopus Ventures and Business Growth Fund have recently announced new funds. Simon Calver and Alex Macpherson, what was the impetus behind this?
Alex Macpherson “Within our existing venture funds, a number of businesses were becoming so successful that they were growing beyond the mandate of those funds. However we wanted to continue to support those outstanding entrepreneurs. The Octopus Opportunities fund sits as a follow-on fund for those going into growth stage, to assist those entrepreneurs in building big businesses rather than looking to exit.”

Simon Calver “Business Growth Fund’s growth teams are investing in profitable UK businesses with revenues over £5m. This amounts to less than 1% of companies, leaving 99% potentially looking for money and not being helped. The challenge is the sheer number of companies involved. To narrow the playing field, this will not be a generalist fund, but will specialise in technology.”

Can you tell us a bit about the new funds and where the focus will be?
Alex Macpherson “The main focus will be on those businesses currently in our portfolio, although we do have the facility to invest outside the portfolio. Our first investment was in Secret Escapes, one of our portfolio companies backed from an early stage through our VCT and EIS funds. The company is now a market leader in the UK, Germany and the Nordic countries and is expanding, including into the US. It has grown beyond the remit of VCT and EIS investment. The latest round of funding that we led with Google Ventures was $60m.”

Simon Calver “Crucially, this is not a fund. We are investing off balance sheet, and that is important. It is patient capital which is better for the founders. Our focus will be technology, Series A and Series B from £1m – £6m as an initial investment, but we will be looking for follow-on. We fully expect to be looking to find the next 10 – 15 best technology companies in the UK.”

What are you hoping to achieve with the new investments?
Alex Macpherson
“The main thing is to make sure that European entrepreneurs have the ability to receive funding through the life of the companies they are building. The European market has changed hugely. There is much more seed funding and early stage investment, but we need funding at all stages of development or there is a danger that the companies either become funded by US investors or the entrepreneurs sell out too early.”

Simon Calver “We need to make a return for our shareholders, so it has to be commercially viable. We are also looking at how we stimulate growth in venture companies in the UK and mentor the founders to grow their businesses into globally successful technology companies. Having been there and done that is very important. When we are on the boards of our portfolio companies, sitting round the table, we have the experience of having taken the knocks and can help the founders and their businesses through the difficult times.”

Alex McCracken, it has been 3 years since Silicon Valley Bank launched its UK branch. Can you share a few highlights so far?
Alex McCracken “Our growing client base is one of our biggest highlights. With over 1,000 clients, we are delighted to see home-grown UK tech businesses, including Farfetch, Clearswift and Brandwatch, emerge as global leaders and serve as strong role models. We’ve been privileged to work with UK unicorns, top venture capital and private equity funds, large public tech businesses and Angel-backed businesses. This flourishing sector has generated exciting business growth and, over the years, we’ve hired a host of talented people to strengthen our team in the UK.”

Any surprises?
Alex McCracken “It has been a pleasant surprise to see a dramatic increase in investments into UK technology businesses – from early to late stage – in recent years. The creation of new funds, an increasing interest from US investors and a multitude of alternative financing options have made capital plentiful and this is equipping businesses with the funds they need to grow. There are now over 100 venture capital and private equity funds, from the US and UK, that are actively investing in UK tech sector, plus an increasing number of exits on AIM, NASDAQ and through acquisitions which is returning capital to funds.”

How does Silicon Valley Bank assist innovative tech companies to grow?
Alex McCracken “Silicon Valley Bank partners with businesses, venture capital and private equity firms within our niche segments, helping support innovation businesses from early stages right through to growth and large corporates. In terms of lending, we provide venture loans to early stage businesses, through to growth capital, working capital, larger corporate facilities, and buyout financing for acquisitions for more established businesses. We are proud to have supported global businesses such as Cisco and LinkedIn, and more recently UK businesses like Momondo Group, Idox PLC, Swiftkey, DueDil and ECI Partners.

Keeping ourselves laser-focused has equipped us with the knowledge and the network to be a valuable partner, and it’s our mission to help entrepreneurs and innovation businesses succeed. We aim to offer more than just financial services; our desire is to connect our clients with the right people globally, offer insights to improve their businesses, and provide solutions that will help them succeed. We introduce our clients to our global network of corporate contacts, including tech giants and Fortune 500 business, for the purpose of business development and/or investment. Because we also work with over 1,500 venture capital and private equity funds worldwide, we can help our clients grow by making targeted connections to relevant funds that can introduce growth equity.”

How would you define a super successful technology start up?
Alex McCracken
“A successful technology start up would have a great team, a differentiated product with a large market and demonstrated fast growth.”

Simon Calver “The key thing that we look for is the quality of the management. Also a customer focused business model; does the business have traction and routes to market. Does it have good revenue, profitability and growth? I also look for the ability of the business or the proposition to grow virally. Does it have the great customer experience that will ensure the network effect?”

Alex Macpherson “The key things are vision and execution. We look to invest in unusually talented entrepreneurs. We want to see them addressing a really big market and we want to see them build a really successful business. We look for the quality of the entrepreneurs and the team they put around them, and the ability to execute on their business plan. Do they have traction? Can they take advantage of the opportunities that exist, probably on an international scale? There are relatively few sectors where you can build a super successful business without being international. Ironically, one of our portfolio companies, Zoopla has the opportunity to build a really big business in the property market just in the UK, but the majority of companies will need to go into the international market.”

Does the phrase unicorn enter into your thinking?
Alex McCracken “There are over 140 private tech businesses worldwide which are valued at more than $1 billion with more reaching this status each month. Many of these businesses will continue to grow revenues and users and thus raise further capital from public or private sources at even higher valuations. This means we are also seeing ‘decacorns’ – those that are valued at over $10 billion – and ‘honey badgers’ – those that have raised over $1 billion.”

Simon Calver “The trouble with focusing on unicorns is that this is based on the perception of value. For me what is more important is, is this a great tech business? If it happens to get a high valuation, then that is a bonus, and good for the founders. But we don’t get fixated on finding the next unicorn. We want to find great companies and help them to succeed.”

Alex Macpherson “It’s all about how do we help the entrepreneur to build a great business; about substance as well as the opportunity. It is very important to see traction and how the company can scale really quickly. I think the term unicorn is greatly overused. If the opportunity exists to be a multi-million dollar business, that is great, but at an early stage that simply doesn’t enter into our thinking.”

Where do you envisage the next UK unicorns coming from?
Simon Calver “The UK is building great credibility in fintech at the moment. We are very good at innovating and are seeing this in Artificial intelligence, data mining and cyber security. The UK also has a high penetration of online companies. For me there is not one area that will stand out, but many with potential.”

Alex Macpherson “Opportunities exist across the spectrum in technology and technology-enabled businesses. Think about what has happened in the last few years with the proliferation of smart phones and cloud computing , making it easier for a company to scale with cloud computing or to get a product to a whole lot of consumers through the smart phone. The cross over with software and hardware is interesting. What other devices will launch for instance, in wearables? There is huge potential in connected devices, whether in the home or even in telemedicine. Everything can connect, even devices that may be inside you.”

Alex McCracken “There are a number of UK ‘foals’ on their way to $1 billion valuation in sectors including fintech, e-commerce, retail tech, medtech and biotech.”

Is the recent rise of unicorns a result of an over inflated market?
Alex McCracken “We’ve seen more capital invested into private innovation businesses in recent years than any time since 2000, which means that going public isn’t the only way to raise growth capital. Businesses can use private capital to grow their revenues and overseas presence to become a large and successful business, giving them the flexibility to decide whether to raise more financing in private or public markets at higher valuations.
The rise of unicorns is due to several factors. Firstly, many tech businesses are disrupting incumbents and achieving high growth in global markets. Secondly, capital is plentiful with investors who are seeking higher yields than they can get with public businesses. Thirdly, unicorns are still relatively rare – only 140 worldwide – compared to the large number of public stocks or bonds available. This means there is a large pool of money chasing relatively few private deals, thus driving up valuations. Late stage investors in these businesses are also protected by structuring investments with preferences and ratchets that still give them a good return even if the business exits at a flat valuation. Lastly, there is a ‘fear of missing out’ factor for these late stage investors that is driving up demand and competition to invest in large, high growth private tech businesses. “

Alex Macpherson “The thing that’s really important to remember is that businesses don’t start out being valued very highly. They start out with an idea and a few people round the table and they look to build. How a company reaches a $1bn valuation is a result of real hard work and traction. With a few of the massive valuations, particularly in the US, for instance Uber and Airbnb, the question is can they grow into these valuations and IPO in the future?

I think we need to put the $1bn valuation aside to some extent. The great thing in Europe is that we have entrepreneurs and serial entrepreneurs coming through, taking market share and building businesses that are moving forward whatever the economic conditions. There is such vibrancy in the European entrepreneurial ecosystem, whether in London, Berlin or Stockholm. There is a wave of entrepreneurship and these companies have exceptional teams. Disrupt is a word that is overused, but these companies are going out and providing a product or service that is not currently provided. This generates growth which in turn generates value.”

Simon Calver “I think it is that we are just getting better at it. The good thing about great companies is that they fuel more. There is a knock on effect, as in Silicon Valley, where the successful founders invest cash and expertise back into the market.”

Bailey Fisher Executive Search is an independent executive search firm specialising in building the boards and leadership teams for ambitious growth companies in technology and life sciences.

This article first appeared in the January 2016 issue of Cambridge Business Magazine.

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