Helping Britain to Lead the World in Innovation – The Importance of Financing for Small Businesses

16/04/2015

By Lord Leigh of Hurley, Senior Partner at Cavendish Corporate Finance

We live in a truly global economy, interdependent and competitive in almost equal measure. The established order that Britain historically led has changed profoundly and is still changing at an astonishing pace, with the developing world starting to grow exponentially. Since 2000, emerging markets have accounted for 70% of all GDP growth and according to renowned economist, Jim O’Neil, by 2040-50 the BRIC economies - Brazil, Russia, India and China - will overtake the G7 in combined GDP.

While we cannot predict the ebbs and flows of global capital, the unpredictability of global corporates locating here or there, some standing and some falling, it is clear that to survive and thrive in this world, Britain must start to lead again, by innovating faster, investing more and competing harder. Just as we led the world in innovation to blaze the trail for the Industrial Revolution, we must do so again in digital and technology, and undoubtedly we have a strong platform to do just that.

The UK represents less than 1% of the world’s population, yet we account for more than 3% of global scientific expenditure, 4% of the world’s researchers and 16% of the most highly-cited articles. So we have the ideas, but ideas alone are not enough. We need to make sure they do not remain as ideas but become great, innovative companies, employing hundreds and thousands of people in new, and as yet unknown, industries and technologies.

There are strong signs that we are starting to do this. In 2013, the area known as Silicon Roundabout added 15,000 new business start-ups, an incredible achievement and no doubt thanks in part to this Government’s backing for initiatives like Tech City. In the last 10 years, Europe has created 30 $1bn plus tech companies, 11 of which were here in the UK and we now have the fastest growing digital economy in the G20.

The key to the success of these new businesses is finance to help them grow, both worldwide and, most importantly, here in the UK. However, access to finance is still the biggest challenge facing start-ups in the UK. 78% of respondents to a recent Coadec (Coalition for a Digital Economy) survey cited it as an impediment, exceeding any other issue.

While I believe the business and regulatory backdrop has never been as supportive, and welcome the measures this government has taken, I believe there is still more that needs to be done.

Extensions to the reliefs offered in both the Enterprise Investment Scheme (EIS) and Venture Capital Trusts (VCTs) have helped drive more capital into our most innovative companies. This trend was extended further in the recent budget with the investment limit for knowledge intensive companies extended to £20 million from £15 million, as well as the employee limit raised from 250 to 499, meaning many more businesses will benefit.

This parliament also saw the inception of the Seed Enterprise Investment Scheme (SEIS), a dedicated tax incentive scheme for very young companies. Since 2012 it has helped over 16,000 companies and raised more than £135m in investment. Tellingly, 58% of angel investors say that without this scheme, and EIS, they would not have invested at all.

We have seen Entrepreneurs Relief significantly extended, up to tax exempt life time gains of £10m in this parliament, which highlights the opportunity to start a business here in the UK, and to raise money for one. If you succeed, you can keep more of what you have built, which is recognition of the wider benefits to the UK economy of growing companies that innovate and create jobs.

Measures were introduced in the recent Budget that will loosen the employment test and allow academics and researchers who contribute to the success of a business to benefit from Entrepreneurs Relief. I believe this is also key in ensuring that British businesses stay ahead of competition.

To encourage serial entrepreneurship, further measures, such as the abolishment of the lifetime limit for Entrepreneurs Relief, need to be taken. This will encourage those who have succeeded, to try and succeed again by investing in new ventures.

The 5% threshold should be done away with in order to support SMEs and encourage their growth. Many venture capital entrepreneurs, founders and early employees are subject to significant dilution and many will fall below the 5% threshold, rendering them ineligible for tax relief. This is palpably unfair and not only that, it encourages perverse decision making as entrepreneurs are incentivised to avoid investment if it means avoiding dilution. They should not become a victim of their own success and so should retain their eligibility for tax relief.

Schemes such as EIS and Enterprise Relief are vital. They ensure that Britain holds its reputation as the global capital for start-ups, creating an economy built around investment in ideas and innovation to guarantee our country remains relevant in the future.