The second part of this update focuses on enabling successful sales growth for innovative businesses.

My discussion with Lord Young and question in the plenary session was focused not on investor tax breaks, but on how government can encourage smaller companies to become more successful in their sales efforts:

In public procurement of innovation, the Small Business Research Initiative seems at last to have found a nurturing home in the Technology Strategy Board. But it’s still a small scale initiative for a few public bodies, rather than a mainstream driver of innovation in procurement.  The US requires Federal Agencies with extramural research and development budgets over $100 million to administer SBIR programs using an annual set-aside of 2.6% for small companies to conduct innovative research or research and development (R/R&D) that has potential for commercialisation and public benefit.  The total UK expenditure meanwhile is a few £m per annum

In public procurement (OJEU) there are systematic barriers to SMEs.  Most ubiquitous is the use of prequalification processes where companies are required to demonstrate evidence of 3-5 similar contracts.  This is a blatant stifling of innovative approaches.  Lord Young agreed that there is much to do in this field, and stated that central government contracts under £100k have dispensed with prequalification. SMEs make up 50% of UK GDP, but only 12% of public procurement.

These issues must be taken more seriously. The UK is a small home market for technology businesses, many of which would be better located in the USA. Investors like us need our investee companies to become successful through rapid realisation of their sales prospects. That’s why we started Qi3 Accelerator. It’s vital that where government can make the UK a better test-bed and first marketplace for new technologies that it should do so through disruptive, not incremental steps.

‘Angels, your country needs you!’

Well it wasn’t ‘Breakfast at Tiffany’s’ although there was plenty of silver on display. I was invited to a business summit for angels and entrepreneurs at Number 10 Downing Street on Friday.  I suspect that my inclusion on the guest list resulted from interest in Qi3 Accelerator’s new model for investment in High Value Manufacturing businesses.

David Cameron spoke about his drive to make the UK a great place for companies to attract investment and grow. Like Kitchener, he exhorted us with the words ‘Angels, your country needs you!’ Having just climbed the famous staircase featuring portraits of all 73 of Britain’s Prime Ministers, it was clear that this was a place in which such a statement should be taken seriously.

He went on to highlight the tax incentives for investors introduced over the past 2 years:

• increased the rate of income tax relief for the Enterprise Investment Scheme (EIS) to 30 per cent to encourage more equity investment in start-ups;
• doubled the investor limits to £1 million per year from this April;
• launched the new Seed Enterprise Investment Scheme (SEIS), which provides 50 per cent rate of income tax relief for individuals who invest in new early stage businesses; and
• from April, for one year only, to kick start the scheme there will be a capital gains tax holiday, so gains can be re-invested into start-ups and be exempted from capital gains tax.

Whilst I’m not yet fully convinced by the details of SEIS, there’s no doubt that a 50% income tax and 28% capital gains tax relief makes for an extraordinarily generous attempt to kick-start seed investment at the £150k level.  I shall certainly be looking for an Accelerate to Investment seed opportunity right now.

There were numerous questions from the floor about the details of the EIS tax relief. This is a superb scheme, but definitely requires simplification and specific extension to enable investor directors to benefit from EIS-able share options.

Lord Young in his talk emphasised that now is a great time to start up and grow businesses. I heartily agree with this perspective.  Whilst others are locked in corporate stasis and gloom, it’s the time for up and coming businesses to defy recession and go for growth.

Other speakers introduced the Angel CoFund, Business Coaching for Growth programme and the Business Growth Fund, which is aimed at growing businesses that have already reached £5m annual revenues.

Of course the real-life war stories from Giles Palmer (Brandwatch) and Dale Murray (BBAA Angel of the Year 2011) brought humour and reality to the morning. I especially noted Dale’s remarks on a ‘bad angel’ who had sought to seize control of her business.  The event was attended by several MPs and ministers including David Willetts (Universities & Science) and David Gauke (Treasury).

Whilst the event tried to cram an awfully big subject into a 3 hour session, the politicians impressed me with their openness and willingness to listen. They repeatedly encouraged direct input to Lord Young’s programme.  It was evident that the newly launched Angel CoFund, the Business Growth Fund and the new Seed Enterprise Investment Scheme are all direct outcomes of input from the British Business Angels Association and other bodies.  Anthony Clarke at LBA/BBAA has clearly maximised the lobbying power of this community, amongst a bewildering array of angelic acronyms and organisations.  Somehow, even Angela Knight, the voice of the British Banker’s Association (BBA), seemed to think that banks have something to offer through mentoring, if not money.

Even more important was the understanding that finance and tax incentives are necessary but not sufficient to kick start this part of the economy.  Companies need to be able to access the skills and support of experienced businesspeople and specialist mentors if they are to be able to recognise and achieve their full potential.

‘You’re more than a networker, you’re a connector’ was the praise bestowed upon me this week by a business associate.

I initially wasn’t sure whether to take this as a compliment or an insult, as I hadn’t understood the difference between the two.  So when I returned to my desk I looked it up.

Networkers are ‘me’ focused, making connections as a means to an end. Connectors are ‘you’ focused, insatiable resource investigators who just love making connections between people because of an innate desire to help others.  The outcomes may be the same, but the personal motivation is different, and clearly evident to others.

Some of my best moments over the past 12 years at Qi3 have been the realisation that astronomers could contribute significantly to the computer games industry or that techniques for manufacturing telescope mirrors could be applied to orthopaedics. My many years of association with CERN were dominated by a hunger to find the next world wide web or high energy cancer diagnostic or therapeutic modality.

Whilst I wouldn’t describe my every move as altruistic, I am driven by my enthusiasm for business, and especially for making seemingly weird connections between the worlds of physics / engineering and industry.  I bridle at suggestions that words like ‘passion’, ‘enthusiasm’ and ‘fun’ aren’t grown-up business terms.  If growing up means that I have to be dead-pan, I’d rather stay young!

Can you discover your enthusiasm for helping others around you, and feel the karma flow?

It always takes far longer to close a deal than I imagine at the outset. There’s always some hiccough or another that introduces a few weeks of delay.

Anyway, I’m delighted to be able to confirm today that Qi3 Accelerator, working with existing investors Octopus Investments, has completed a £1.5m investment in Loughborough-based industrial inspection business Phase Vision.  I’ve joined the board as a non-executive Director, to support the development of the business in the aerospace, automotive and nuclear markets, and to represent our substantial Business Angel consortium.  Our syndicate comprises a wide range of Cambridge, London and East Midlands based investors.  Great task sharing between Tim, Paul and me, together with support from other investors, made this a real team effort.  Most importantly, the management and staff at Phase Vision have been a pleasure to work with throughout, seemingly unflappable in the face of our persistent questioning.

And this is why we started Qi3 Accelerator; to find great British engineering companies and provide them with the financial and management support they need to accelerate their development.  Phase Vision offers for me the perfect combination of a strong team, a super product that benefits efficient manufacturing and reduces environmental impact, and global export opportunities.

I’m sure there will be plenty of problems along the way – it’s a risky game investing in High Value Manufacturing, particularly in the midst of a prolonged economic downturn.  But in life you have to choose whether to be a spectator or a doer, and I hope to see Phase Vision do well.

I’ve been asked to join the panel at a London Business Angels investor club night this week.  The event will focus on the topic of due diligence.  To get the juices flowing, I’ll focus here on some key aspects:

Staged due diligence is vital

The amount of time and effort put into gathering information needs to be staged to be fair to you and to the prospective investee.  In stage 1 we simply evaluate the business plan, presentation or other initial interaction.  In stage 2 we ask more questions but take the answers at face value.  At stage 3 we seek to reach a detailed conclusion as to whether we would like to invest in the company.  This is the main stage at which we take the technology, product/service and market apart and seek to understand them thoroughly.  Finally at stage 4, we seek to ensure that the legal and financial terms are fully acceptable.  Our experience is that the decision to pass from one stage to the next should be taken seriously and with regard to the time and implied commitment involved.

Decide how much to do before agreeing terms

We’ve varied in our approach to the amount of due diligence we do before agreeing investment terms. On one hand a greater degree of upfront research will indicate areas for further discussion and investigation.  It will also uncover issues that change our views on valuation or our interest in investing.  On the other hand, an early term sheet shows commitment and gains exclusivity.

The company seeking investment should provide the information

When I started investing, I would spend a lot of time undertaking my own research into the market prospects for potential investments.  Whilst we still do this on occasion, it’s far more valuable to understand what the company knows.  Our approach now is to provide the company with a set of headings for the main due diligence, and expect them to populate a dropbox folder with their information.  This has the twin advantages of helping us to understand the depth of the company’s own understanding and providing the basis for the warranty disclosure letter at the end of the process.

Talk to customers

An invaluable part of the diligence process is a series of calls to current and prospective customers.  Are they happy with their interactions with the company?  Does the product perform? Do their projected orders correspond with the company’s sales projections?  A few structured calls undertaken by a market research professional can be illuminating.

Don’t overdo it

It’s possible to overanalyse a prospective investment.  This can result in wasted time and thus deflate the return on investment.  With early stage technology businesses, especially those that are pre-revenue, some questions cannot be rigorously answered and the decision will come down to your personal judgement.  I always ask myself the questions “will this piece of research contribute directly to my investment decision” and “do I think that the management team will find the answers post investment”.

Undertaking a structured due diligence process is a super way of learning about the business and its management team.  Executed properly it leaves me with the confidence to entrust the company with my investment, or to walk away from the deal safe in the knowledge that ‘this one’s not for me’.