Duet Partners
Tel: +44 (0) 20 7416 6630 / Email: partners@duetpartners.com


Weekly Briefing Note for Founders

9th July 2020

This week on the startup to scaleup journey:

  • The Deep Tech funding challenge
  • European funding for early stage Deep Tech businesses
  • The Convertible Loan Note (CLN) and how it can backfire
  • Impact of Covid-19 on European startups
  • Hong Kong's new national security law creates uncertainty for startups and scaleups

1. News & Insights

The Deep Tech funding challenge

Over recent years we have worked with startups in some very exciting areas of Deep Tech. These have included innovations in processing and computing architecture, advances in semiconductors and electronics, new kinds of energy generation and storage, machine vision and speech technologies, artificial intelligence and machine learning, and more.

Some of these innovations can truly be called 'breakthrough tech', where it's really all about the initial science (e.g. a new form of nano material) and the potential to truly change the world. But the majority of our projects have revolved around the very early exploitation of such technologies.

At the initial 'breakthrough' stage, it falls heavily upon governments through national or international funding programmes (think Innovate UK, or Horizon 2020) to take the early technology risk.

Then, to exploit these technologies, many conditions must be right - the ecosystem necessary to support the new business model must be taking shape, practical problem/solution scenarios must be emerging that have scaling potential, and sources of investment capital must be on hand.

The challenge in the European investing scene is that there is a real shortage of true Deep Tech investors who have both the firepower and patience to then get behind the early exploitation opportunities and play the longer game. Significant investment (and time) is still needed to deliver the first real products.

In this early exploitation phase, too few entrepreneurs are lucky enough to secure the funding needed to get their idea to market. Those that are able to do this are then often put under pressure to sell the business well before its true potential has been seen. Very few European investors have the capacity to undertake the mega rounds that US investors, for example, can muster.

Against this backdrop, the EU Commission has estimated that there is a total equity-funding gap of around €70 billion across Europe. As we highlight below, the new Horizon Europe project looks to plug some of this gap.

Deep Tech founders can also do more to help themselves as they plan their roadmap from pre-seed to growth. In particular, we see the need for much greater alignment between the various stages of company development and the key funding milestones. At each stage, selecting the right types of investors - whose interests should be aligned with the founders - is also paramount. This lack of alignment is too often the source of founder anxiety.

As competition for capital increases, Boards and their advisors also have an increasingly important role to play in helping founders navigate through these challenges. 


European funding for early stage Deep Tech businesses

We attended an important briefing this week: How Can Europe Create World-Leading Tech Companies? The speakers were Jean Eric Paquet (Director-General, European Commission) and
Anne Glover (Co-Founder & CEO, Amadeus Capital Partners). The main topic under debate was the lack of finance for breakthrough and disruptive innovators in Europe. The EU Commission has estimated that this is a total equity-funding gap of about €70 billion. Many European startups, especially in Deep Tech, can’t find high risk capital needed to get to the stage where private sector investors (e.g. VCs) get involved.

In June 2018, the Commission proposed the most ambitious Research and Innovation programme yet, Horizon Europe, with a proposed budget of €100 billion for 2021-2027. The formation of the European Innovation Council (EIC) with its key role in funding such businesses is therefore a critically important initiative. The EIC will have a budget of €10B as part of the Horizon Europe project .

The EIC is currently at the pilot stage and a fully fledged EIC will be launched with the Horizon Europe Research & Innovation programme in 2021. Various pilot schemes are currently running under the Horizon 2020 programme that provide both grant AND equity funding. Under the pilot around €1.2B (1/3 equity, 2/3 grant) has been deployed so far. 

Since the start of the EIC Accelerator Pilot in the autumn of 2019, a total of 102 start-ups and SMEs active in all technology intensive sectors (health, digital, energy, etc.) have been pre-selected for equity financing for a total of nearly €400m (plus around €800M in grants). Further companies will be preselected by the EIC Accelerator Pilot this month (in Green Deal areas) and November. These companies are being subject to due diligence by the European Investment Bank (EIB), which acts as the investment Advisor to the EIC Fund.

The UK Government has said that UK businesses and researchers can continue to access Horizon 2020 funding even after 31 January 2020 and the details are here.


The Convertible Loan Note (CLN) and how it can backfire

We have regularly provided updates on the UK Future Fund scheme. This is a financing package that uses an instrument called a Convertible Loan Note (CLN). Many have asked us about the use of CLNs, which seem far more popular in the US than in the UK. Having used CLNs before, both in our prior startup and now with several clients, we wanted to provide further insight.

A CLN can be an efficient way of quickly bringing in capital to a business, especially from existing investors. In the uncertainty of the current market environment, raising a bridge round quickly can be the order of the day. With a CLN you can focus more on the hard work of building your business without the distractions of negotiating a valuation. In addition, the volume of CLNs tends to increase dramatically as the venture market becomes more competitive and more bullish. With a growing deviation between what investors are willing to pay and the valuations targeted by founders, CLNs are seen as the solution.

This article by Karen McCormick, chief investment officer at VC firm Beringea, digs into the upsides and downsides of the CLN and is worth a read.


Impact of Covid-19 on European startups

In a recent survey carried out by LocalGlobe and Dealroom, 140 startups across Europe provided insights into their response to Covid-19. This followed on from an initial survey into UK startups back in April.

The survey found that 40% of European companies expect to see revenues down at least 25% in 2020. This has dramatically affected cash flows, although two thirds of respondents claimed to have at least 12 months of runway at hand. For many, this has forced a rethink on cost management and fundraising - just over 40% of imminent fundraises have been delayed - which could have strong ramifications down the line.

Only a minority of respondents committed to lay-offs, but many had furloughed employees and frozen hiring. Many respondents have sought to reduce non-staff costs, in view of a more challenging funding environment. Respondents indicated a desire to return to using offices as well as to flying for work, as soon as possible. Many however said they would allow their teams to work remotely.


Hong Kong's new national security law creates uncertainty for startups and scaleups

Having run a UK startup with close ties to Hong Kong and mainland China for a number of years, we can understand the anxiety that many founders are feeling this week. The new national security law has huge ramifications on internet freedom, data control, entrepreneurship, technology partnerships, venture capital and many other aspects of the tech industry.

Whilst our key technology was developed in the UK, our main product design team was based in Hong Kong. Not only was there great access to talent but it was close to our manufacturing partner just over the border in Shenzhen. Finished goods were then shipped through Hong Kong to our global customers.

For many other startups, and several we have advised in recent years, this freedom to operate has been a huge attraction to setting up in Hong Kong. But for many this will almost certainly now change. Investors that have portfolio companies with dependencies on the region are watching developments closely.

Since the new law was introduced on July 1st, press coverage has centered largely on the impact on local businesses, such as this article in TechCrunch. But there are many UK businesses, especially those in the electronics sector, that rely on the ecosystem in the region. For those that also have technology partnerships with US companies, this is a particularly anxious time. The US government has already moved to suspend the export of sensitive technologies to Hong Kong. 


2. Other pieces that are really worth listening to and reading this week: 

20VC podcast: Craft Ventures' David Sacks on assessing key SaaS metrics

Well, it's a lot more than that, but all excellent insight from one of Silicon Valley's top early stage VCs. This provides real insight into how to assess founder psychology, how to accurately evaluate CAC, Burn and Churn, and finally, what makes the very best startup boards. Listen here.

Pricing strategies for SaaS businesses

An excellent article from Julian Lehr at Stripe: '9 Tricks to Experiment with your Pricing Strategy' . This provides some excellent ideas for founders experimenting with pricing ideas and looking to extract maximum $ from their audience. 

UK government takes £400m stake in satellite firm OneWeb

This development could have significant implications for many UK tech companies and deserves special mention this week. As the BBC reported, the UK government has put money behind a rescue package for the ailing satellite company OneWeb. According to Dealroom, OneWeb has already raised €2.7B and many other tech businesses are in the supply chain.In a statement, Business Secretary Alok Sharma said: "Our access to a global fleet of satellites has the potential to connect millions of people worldwide to broadband, many for the first time, and the deal presents the opportunity to further develop our strong advanced manufacturing base right here in the UK."The London start-up had been trying to build a network of spacecraft to deliver broadband connections but was forced to seek bankruptcy protection in March because of insufficient funds. The government will put £400m into the project, in part because it believes OneWeb can also provide a satellite navigation service. This has become an important issue since the UK lost its membership of the European Galileo sat-nav system after exiting the EU. The OneWeb service would also be a backup for the US-based Global Positioning System (GPS) in case it is attacked or fails.

Setting up small and medium-size enterprises for restart and recovery

A thoughtful analysis by McKinsey into SMEs, aimed primarily at policy makers. "Small and medium-size enterprises are a critical engine for the global economy. In the wake of the pandemic, governments can take four actions to maximize the impact of existing support measures." For those of you targeting the SME community this could provide useful insight.

Happy reading!

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