Many capitalists object instinctively to the idea of investing public funds in start-up companies, fearing that the money will be wasted on unsuitable enterprises. But Jonathan Kestenbaum believes that his organisation, Nesta – the National Endowment for Science, Technology and the Arts – will demonstrate how public funding can transform the outlook of Britain’s most innovative new businesses.
The Labour government set up Nesta in 1998 to channel some of the proceeds of the National Lottery into stimulating artistic and scientific creativity. But Mr Kestenbaum’s appointment as chief executive in 2006 was the signal for an overhaul, to make the organisation focus single-mindedly on innovation.
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Clive Cookson talks to Jonathan Kestenbaum, pictured, about how Nesta has become Britain’s biggest source of capital for new companies
Nesta now has a wide range of initiatives aimed at “making innovation flourish” – and it has allocated £50m of its £400m endowment to invest in promising new companies, either directly or through early-stage venture funds. This has enabled Nesta to increase its venture investment from £600,000 to £10m a year and become Britain’s largest single source of seed capital.
Mr Kestenbaum, 46, came to Nesta after working for four years as chief of staff to one of Britain’s best-known venture capitalists, Sir Ronald Cohen, when he was chairman of Apax Partners. He had previously run the United Jewish Israel Appeal and the office of Chief Rabbi Jonathan Sacks.
His mission is to bring the commercial ethos and rigour of the private sector to a public body. “Nesta has a very clear understanding of the way public finance can back entrepreneurs – in contrast to the traditional custodians of public funds who have not been sufficiently disciplined or commercially oriented,” he says. “This is anything but a classic public institution.”
Mr Kestenbaum looked overseas for models of public/private start-up funding, from Israel and Finland to the US west coast. “These disprove the tired argument that public institutions cannot do anything to transform innovation,” he says.
Perhaps the best example of a country whose economy has been transformed in this way is Finland. In the early 1990s, when the country faced a severe economic crisis following the collapse of the Soviet Union, its then prime minister, Esko Aho, “brought together public and private finance to transform Finland into a high-tech economy”, Mr Kestenbaum says. The Finnish government’s main vehicle was a technology and innovation fund called Tekes.
“Mr Aho has had a profound influence on Nesta,” Mr Kestenbaum says. “He believes that in Britain there is an insufficient sense of urgency, while in Finland during the early 1990s everyone knew the place was a disaster.”
According to Mr Kestenbaum, the problem for the UK today is that “conventional forms of early-stage finance are moving steadily upstream [to lower-risk, shorter-term projects]. This move is squeezing technology development at the stage between proof of concept and the first round of institutional funding.” The news in March that 3i, one of Britain’s biggest venture capital groups, was abandoning early-stage investments exemplified the problem.
“There is too much ‘drip, drip’ money going into early-stage companies – money that will just last for three to six months before the company is again on a wing and a prayer,” Mr Kestenbaum says. “We have a five-to-seven-year timescale for our companies [before the original investors exit]. We want to demonstrate to financial institutions that very early-stage investment can be profitable.”
Chosen ventures
● Advanced Transport Systems makes driverless rapid transport systems.
● CamFPD makes large, flat-panel displays for corporate video demonstrations.
● ProKyma uses ultrasound to purify and concentrate bacteria from samples for rapid detection of disease.
● Micrima is applying microwave radar technology, originally developed to detect landmines, to screen for breast cancer.
● Aquapharm is developing
a library of new drugs and antibiotics from the bacteria and fungi found in marine environments.● Light Blue Optics has developed a miniature laser projection system that displays high-quality, full-colour video images.
● St Andrews Fuel Cells is exploiting a cheap new fuel cell design to generate electricity from natural gas.
● Veryan Medical makes devices to treat vascular disease.
● Six to Start is an online storytelling company.
Private venture capital groups that do still offer early-stage finance “are often more comfortable investing alongside a public fund such as Nesta”, Mr Kestenbaum adds. “We can inject a huge amount of business support, which private investors often cannot.”
He disputes the common view that there is a shortage of talented managers for start-up companies. “We don’t see any dearth of talent,” he says. “We are beginning to see a new generation of people coming [from] the spin-out community, and combinations of technology entrepreneurs and commercial managers working together.” The point is not to convert a technically brilliant academic into someone who can present a convincing business plan to investors: “The challenge is to construct a balanced team where you are not compromising on the skills of the academic,” Mr Kestenbaum says. “It is very rare to find both commercial and technical skills in one person.”
Over the past year or so, Nesta has looked at 400 or so investment opportunities and made 10 new funding commitments. “We tend to make investments of up to £500,000 per round,” Mr Kestenbaum says. Depending on the valuation of the company, Nesta’s equity ownership would extend from 10 to 30 per cent. “For us it is as important that the stakes we take in a company allow for follow-on financing from large institutions as it is for us to make a commercial return,” he adds. “Sometimes we want to leave enough space in the financing round for others to come in. It would be pointless for us to dominate the round.”
In Nesta’s early days, before its investment activity was as systematic or intensive as today, the outstanding start-up was Advanced Transport Systems. Martin Lowson, an engineering professor at Bristol University, founded ATS to develop Personal Rapid Transport systems – driverless pods that travel along a guided network.
“We contacted Nesta as soon as the organisation was announced in 1998,” Prof Lowson says. “They said it was too early because they were not yet making awards. I went back to them again and again, and we got commercial support from Nesta when they started making investments in 2000.” He adds: “Nesta’s investment was important at the beginning because, as a national agency, it gave us credibility. We were hanging on by a thread on two or three occasions.”
Since then ATS has raised £25m from a variety of sources, including £7.5m from BAA, which is installing a system at Heathrow airport to whisk passengers and their luggage between car parks and Terminal 5. “We are expecting to go through an initial public offering some time within the next 18 months,” Prof Lowson says. “We believe our success will create a new industry. Our business plan envisages £1bn revenues in seven years.”
Equally ambitious is Nesta’s latest venture, Six to Start. This ARG (alternate reality games) company, founded in September by brothers Dan (chief executive) and Adrian (chief creative) Hon, has just received £100,000 from Nesta for a 12.5 per cent stake in the company.
Six to Start has already completed a commission from Penguin to develop six online multimedia stories. “The first story, 21 steps, is a riff on The Thirty-Nine Steps by John Buchan,” Dan Hon says. “We use Google Maps to create a bird’s-eye satellite view of London for the story.
“We create new ways to blend different media with the principles of game design and storytelling. We compare it to the early days of the cinema.”
Six to Start may achieve great success as a new media pioneer – or end in failure, like so many start-up companies. It is reasonable to predict, however, that some of the dozen companies that Nesta funds this year will flourish and become worthy winners of the National Lottery.
