Titan VCT manager on why recessions are the best time for startups

Within a year of launching in 2007, Titan VCT was grappling with the effects of one of the worst recessions in living memory.

Now it is facing another recession, albeit one of an entirely different nature.

Higher interest rates have eroded technology company valuations, making it an increasingly difficult industry for venture capitalists to navigate.

But fund manager Malcolm Ferguson, who took over last year, is confident that the UK’s largest VCT will weather the storm, and a recession will provide plenty of opportunity for start-ups and investors alike.

Why invest in a VCT?

2022 has been a brutal year for markets as economic woes and geopolitical volatility led investors to pull their money out of stocks and bonds.

Venture capital trusts (VCTs), on the other hand, continued to attract significant interest, with investment rising 68 percent in the past fiscal year.

The generous tax breaks offered by VCTs have long attracted investors, who can claim up to 30 percent income tax relief on the amount invested in the VCT, provided they hold the investment for at least five years.

But it is the companies in which VCTs invest that attract a growing number of investors.

As more and more startups avoid listing, investors are missing out on the opportunity to invest in the most disruptive companies at the earliest stages.

Although VCTs are themselves publicly traded, they offer investors the chance to invest in young, mostly privately held companies.

With 115 portfolio companies across five industries, Titan VCT offers broad exposure to investors seeking innovative companies, and demand remains healthy.

In October, Titan announced a £175m increase and it has already reached 70 per cent of its target this week.

“The ecosystem has matured into a place where you can build a business and finance that growth over 10-20 years of growth, without having to tap into the public markets,” says Ferguson.

“By the time a company goes public, it has matured very, very late and is no longer a high-growth company. It’s a pretty mature company with potentially hundreds of millions in late-stage revenue.”

Titan VCT’s generalist approach has spawned a number of high-profile exits in recent years, including Depop, which was sold to Etsy for $1.6 billion in 2021.

However, VCTs are a higher risk investment. For every successful name, like ManyPets and Skin + Me, it currently has in its portfolio, there are many that don’t make it.

Last year, Titan sold cash flow company Fluidly to challenger bank OakNorth, while now-collapsed retailer Made.com snapped up Trouva for a paltry sum.

Investment teams also don’t have a crystal ball and sometimes miss out on companies that later turn out to be industry leaders.

‘I kicked myself for not supporting banks’

‘We always make mistakes. There have been companies we’ve said no to and sometimes I’ve kicked myself for,” says Ferguson.

He recalls turning down the opportunity to invest in challenger banks when they emerged a few years ago.

“At that time, no one deposited their pay slips in a neobank. You would just kind of transfer to your Monzo or Revolut… I felt the risk of running it successfully was low.

Clearly, we’ve seen some of the most successful fintech companies build in that space. That’s an area I regret not saying yes.”

Is now a good time to invest in VCTs?

One of the biggest headwinds facing investors this year is a recession, but Ferguson insists there are plenty of opportunities for early stages in periods of disruption.

“Venture capitalists are kind of strange because they really like the opportunities that recessions bring. It really only comes down to one thing and that is money scarcity.

“You read about the layoffs all over the industry. Within Twitter or Microsoft, or any of the big tech companies, they’re significantly reducing the workforce.

‘You also have the growth companies that don’t hire as many people or reduce their workforce because of their funding scarcity.

“So that means you get this huge influx of talent, which means our portfolio companies can then hire. Historically, one of the biggest barriers and challenges in building a business has been simply getting the right people around you.”

He also adds that a lack of funding can reduce competition, which, along with better access to talent, increases a startup’s chances of success.

“We meet great teams and then in the next two or three months, you meet three or four great teams with a very similar idea. It means that when you build a startup, you often have a lot of competition. So with funding scarcity, you actually have fewer competitors that are getting funding.

A cursory glance at some of the big technology names of the past three decades suggests that recessions can be a boost for early-stage companies.

PayPal and Booking.com started when the dotcom bubble burst, while Airbnb, Uber and Zoopla emerged from the global financial crisis.

“The first two or three years of a recession cycle are the very best times to build a business and therefore invest in those businesses,” says Ferguson. “When Titan started, 2008 and 2009 were the best two years ever in terms of returns.”

Later-stage companies are likely to struggle to secure investment, meaning valuations are lower and they are forced to rethink their strategy.

“Founders tried to grow at almost any cost, because growth was rewarded very highly with a very large multiple on revenue,” he continues. ‘That would allow you to sell at a very high valuation or raise money very successfully.

“Now growth isn’t necessarily the most important thing… it’s a combination of growth, efficiency and the right levels of combustion, because capital is not limitless. Our best companies are making the very decision to sacrifice growth in order to be profitable.”

What does Titan VCT invest in?

If a new generation of startups is likely to emerge after this recession, what will it look like?

Ferguson isn’t sure, but notes the recent buzz around artificial intelligence and, most recently, the AI-powered chatbot ChatGPT.

‘There are small innovations that take place and then every 10 or 20 years you get longer services that are far-reaching. We try to ensure that we gain awareness of this through a broad approach.

Within the healthcare sector, which has received significant investor interest since the pandemic, Titan has poured money into digital therapy companies, where people access treatments through their phones.

It has also invested in deep tech, another buzzword used by industry heads to describe science-based innovation that includes robotics and automation.

“We’ve invested in a strawberry-picking robot called Dogtooth, which goes up and down fields and picks only the reddest, ripest strawberries.”

Not one to miss emerging technology, Titan led the seed round of Tatum, a tool that helps developers build on the blockchain in days, not months, in 2021.

Ferguson noted that blockchain started showing up in every pitch deck he received from investors three years ago, but there was little application for it other than cryptocurrencies.

‘[The investment in Tatum] means we can get exposure to blockchain, but you don’t have to guess what the best app is going to be. You just need to provide the ‘picks and shovels’ for people who build in this space.”

‘Instead of having to predict which ones will be successful or useful, we prefer to take a horizontal approach.’

On the consumer side, Titan recently invested in Raylo, which rents refurbished SIM-free phones to customers for a fraction of the price.

“The team is at the heart of our investment decisions. If the team is great, we will probably strongly consider making an investment even before we get the idea because the team trumps everything.

“With the Raylo team, they had experience working in a previously successful company. And they felt there’s so much inefficiency in the way people buy consumer electronics.

‘They are no longer just ‘nice to have’, they are a ‘must have’. People consider it almost as important as food and water.’