Why increasing early-stage investment limits will turbocharge UK startups

UK startup early stage investment limits

As we emerge from the festive season, so too has our prime minister, who has been noticeably quiet of late – a trait we’ve not been accustomed to in recent times. His speech on building a better future was certainly high-level, focusing on five challenges for the UK in 2023 – inflation, growing the economy, reducing debt, NHS waiting times and migrant boats – but there were mentions relevant to the early-stage investment community.

Sunak reiterated the importance of supporting innovation, by increasing public funding in R&D to £20bn in order to enhance our world-leading strengths in AI, life sciences, quantum, fintech, and green technology.

This R&D spending increase is important and Sunak stated why in his speech: “New jobs are created by innovation. People’s wages increased by innovation. The cost of goods and services is reduced by innovation.”

Big-picture changes such as this will not be the only drivers behind job creation this year, as we begin to see the impacts from Kwasi Kwarteng’s Mini Budget, back in September. Namely, the lifting of the Seed Enterprise Investment Scheme (SEIS) cap from £150,000, to £250,000, which was upheld by Jeremy Hunt in his Autumn Statement. Add to this, the increase in the application timeline companies have for SEIS, from two to three years, and the prospects for UK employment in early-stage businesses look promising when these amendments come into effect in April.

Ask any Formula 1 fan about the impact budget increases might have and you’re likely to be told about Red Bull’s end-of-season budget breach. The team broke the £114m budget cap, which was imposed on teams to ensure something resembling a level playing field. Ferrari has said that even a minor breach of the limit has a tangible impact on performance – as much as half a second a lap for a £4.5m overspend, which is enormous in a sport of very fine margins.

The increases in the SEIS cap – whilst thankfully legal – marks a major leap forward for early-stage startups, but these businesses should still be prepared for the challenges they will face, even with this increased support from the government.

Length of the runway

When it comes to early-stage investing, there’s a direct correlation between cash and the time startups will have to reach a level of traction that justifies a £1m cheque and follow-on investment. Think of an innovative business at the start of its development, essentially at the beginning of a runway – it will need investment to take off, whether this be from government grants, angels, or VCs.

Here in the UK, our funding support system for founders at the start of their venture journey is one of the strongest in the world. Venture capital funding in London largely goes to early-stage startups. Of the venture capital and private equity rounds secured by high-growth companies in London, 76% of funds went to seed or venture-stage businesses.

Not only this, but over the course of 2022 the UK continuously fared stronger than its European counterparts in VC investment and innovation, with Dealroom data showing that UK tech firm’s investment doubled EU rivals in 2022. It’s through government schemes such as SEIS/EIS eliciting confidence from investors themselves that makes this possible.

Investing in tech and assembling talent

UK innovation relies on startups’ abilities to push the limits of the tech they are working on, experiment, and evolve quickly to get to MVP (minimum viable product), product-market fit, and full commercial viability. The UK government is backing this sentiment, by increasing R&D tax credits for SMEs, which will ensure that startups continue to have the funds to innovate and create world-leading technologies.

With the R&D support available, the next step is hiring the right people in order to help scale the business. Attracting the right people typically requires a cocktail of equity and a competitive salary. When it comes to retaining talent through a competitive salary, having the extra funding from the increased SEIS cap will be instrumental in ensuring that talent can be retained, here in the UK for long enough to hit cruising speed. Brexit has put the need to attract talent under the microscope, particularly as we see the rise of emerging startup hubs across Europe beyond the recognisable hubs in the West – notably, Eastern European countries such as Prague and Bulgaria. Considerable time and energy now needs to go into enticing talent; more so than before.

Investor confidence

Future backers have less appetite for risk, especially considering the economic climate that we find ourselves in. So while they wave a fatter cheque at the next stop-over on the journey, the startup team in an aircraft slowly leaking fuel has to get there before it falls. Plugging the leak as they cross the divide is the only way to gain future investor trust and confidence to take the startup to the next phase, which is why government schemes such as SEIS/EIS and R&D tax credits are vital to the ecosystem. This is not just important for the development of innovation, but also needed to lure top tech talent at the very beginning of the runway.

The improvement of these schemes ultimately provides relief to UK businesses that will give them an edge over competition around the globe. Until now it had felt as if businesses and the entrepreneurs leading them were hamstrung by government complacency. But now these reliefs mean entrepreneurs can raise more money in less time, which will allow them to truly accelerate forward and focus more on what they do best – building and running their businesses.

Jeffrey Faustin is the chief investment officer at Jenson Funding Partners.