There is a submarine feel to the Charing Cross headquarters of the BGF, which is perhaps not surprising given its history as the original home of the spies’ eavesdropper service GCHQ.
Originally staffed with recruits from the Admiralty and the War Office, Watergate House was where computer genius Alan Turing and his colleagues first worked to decipher Nazi signals during the Second World War before relocating to Bletchley Park.
One video screen in reception recreates one of Turing’s code-breaking computers that eventually cracked U-boat codes, spelling some of the names of BGF investments in code.
Today, meeting rooms are named after computer scientists including Turing and Charles Babbage.
It’s tickling to think that naval intelligence officer and James Bond-creator Ian Fleming might have walked down these very corridors.
And it is not hard to imagine BGFchief executive Stephen Welton, 58, as a grey-eyed “M” issuing orders to his double-o agents.
Welton, who founded JP Morgan’s $10 billion private equity arm CCMP, launched BGF in 2011 having raised billions from five banks – Barclays, HSBC, Lloyds, RBS and Standard Chartered – as part of the government’s efforts to boost funding for small businesses after the financial crisis.
Welton persuaded them to funnel £2.5bn in a revolving facility to provide growth capital to take successful small and medium-sized businesses to the next level, helping to boost the rate of their growth.
To date, BGF has invested more than £2bn in over 285 companies, making it the most active investor in the UK as well as globally by number of transactions.
It has £2.5bn to invest in UK SMEs at any one time, with an additional €250m to support Irish businesses.
Each year Welton and his BGF team meet around 2,000 companies, make around 200 funding proposals, and complete around 50 deals.
Millions have been ploughed into companies such as food delivery giant Gousto, children’s luggage maker Trunki and ad tech group Unruly — later acquired by Rupert Murdoch’s News Corp for £115m in 2015.
Its most recent investments are putting £6.25m into Christopher Ward, the premium watch brand, and £4m into Predictimmune, an AI-driven developer of prognostic tools for immune-mediated diseases, as part of a £10m funding round.
Now Welton is contemplating something even more ambitious: partnering with British Business Bank on the launch of a £7.5bn British Patient Capital fund to place even larger bets of up to £100m on British businesses.
Welton sat down with Growth Business to discuss what he is looking for in an investment, how his team makes investment decisions and what makes BGF unique in the funding landscape.
What was the inspiration to create BGF?
To create a scalable and new investment platform to support entrepreneurs and family businesses looking to scale up and grow. Not to start-up brand new businesses but to take successful start-ups after three years when there’s some traction so that they can get bigger. Help them grow faster, grow smarter, grow bigger.
There’s probably six million SMEs but 95pc of those employ less than 10 people. They create a livelihood for the owner, and they are an important part of the economy, but they are not the part of the economy that’s going to turbocharge UK plc. That comes from the much smaller cohort of scaling companies. There’s between 15,000 and 30,000 companies of those companies, a small subset of six million SMEs, but they are the businesses we’re targeting to help them to grow quickly. That cohort of companies, growing at least 10pc a year, generates an incremental £40bn in revenue.
We were set up to make lots of small investments in a broad range of companies. What we’re trying to do is industrialise the provision of equity finance to scaling UK companies.
‘The reality for any entrepreneur is that you have to work at it, keep iterating’
Why is there so much focus on start-ups if scale-ups are the real engine of the economy?
That’s a bit like asking, why are there such a focus on babies during general elections? They’re very photogenic when they’re brand new. It’s very easy to understand when somebody’s just set up an incredibly exciting business. All you’ve got is inspiration and hope and that’s a very human story.
But the reality is that most start-ups will fail.
Way over 50pc of start-ups fail in the first year. There’s a high birth rate and a high mortality rate. Why we’re focusing on scale-ups is that it’s hard to grow a business from an idea. To get to that first £1m in turnover is incredibly difficult. Once you’ve to the first million, the second million is easier. The reason why we’re focusing on scale-ups is that they’ve started … they’ve survived, and they’ve got a customer base. But to beyond that, to grow meaningful businesses, you need capital and support, you need to broaden the management teams of these companies. That’s the hard work end of being an entrepreneur. None of these scale-ups have got there without bumps in the road. The reality for any entrepreneur is that you have to work at it, keep iterating and that’s little less glamorous. It’s the bit in the middle, which is all about execution, dealing with the practical problems – How do I hire the right person? How do you find the right premises?
What makes BGF different from venture capital or private equity?
We are a modern incarnation of what was 3i, set up in 1948 as the industrial finance corporation, whose shareholders were the major British banks. What we’re trying to do is set up a nationwide investment platform with a strong financial base.
We have £2.5bn of permanent evergreen capital from our shareholders split equally. Because it’s revolving, that makes it unusual. Every other investment corporation raised money on a fixed-term basis. Our business is built on a balance sheet from the four clearing banks.
The role of the BGF is to help you make a quantum leap in the growth of your business.
How many companies do you talk to in a year?
We’ll meet 2,000 companies a year right across the UK and Ireland. That for us is the beginning of a relationship. There’s a long way from an initial meeting to actually investing. That can take months or even years. We’ve eventually invested in companies between five and six years after that initial conversation.
Out of that 2,000, we would expect around 200 turn into live investment discussions, which we discuss more formally at our investment committee.
Out of that 200, we’ll invest in around 50 a year. We’re making one investment a week, which may not sound significant in itself until you compare it to the investment industry. If you go into the unquoted arena – VCT, private equity – a typical private equity firm will be making one investment a year. To be making five a week is a totally different scale.
What do you need to see from companies in terms of documents or metrics?
Received wisdom about companies looking for external finance is, ‘Fill in a form and get an answer’ and often that answer is, ‘Fill in another form.’ It can feel like death by a thousand cuts before you get to an answer.
If you’re a one-man band, then it’s too early in your evolution to come and see us. We want to see the team. We want to see who the team behind this business is, what their track record is, and what’s their vision?
We want to understand what your business does, what’s its competitive advantage, and what’s the market opportunity you’re addressing?
You see, it all starts with people and do we buy in to what they’re trying to do? Can we work together?
Then there’s the question of what the BGF wants and does it chime with their own growth plans? Before we get into the nuts and bolts, it’s all much more human.
Once we’ve got a market sense, then we get into your last three years of financial records, your projections, the balance sheet, the more technical and analytical components.
You’d be surprised at the number of times that’s where it stops there because an entrepreneur doesn’t want to grow his or her business.
How much does the BGF fund actually invest?
The role of the BGF is to support those businesses by providing them with capital but capital in relatively small amounts. For us, relatively small means an initial investment between £5m and £6m.
How much equity do you take in exchange?
We’re not a majority investor. BGF typically invests between 20pc and 40pc as a minority investor. That’s really important because the owners of these businesses want to stay in control after BGF has invested.
How much have you invested so far?
We’ve committed £2bn into 287 companies. Seventy per cent of our investments are outside the South East.
How many of those companies have you exited?
What’s the usual route to exit?
The most typical exit is a trade sale, which makes sense if you think of these smaller businesses as being of interest to larger business looking for growth. It’s classic M&A.
The second route is the private equity industry. We get knocks on the door from private equity hungry for deal flow all the time. The private equity industry is awash with money; they call it dry powder. They’re all scrabbling around looking for companies to buy.
The third route, which we’ve yet to see, will be IPOs from some of these young growing companies. Some of our companies will go to the market. If we took a business public, that would be on the AIM market.
Tell me about a successful exit
Our most recent exit is The Good Care Group, which is in the health sector and offers assisted living at home. We invested £2.5m in The Good Care Group. Things I like about that business is that it’s very well run – going back to what I was saying about execution – and it has a female CEO, Fiona Lowry. There aren’t enough female CEOs and Fiona is exceptionally capable. It was ultimately sold to a trade buyer, Sodexo, the big contract catering company. The exit came earlier than we expected because someone came over the horizon saying we want to buy your business. We made a very good return.
Are there any businesses you won’t invest in?
We don’t look at regulated financial services companies. It’s just a quirk of our own ownership because we’re owned by banks. Other than that, everything else.
How long will you be invested for?
As long as you’re invested yourself. We don’t have a set exit route or the ability to force an exit.
All other investors want to know when they can get out and the reason for that is that because they’re investing from fixed-life funds. If I have a 10-year fund, then I have to get out. If I’m an entrepreneur, that’s not very good because the timing might not be good.
What kinds of returns do you make?
The returns that we get are a function of how successful that business has been. Some of our companies have failed. Others have made three or four times our investment.
The strength of BGF is that we’re not looking for a unicorn. We haven’t built our business by trying to identify stars. We’re looking to do is back a broad range of companies. It’s a diversified investment model.
But venture capitalists are in the business of finding those unicorns
That’s why the VC industry doesn’t work in my view. The venture-capital industry is all based on looking for a unicorn. Some will find them, but the vast majority will not. Venture capital as an asset class over a long period of time has shown some exceptional returns at the very top and then some poor-to-mediocre returns. I don’t believe how smart you are, if it was that straightforward everybody would be doing it. Our approach is to take a much more pragmatic and grounded that you need to have a broad exposure to small companies to generate a diversified return.
If you look at the venture industry, if I had to make 10 bets and I thought five or six of them are going to fail, which is the working model, you really do need that one out of 10 that’s going to provide exceptional returns. The vast majority have not.
How does BGF fit in with the wider jigsaw of wider Government initiatives?
The UK is in an interesting juncture here. We’re doing some things well but other things you need to do better.
In the start-up arena we are launching 1,100 start-ups a day. We have no problems starting businesses in the UK. The Government has a key role to play in that through the tax incentive schemes – the EIS and SEIS investment schemes. One of things we’re extremely keen on is that those schemes are not tampered with. If you’re an investor, you need to have the tax relief as a compensation.
Tell me about your idea for a mega fund
We’ve been involved in setting up British Patient Capital with the British Business Bank, which is going to be a large investment-trust style vehicle to hold some of these investment funds.
I understand that you’ve run into headwinds though
It’s all pretty early stage. The commitment from the Government was £2.5bn over 10 years. We’d like to see it getting bigger faster.
From a UK standpoint, we absolutely need more investors supporting growing companies. BPC would be a part of that.
In terms of its end destination being a listed vehicle, that’s something BGF can help with.
If we want to support growth in Britain, we can’t rely on banks because they provide debt, we can’t rely on BGF because we’re just one firm. If we have a cottage industry of very small funds, we will never create anything of scale. we need a lot more imagination, to think bigger and to think much bigger we need pension funds.
What’s been the reaction of pension funds?
I would say conveniently muted.
Pension funds take the view it’s too risky and they’ve been able to hide behind that. That chicken-and-egg has gone on for far too long. Rather than bang our heads against a wall, we need to create a vehicle that pension funds can invest in. BGF is exactly the type of vehicle that pension funds should be investing in on the stock market. The one thing BGF can show is that there’s a huge market appetite here.
Government does have a role to play here because the big pot of money is going to be the defined contribution workplace pension schemes.
We need to create a future-based fund built on pension funds, a kind of UK sovereign-wealth fund, directed at future industries and innovation.
The pool of capital is there, the UK definitely has a lot of success in enterprise and creating businesses, and we have examples of scalable investment organisations.
The question is, how do you join that all together?