Taxpayers should not be betting on unicorns

The UK could be home to the next Silicon Valley, full of billionaires and trendy tech and science workers, if only someone put the extra cash into start-ups. So runs the thinking behind the Treasury’s consultation on finding ways to plug what it estimates to be a £4bn hole in “patient capital” – funds that back start-ups with good ideas, then wait for years for them to become multi-billion pound titans.

Such investing requires nerves of steel, neither cutting losses when times are tough, nor taking profits and selling up on the first market upturn.

The idea is the Treasury could put some cash in, tweak some financial regulations, and – hey presto – private money will flood in to increase investment in a new wave of productive, innovative companies.

Officials worry that plenty of potentially fantastic firms come from university research teams that lack commercial experience. Often they sell up at the first sight of external money, preferring the security of the cash to a risky career in the private sector.

By offering longer-term capital as a first port of call, the Treasury hopes these academics could develop their products more fully, keeping the technology in the UK.

This could help increase UK productivity, moving Britain closer to the “frontier” economies such as the US – ultimately a move that should improve the economy and wages.

It is not clear exactly how much money the Government might stump up, nor what rate of return it expects, nor who would run it, nor how the investments would be picked.

The aim is to close the consultation in September, so it is one for financiers to mull over while on holiday, fire off a response to the Treasury, and then watch the autumn Budget closely.

There is also the question of who would benefit, which might prove trickier for the Treasury.

Creating more so-called unicorns – young companies worth more than $1bn (£757m) – might sound like an important way to improve national business prestige, but it is not obviously a job for a government that is newly concerned with inequality.

The investors would benefit, certainly. The founders, absolutely.

But the wider public? It is not clear that a government which is short of cash should spend its scarce resources on creating more billionaires.

The Treasury’s document notes that expertise may be lacking, relative to the US venture capital industry, because Britain’s start-up investors make on average one investment every two years, compared to two per year in America. That promotes a negative feedback loop as experience is never accrued and so new investments do not happen. Officials hope they can break this by putting in cash and kick-starting investments.

A sensible element is a wider discussion of the barriers that may be preventing private investors from backing the funds. Pension fund trustees may be adopting too cautious an interpretation of the rules requiring them to be careful with savers’ money, the consultation frets. US regulators, by contrast, formally approved modest investments by pension funds in venture capital funds back in 1979.

So far, however, the investment industry appears to be taking a less mature approach to the idea.

When asked what support they need to invest in these potentially fast-growth companies, investors replied “guaranteed returns”.

That means the Government takes the losses when a company fails, but shares the profits when one succeeds – hardly a fair deal for taxpayers.

Thankfully the Treasury is avoiding that trap, noting Germany adopted the idea in the 1970s only for its fund to pour money into bad investments and suffer an internal rate of return of minus 25pc. Possibly the wisest part of the consultation recalls a previous attempt to back tech companies.

Back in the dotcom bubble the Government launched the UK High Technology Funds to encourage investment in this growth market.

The bubble popped and the funds made a return of minus 9.7pc, almost twice as bad as private funds. Backing fashionable markets might seem like an easy win now, but governments have a poor history of picking winners.

‘It may seem like an easy win, but governments are poor at picking winners’