Enterprise Capital Funds: are they working?

Mark Boggett on how ECFs are tackling the equity gap

One year after the launch of the first vehicle funded through the Enterprise Capital Fund (ECF) Pathfinder initiative – the £30m Seraphim Capital Fund, the government has announced a further three groups that will each receive £20m public funding. MMC Ventures, Dawn Capital and Oxford Technology will launch their respective £30m funds some time early next year. This increases the ECF funding pool to a total of £225m.

ECFs have seen a tremendous amount of activity since launching in October 2006. Both the quantity and quality of applications has surprised on the upside. A review of our deal flow during the past 12 months suggests that 1 in 5 applications are considered a high quality investable opportunity. However, this statistic may be flattered through the Seraphim network. Seraphim is a consortium of business angel networks in the UK and US. The fund identifies 20% of its deal flow through partner referrals and a further 40% through professional intermediaries.

ECFs offer a potential mechanism for groups of high net worth and sophisticated private investors to take the first steps towards formalising existing loose networks. Seraphim is unique amongst its peer group as the only unregulated fund. It has adopted an ‘angel-led’ model carved out by the government to encourage angel investors into an area of the market vacated by traditional VC’s who have moved up the value chain.

Government has clearly acknowledged the vital role that experienced business angels play in the funding of early stage fast growth companies. Through its consortium of angel networks, including the pre-eminent Pi Capital, Seraphim has direct access to over 1,000 business angels.

Drawing on this pool the Fund invests alongside successful entrepreneurs who are re-cycling returns from their own enterprises whilst adding a degree of experience, expertise and business contacts to aid the growth of the investee company. Smart money attracts the better opportunities – we’re already building a strong reputation as providers of ‘mentor capital’. Given that it is commonly understood that market access and introductions are one of the greatest challenges for an early stage company Seraphim enables entrepreneurs to gain access to one of the largest international business angel investor networks in the world”.

At the risk of using evidence in the US as a proxy for the UK market, the government could see a healthy return from this initiative or at least achieve its “cost neutral” objective. The largest study on the financial returns of angel investors in North America, published in November 2007 by the Kauffman Foundation, shows investors participating in organised groups achieved an average 27% internal rate of return on their investments. Overall, angel investors experienced exits that generated 2.6 times their invested capital in 3.5 years from investment to exit. This return compares favourably to that of other private equity investments, including those of early-stage venture capital. Seven percent of exits generated returns above 10 times their initial investment.

According to Library House, the level of investment falling within the £0.5m – £2m equity gap has been flat for the past three years. In 2004 some 168 deals were undertaken, with 176 in 2005 and 165 in 2006. To date a total of 18 investments have been reported by the 5 existing pathfinder ECF’s. On the basis that the new funds invest at a similar run rate of 4 deals per annum the ECF initiative could account for over 20% of transactions in the equity gap in coming years.

Mark Boggett is an investment director at the Seraphim Capital Fund a government-backed initiative aimed at addressing the equity gap. The initiative is a variation of the US Small Business Investment Company (“SBIC”) model, which has been running since 1950’s and has backed the growth of successful companies such as Apple, Intel, FedEx and AOL.



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