The Kernel: A home fit for start-ups

How would the European technology scene – from London to Berlin – seem to a visitor from another era? His or her experience would, I think, be rather similar to the world seen by the hero of Mark Twain’s novel, A Connecticut Yankee in King Arthur’s Court.

In the book, an American engineer of the Industrial Revolution finds himself, after a bump on the head, waking in the purported age of chivalry and knighthood. Purported, that is, as he quickly finds himself embroiled in serfdom, disease, prison and, above all, ignorance from the ruling classes. “CAMELOT – Camelot,” said I to myself. “I don’t seem to remember hearing of it before.”

Equally, an industrialist from Britain in the 1960s, brought up among the optimism of Blue Streak, TRS-2, and Harold Wilson’s “white heat of technology”, might find themselves just as disoriented to wake up in today’s Silicon Roundabout.

Twain’s hero, unfortunately, was unable to overcome the attitudes of Merlin and his “pretended magic”, even armed with inventions such as the telegraph, the Gatling gun, and printed newspapers. Intellect and technological prowess came to naught when faced with the massed institutions of the time.

By Mark Twain’s own day, the United Kingdom had a more positive attitude to its innovators: Brunel, Watt, the Stephensons and not least Charles Babbage, the father of computing. This continued into the 1940s and 1950s, with Alan Turing’s wartime work, at Bletchley Park, on cryptography, and the world’s first stored-program computer, the SSEM, which was designed and built in Manchester.

Ferranti’s Mark 1 was the world’s first general-purpose computer manufactured for sale. The stage could have been set for Great Britain to be the technological capital of the world.

But even as the information revolution started to gather momentum, the British spirit of entrepreneurship lost its lustre. The UK economy declined steadily in the post-war era, so that by the time mainframes were being fork-lifted into the computer rooms of large companies, UK-based computer makers such as ICL were already struggling.

It was a different story on the other side of the Atlantic: the United States saw strong economic growth, benefitting from the liberalisation of trade it had negotiated in the last days of the war. The first venture capital companies took root in California in the early Seventies, creating a financial engine room that drove Silicon Valley to world prominence.

Californian free thinking combined with New England sensibility and the Seattle work ethic to create and maintain technological superpowers such as Apple, Microsoft and IBM. In the UK, though, engineering prowess failed to be matched by funding, or political support. Venture capital firms were few and far between, with Investors in Industry – 3i – standing out like a light in the darkness even as many of Britain’s brighter sparks were being enticed across the Atlantic.

In parallel, the remaining elements of the UK’s manufacturing industries were diminishing. Manufacturing constituted 40 per cent of the UK economy at the end of World War Two; by the Millennium, this figure had halved. Britain had the intellect, knowledge and skills to lead the world in technology. But under-funded, over-bureaucratic and distracted by disputes, it was not to be.

It would take a period of considerable economic and social upheaval to set the scene for Britain’s entrepreneurial renaissance. The wave of privatisation and deregulation of the Eighties may not have met with universal applause. But it did set the scene for simpler finance and employment law – both important factors in creating an environment more suited to startup businesses.

It was not until the mid ’90s, however, that those changes made themselves felt in the technology sector – as another great British mind, Tim Berners-Lee, invented the World Wide Web and spawned a global boom in software and services. The initial the dot-com boom was driven from the US, but the mad scramble online was highly enticing to British fund managers and private equity firms.

Ben Tompkins, partner and investment manager at Eden Ventures, says, “There was a rush to join the market in 1999-2000. That’s when Britain got into its stride.” It may have been a bubble, but the trick was to get in early and the excitement was Transatlantic.

Early UK startups (for example, online auction site QXL) were often close mirrors of their US counterparts, a trend reminiscent of motorbike and electronics during the Seventies expansion of Japanese manufacturing. “If you had a web site that copied something in the US, it would be funded,” remarks Richard Eaton, a partner at law firm Bird and Bird, who was involved in the dot com sector at the time.

Few existing businesses could afford to ignore the much-hyped “e-business or no business” mantra, injecting further capital into the system and driving demand for software development and web design skills. Of course, the dot-com boom turned to bust. But even while the still-nascent UK venture capital community nursed an extended hangover, an industry subsector had been formed and an ecosystem had been created.

Wounds were tended, and by 2005-2006, investment started to pick up again. Today, VCs are older and decidedly wiser, and a wealth of creative talent is available – possibly a spin-off from the surfeit of media-related degrees that have attracted ridicule in the past.

The wave of interest around social networking has spawned a number of companies, some of which – like Bebo, Tweetdeck and Last.fm – have already achieved “exit” through buy-out. Unsurprisingly, there is less investment in hardware companies than in the past. “We’re seeing a lot of Web 2.0 and social media companies,” says Richard Eaton. “If they get £50,000 to £250,000 that will see them through for one or two years. The only fixed costs are their employees and the computers they use.”

The Industrial Revolution may have started in the Midlands and the North, but, for today’s start-ups, London is the hub of activity, for many reasons – not least because it is a hub of activity. “Interest in Shoreditch started largely because the rents were so cheap,” explains Rassami Hok Ljungberg, a communications consultant working with startup showcase TechPitch 4.5. The Government has capitalised on this interest, with initiatives such as the Tech City Investment Organisation heavily promoting the location.

Experts such as Bird and Bird’s Eaton are unconvinced that Shoreditch is an ideal location. “It’s trying to force something into where you wouldn’t think of having a technology hub,” he says. Shoreditch lacks a major research-based university comparable to Stanford, or indeed the ecosystem of financiers, lawyers and advisers that Silicon Valley boasts.

“All the same,” Eaton adds, “companies such as Cisco and Google have been very supportive – it can only help.”
Or, as Georg Ell, general manager of social software site Yammer, puts it: “When Yammer made a decision to start a European headquarters, the first decision was to place it in London, on the basis of the talent pool we felt we could recruit from and also that so many potential customers, multi-nationals, are headquartered here.”

That is not to say that UK start-up culture is a London-only phenomenon. Science parks around the country have also notched up success stories. Often connected to universities, Cambridge is the obvious – but by no means the only – example, spinning out Autonomy, Zeus and ARM.

Meanwhile, regional governments have their own inward investment and development schemes such as Software Alliance Wales and Connect Scotland. In addition, the pan-British Technology Strategy Board, formed in 2008 with a remit to “promote and invest in innovation for the benefit of business and the UK,” regularly funds competitions, matching funds in technology startups in fields from metadata to genetic research.

Another change for the better is the propensity for the British to actually see entrepreneurship as “a good thing”. Traditionally, Britons have been very good at holding innovators with cool disdain. “It’s fine as long as they don’t go on about it all the time,” is the general sense.
Recent TV programming such as Dragons’ Den, The Apprentice and even The X Factor should be acknowledged for their reinforcement that hard work deserves not only reward, but also praise.

Why base a company in Britain? A number of fortunate accidents of history and geography suggest themselves. History, because it could never have been foreseen that English would become the de facto language of global business. Yet its country of birth is undoubtedly a beneficiary, helping support that “special” relationship with the US that encourages investment from the other side of the pond.

Geographically, with the British Isles sitting between the US and the rest of Europe, the UK is a good starting point, along with Ireland, for US companies that want to expand onto the continent, as well as for European countries that have their sights set on the US market.

“For Scandinavian startups, their first port of call is the UK once they are developed within-region,” says Rassami Hok Ljungberg. But Britain offers more than a beach-head. “It’s easier to start up in the UK than elsewhere in Europe,” says Hok Ljungberg. “You don’t have to have capital up front, which makes it so much easier – and winding up a company is easier too.”

Unique benefits of the UK include more flexible employment law, tax breaks, post-nationalised industries, and the right kinds of inward investment. These factors lower the bar to entry for UK-based innovation.

But it is not all plain sailing, particularly given the reduced appetite for risk when it comes to funding. “Seed capital’s higher than ever before, but there’s not enough capital in the mid-market,” says Ben Tompkins. No doubt the current global financial crisis is not helping.

“It’s about the risk profile,” says Richard Eaton. “A lot of traditional VC players are just not operating in this space anymore. Some companies will get funded, but that’s where the squeeze is – it’s being called ‘The Valley of Death’.”

For these reasons it is not possible to consider London in particular, or the UK in general, as a replica of Silicon Valley. Quite clearly, it is not. “The culture is very different,” says Eaton. “There’s much more willingness to lose money in the US – it’s generally accepted that not every deal will succeed. European VCs don’t have that – they came out of the private equity market, whereas the Silicon Valley venture capital community was formed from scratch.

“Plus [in Silicon Valley] you’ve a large concentration of big companies all based in the same area, meaning a steady supply of people and a close eye on acquisition targets. It’s like one big incubator.”

Even once a product reaches release, the complex operating environment in the UK does not make it straightforward to do business – although, sometimes, this can be a good thing. “The UK has one of the most sophisticated, mature and diverse markets in Europe,” says Hok Ljungberg.
“Anglo-Saxon thinking can be a bit negative but it causes a constant, critical evaluation of everything which is very useful. If you can succeed in the UK, you can take it anywhere else in Europe.”

This makes the UK a better place to start up a business than many other countries. Berlin – increasingly seen as London’s great rival for start-ups – is full of bright, dynamic people but the city is still emerging from the shadow of the Cold Wwar. “A couple of years ago, it was illegal to be an entrepreneur in Berlin,” says Tompkins, just back from a trip there.

“There’s huge enthusiasm but limited capital. It reminds me of the UK in 1999 – a lot of cloning is going on, copying US success stories and creating local language versions [of services].”

In Paris, attitudes may be more positive but employment law makes it tough to afford growth in personnel. In Stockholm, Swedish law has no concept of share options operating on a tax-free basis for capital gains. And in Amsterdam, you have to go to court to change the articles of association of a company. Startup Britain may be hard, but it is fair.

What would Mark Twain’s Yankee think if he came to the UK today? The country has a wealth of resources, both intellectual and practical, that could be better utilised than they currently are. Britain is a long way from achieving the kinds of funding models, legal ecosystems, or indeed the general spirit of entrepreneurship that exists across the US.

But perhaps it will not need them. Start-ups such as Seedrs are questioning the roots of innovation funding itself. “We’re pending FSA approval but we hope by the spring of 2012 we will be providing hundreds, or even thousands, of companies a new way of raising capital effectively, from ‘the crowd’,” says Jeff Lynn, co-founder and chief executive.

Britain does still occupy a unique position in Europe, but again this could change. Berlin may be in a similar position to where the UK was in 1999, but the city will not stay in intellectual clone territory forever. The best estimate is that the UK has a decade’s grace before other European cities catch up and begin forging their own new directions.

The UK is still weak on inward infrastructure investment and current manufacturing forecasts do not bode well. A state of financial crisis persists, and it remains to be seen whether David Cameron’s recent use of the European veto will have any lasting impact on Britain’s business interests – though perhaps the UK’s unique geographical position will trump even that card.

And if there is one lesson to learn from the US, it is the importance of investing in, supporting and rewarding designers, innovators, engineers and technologists. The education system is the place to encourage an entrepreneurial spirit, by building the confidence to step outside the norm, and the necessary self esteem to counter any fear of failure.

Entrepreneurs – and those who back them – warn that UK must review its institutions, governmental and corporate, to ensure these encourage and promote future growth, even if this is at a cost in the short term. If there’s one lesson the UK’s start-up culture can learn from the US, it is the importance of investing in, supporting and rewarding those in the driving seat, so that they no longer feel the need to go elsewhere to succeed.

“He’s one of the cleverest people I’ve ever met,” says Richard Eaton of Dr Mike Lynch, Cambridge graduate and founder of Autonomy, recently acquired by Hewlett Packard for $10 billion. “He’s a mathematical whiz, but equally, he could see that if he wanted to succeed, the US was the place to go.”

Perhaps if Twain’s Connecticut Yankee travelled in time to the UK in 2012, or perhaps more realistically, in 2015, he would feel more inclined to stay.

[This article originally appeared in The Kernel]

The Kernel: A home fit for start-ups

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