The Challenges of Scaling Businesses
Dr. Mike Lynch, OBE — June 2014
The FTSE100 lacks technology companies, and that needs to change. Dr Mike Lynch OBE on the challenges of scaling British tech.
During the summertime in the small Suffolk village of Yoxford, young children can be seen standing ankle high in the river Yox, fishing for sticklebacks. What makes this scene surprising, is that Yoxford used to have a port and a quay and a lively centre of commerce. However, the river silted and the trade moved elsewhere, consigning Yoxford to an idyllic, but less productive future.
When one reviews the FTSE100, one is forgiven for wondering if, almost imperceptibly, the silting process has begun at the London Stock Exchange. Whilst in analysing this, making generalisations, we can see that there is only one software company in the FTSE100 and that is Sage, the accounting software specialist. A good company, but perhaps not one at the most innovative end of the spectrum. Given the world-class science base in the UK, the importance for growth put on it by the government, which has invested in research funding, and the nature of the modern world, this is a worrying portent. There should be at least five or six such companies listed in the FTSE100.
Great progress has been made in recent years in unlocking the UK’s exceptional science base for economic impact. We now have a vibrant community of start ups and good midsized tech businesses. Tech transfer out of the universities is not only functioning, but it is now acknowledged that doing something useful in the university is not a sin and actually helps blue skies research. Much progress indeed.
So where are the Tech FTSE100's? Well, there was a time when things were moving in the right direction: Misys was in the FTSE 250 and Autonomy and ARM were in the FTSE100, but the natural process for FTSE100 companies of being acquired out of the market took place, and the problem is that the next generation didn’t arrive.
Many were acquired by US companies exploiting the asymmetric corporate rules around poison pills, overseas trapped cash, and valuations. . They became the R&D source for the US acquirer to exploit. We are now seem to be in a downward spiral, for example, with only 1% of the FTSE100 being software companies it is hard for a fund manager to justify putting in a lot of work to become expert in the sector. In turn this lack of knowledge leads to volatility, which further fuels their reluctance as they avoid the bumpy rides.
For example, recently there have been a number of examples of hedge fund money, mainly out of the US, playing games with the small tech names in London. Rumours start or reports are written from people, who at first sight seem independent, and later turn out not only to have been funded by the financial players, but to have been engaged on the basis of a discount if the report is not negative. There is nothing wrong with negative opinion, or indeed with non-independent reports — except that these reports are not represented as such. Walls of money are brought into play on the smaller stocks and sometimes the businesses are themselves damaged by the untrue rumours. Such games are harder to play in the US due to the depth of tech knowledge amongst the investment community, which means false analyses are more easily spotted and such plays are seen as buying opportunities by the more sector knowledgeable long-term holders.
No wonder then, that in the corridors of venture capital conferences the talk is of not listing on London. No one likes to say it in public and the Exchange’s PR department will rush out to point out the few floats there have been, but recent high profile potential listing such as King or Markit have chosen to list on the New York Stock Exchange and NASDAQ, or taken other options such as a trade sale.
Often, the UK VC community is accused of lacking bravery by selling out too soon, but actually it is behaving rationally. If you have a great company worth £60 million, because a London float is not an attractive option, you can either sell the company now to a trade US buyer, or hunker down and fund its growth over the next four years to get it to £400 million when it is big enough to go onto NASDAQ. So it makes sense to sell out.
If London were functioning well, the rational decision would be to float in London. If that had happened, for example, in the cases of Solexa and Bluegnome, the UK could claim to be leading the new genomics industry. However they were bought by Illumina and their technology now powers its US NASDAQ based multi-billion dollar success.
Quietly this problem is acknowledged. The VCs, the London Stock Exchange and the government have been working to fix it. New rules on free float will help, and hopefully some of the wave of upcoming great tech business will float and start to reverse the spiral. But we also need to acknowledge that some of the fun and games should be as unwelcome here as they are in New York.
So much progress has been made in the earlier stages of the tech business lifecycle that for veterans it feels like this is the home stretch, but if the London market isn’t operating well by the time the next wave of companies arrive, it will be a tragic missed opportunity for the UK economy and the Exchange start a long journey to becoming an idyllic backwater.
A version of this article appeared in Cambridge News.