Having been fairly critical of the Scottish Government’s record on business policy recently, I should probably point out that I am a huge fan of plans for the Scottish National Investment Bank (SNIB).
You won’t find many in business or economics who don’t support this initiative, ranging from left-wing think-tanks to unions, entrepreneurial groups and business owners. Not so many bankers are openly in favour, but their vested interests are being challenged so their opinions come with a pinch of salt.
The key thing to know about an investment bank is that its goals are to make a profit from investing in businesses that need cash to start, grow, to invest in R&D or new plant and machinery, or to internationalise.
When you lend to such businesses and charge interest, there is a profit and if the profit is greater than the cost of running the bank it generates more money to invest. So if done properly the SNIB would correct a significant market failure in Scotland’s start-up and entrepreneurial/mid-sized business funding environment – if it’s done right that is. Doing it right involves investing in the right sectors; in companies that have growth potential, a unique selling point that makes their output more valuable than the competition and with higher profits come higher wages and additional economic benefits to the wider society.
So a business with a scaleable product in the sustainable energy production sector that has a technological competitive advantage and export would be the ideal business to invest in – but the private banks want those companies too and that’s problematic and may require co-investment opportunities for the private sector.
There are already co-investment funds such as the confusingly named Scottish Investment Bank, part of Scottish Enterprise which co-invests with angel investors and accredited partners but on a much smaller scale than is envisioned for the new SNIB. The key difference is that the SNIB would be able to borrow money to invest, just as the UK Treasury can, by issuing bonds and presumably with a significant cash injection to begin with from the Scottish Government, so the funds available would be significant.
With the exception of the initial government funds, all the money raised would be off balance sheet, thus not cutting the Scottish Government’s budget, and the wider economic benefits accrued through the investments would create extra government revenues. This makes it an attractive way to fund investment for policy makers.
The reasons for market failure in early stage company investment are complex but include the risk aversity of banks who would rather invest in property than in entrepreneurial companies. The UK’s wealth and corporate headquarters are concentrated around London and the South East. London has been sucking the wealth, skills and opportunity out of the UK regions for decades in a way that is unparalleled in other developed Western nations. So Scotland along with Wales, Northern Ireland and the peripheral English regions have a lack of business headquarters and branch economies negatively impact on the entrepreneurial teams that start new companies.
Private banks like to invest in technologies and teams. When you have an HQ-heavy local economy, start-up teams often have senior executives with finance, operations, production, sales and HR skills, whereas Scottish start-ups tend to have technicians leading them.
This means the initial R&D is exciting – the products come to market with that all important unique selling point and initial sales go through the roof – but the skills to run a big rapidly growing business are under represented, and the second and third rounds of investment finance can be harder to get. It therefore becomes easier to sell up to a London or US/China-based competitor than grow a globally important business from Scotland.
This situation keeps wages down, investment down, slows our (close-to-market) research and development and reduces productivity. So the SNIB would be a major step in the right direction in terms of addressing the funding market failure and that could prove crucial at a time when the economic impact of Brexit on funding availability could be devastating.
Research by Strathclyde University’s Hunter Centre for Entrepreneurship has identified that entrepreneurial companies are far more important to Scotland’s prosperity than to the rest of the UK. They found that currently businesses under 10 years old employ some 42 per cent of private sector jobs but project that in five years’ time they will be responsible for 71 per cent of private sector employment.
Larger companies are replacing jobs with automation, pay lower wages and have lower employment in Scotland as we have branch economy, so ensuring that there is no market failure in entrepreneurial funding could well be the most important business policy we will see from the SNP government.
There has been much talk about the Scottish Government’s Sustainable Growth Commission and its lack of reporting is frustrating. Business for Scotland met with them on multiple occasions and a Scottish National Industrial Bank, specifically investing in and making loans to companies in key growth sectors such as biotechnology, sustainable energy, financial technology and wider IT-related sectors, was one of our key recommendations.
However, an SNIB on its own wouldn’t be an economic panacea and will be complicated to set up and fund. A quick hit that would make much the same impact, on freeing up small business growth potential, would be to legislate against late payments to SMEs which would save a lot of companies from financial stress and add as much as five per cent to SME revenue growth in a single year.
Wonderful things can happen when the Scottish Government legislates to support smaller entrepreneurial companies rather than just listen to the City of London and the CBI on business policy.