Submission of SMEIA and SCEE to BIS - July 2011

posted 2 Oct 2011, 08:11 by Matthew Darroch-Thompson   [ updated 14 Mar 2012, 06:00 ]
“INNOVATION AND ITS IMPACT ON ECONOMIC PERFORMANCE”

M. Lawrence / SMART group East of England

Tim Crocker / SME Innovation Alliance

 

BACKGROUND

There is large scale unemployment in the UK (whatever figures are used) with (for example) large numbers of over-50s excluded from unemployment lists and new figures showing youth unemployment doubling in just a year. The numbers of economically inactive people exceed seven million (source: US State Department figures, also figures available from the EU) representing a financial burden to the state that almost exceeds income tax revenue. That part of the present civil unrest can be laid at the door of wholesale long term unemployment is beyond doubt. As living standards fall there will be more.

 Additionally it must be recorded that the trade imbalance (running to the order of seven billion pounds per month and often more) has only been financed over the last 15 years by selling off 43% of the national infrastructure (electricity distribution, airports, railways, many public buildings and services) and taking on large amounts of public debt (source: ERA report). Bluntly, everything in the UK is for sale.

 In the country at large it is almost impossible to get anything done. Everyone everywhere is paralysed by the fear of failure. Doing next – to – nothing is far safer than risking a career black mark by trying to do something positive. Everything going on has to have a committee in place first to take the blame if something goes wrong. It has been asked “why could Britain not come up with a Google or an E – bay?” Easy. Fear of failure, the fear that it will go wrong. Fear of risk, any risk whatsoever. Too many people with strategic horizons that go no further than the end of the week.  People giving up too easily. Far too many advisors with no first- hand experience whatsoever of what they are advising on. Hard decisions being deferred. The list of negatives is long.

 Paradoxically there are strong rays of hope, enabling a consideration to be made of “how can we make more money” instead of just “cuts.” A lot of the SME sector is doing quite well. Specifically within this are companies founded or supported by the DTI “SMART” scheme (but this is not exclusive).  This scheme, massively successful by any measurement method, has now generated over 4,000 companies almost all of which export and over 90% have been in business for 10 years or more.  The problem is that almost all have remained small. The companies are well managed but have eschewed “get rich quick” routes – venture capital and sell out to US or German firms – and so are considered “failures” despite such firms being otherwise recognised as the industrial bedrock of all other countries in Europe as well as in Japan and in the USA. They are referred to as “family firms” or “lifestyle businesses,” terms that are frankly insulting as they represent a substantial proportion of Britain’s strategic industry. It is worth recording that foreign companies such as Robert Bosch and HSBC are family run firms. The SMART firms and their supply chains number well over 10,000 and while there is inevitable duplication the longevity is striking in a country where over 95% of start-ups fail within 3 years.

The “SMART” firms have remained small almost always because of their inability to access capital. Despite well-intentioned  initiatives to overcome this long running problem, for every £100 sent from the Prime Minister at the cabinet table less than £2 reaches the shop floor, the rest being taken up by the bloated “SME support industry” which itself is nothing more than an impediment to growth and a further huge non-productive burden on the UK economy. That these identified firms survive is a tribute to the management skill and resilience of those running them, yet although recognised widely and admired by our trading competitors they remain largely remote from UK Government activity despite stated good intentions .

Centralised attempts to “revitalise the economy” unfortunately target areas where University spin-out companies might bear fruit, or uses buzz words with abandon. “Biotech” might do it, or “Aerospace”, oblivious to the fact that the UK is a bit-part player in this market (The UK Aerospace industry is less than 10% of the size of the US Aerospace industry). These initiatives have failed before and represent empty thinking that will simply lose the country yet more money. “Biotech” is trumpeted because there have been a few successes, but there have been many more failures. Concentrating solely on this area however – what appears within BIS to be a “standard model” of technology SMEs (work in Bioscience/ get venture capital/ spin out of a University/ sell out to a larger US pharmaceutical company) – has meant ignoring over 99% of other technology SMEs and so Government remains largely unaware of the untapped potential for strategic job creation and the coupled corrections to both balance of trade and balance of payments.  It is people and their management capability that will make a difference, not arbitrarily chosen technical sectors.

That the country needs to make more money is self-evident.  A good starting point is to see what money is being made now and ask how it can be increased. Many small and medium sized firms, well established, trading concerns, with proper management, are forced to turn work away – much of it export – because of a lack of working capital. Exports lost, markets recede, drip by drip.

 

WHAT CAN BE DONE

Attempting to generate “new” industry is doomed to failure. The lack of management nous and skill ensures that much of the money directed towards “new” will simply be taken off the “new” businesses by the banks, accountants, property agents and solicitors. It is “Government” money and will not be looked after as rigidly as it ought to be. Billions have been spent and lost trying to take ideas out of universities and into the market place without ever considering the management aspects of this, the key weakness.   

Being inventive, being innovative, is something the UK is known to excel at. Indeed, Britain is often seen as the most inventive country in the world. Getting these innovations to market is something we are very bad at.

The staff of operations such as Business Links (now largely being closed), but also “incubators”, tend to be well meaning but totally inexperienced in real business. Hardly any businesses ever emerge from incubators or innovation centres.

The Small Business service, Business Links, RDA’s, Incubation centres, Innovation centres:  years and years and years of wasted effort.  Staffed entirely by people who would rather cuddle an anaconda than set out into the real world themselves. It has all been tried before and has almost totally failed. Billions of pounds have been spent with nothing to show.  In incubation centres some of these companies get to 5 or more years old without even drawing up terms of trade.  Every organisation reflects the person at the top and large numbers of the people involved fail the brutal questions that the owner or managing director of an established business would axiomatically ask. Has this person made money or just spent money? Making money is a great deal harder. Has this person been involved in export? If the chips were down would this person defend his business with his fists? Crude but these are massively discriminatory questions.

 

A REAL SOLUTION

More than anything else, using our natural innovation to repair and expand the economy is about people, specifically it is about management and “getting things done.” We need to concentrate on getting inventions to market. We have enough Einsteins, we need a lot more people like Leslie Groves.  Repairing the economy is most specifically not about “themes” or “clusters” or “integration”. The latest “theme” is “centres of excellence.” The country has enough “centres of excellence” like the National Physical Laboratory, The Welding Institute, The John Innes centre. There are many, many more. We do not need yet more, this money that the TSB is proposing to spend could be saved. We do not have enough engineers and scientists to go around as it is without setting up pointless new “centres of excellence” that could drain vital people away from export - oriented activities.   

It isn’t new businesses we need, it is new thinking. If we go out and artificially create 1,000 new businesses we will co-generate 999 new business failures a couple of years down the line.  As a country we need to make more money, urgently. The best place to start would be by looking at established firms that already make money and still have to turn work away. 

Also, innovation cannot be limited to just new “bright ideas.” Innovation must extend to new working practices, new markets and marketing, new methods of speeding up trials and assessments. The list is endless. It is crucial to accept that “innovation” must not be limited to “new gadgets” nor should it be limited to Universities. Far more innovation comes out of industry. We have to find some innovative way of getting products to market.

The crucial step is ensuring that those who are already in business can access capital, the primary bottleneck. Business skill is much prized amongst our trade competitors and but is brutally underestimated in the UK. Allowing access to properly-priced money for innovative but solidly managed companies that are already trading, and exporting, demonstrating “business skill” will lead to more money being created as well as a very high chance of the money being paid back with interest.  After all, if someone has been making money for years they will know just how incredibly difficult it is being in business.  They will certainly not borrow money unless they are 100% certain they can repay every last penny. Government therefore makes a profit, businesses expand, the export output of the UK rises and new strategic jobs are created:  a “golden picture.” But the only way of doing this will be through the establishment of an industrial bank.

How can these companies be identified, most are completely “under the radar”? Many have rolled along for years, turning work away is second nature and they have had to operate within constraints laid upon them by a “Bank manager” limited to operate within minute constraints and generally with no understanding of large economics. Some of course will be members of the CBI, some will be with the FSB but neither organisation will see them as other than member firms. There is an embryonic “SME Innovation Alliance” (www.SMEIA.org) but otherwise the firms concerned can be found within the Gibson Index, an annual compendium of about 40,000 technology firms in the UK that are actually trading (as opposed to raising funds or being dormant), a volume purchased by most of our trade competitors (print run over 300, UK sales 1) but within the pages of which lies the key data of firms with real products, generally using the “family” business model and many of whom turn away large amounts of work.

To access finance however a new model needs to be found. The Small Firms Loan Guarantee Scheme was not well managed, leading to abuse by the Banks and some fraud (source: National Audit Office report). One route could have been to use the RDAs but these are being closed, which means that banks are the only realistic way of distributing money. High street Banks have no interest in anything other than their own profits (as exemplified by the massive damage they have done to the economy) so there are two ‘banking’ solutions[1]:

(1)    A National Industrial Bank

(2)    The bank of England sets up a “strategic Industry” division.

The Bank of England already provides what might be called “retail banking” services (Huntingdon Life Sciences for example) but to limit numbers, facilities should only be offered to SMEs that have some track record, for example having been winners of “Grant for Research” (or “SMART”) and (note, this is important) at least 2 years post-win experience of actually trading (this is given by way of example, wider criteria should apply but the concern must be trading). Other discriminants should include exporting. Trading experience is key.  This could be made part of a “prize” with access to loan funds being guaranteed once products are ready to sell. Note that these are commercial loans, NOT state aid so there is no overarching EU legislation.

Industry-wise staff would need to be recruited. If loans were made at (say) 3% (present formal base rate is 0.5%, actual rate charged is about 15%) then defaults are very unlikely with this group and a profitable, steady revenue scheme will accrue to the Government.    

On the other hand, an industrial bank would need strong guidance as the present high – street banks’ lending preferences are to avoid lending – at all costs – to firms that export; a garden centre will always get funding ahead of an exporter. This choice would therefore be more likely to fail. Banks do not see themselves as part of the national fabric, until it comes to being bailed out, but they are now too powerful to change. If an industrial bank is the route forward a new bank would be better than trying to change the culture of an established one.   

The country also needs a broad Industrial Strategy which must be coupled to Energy and Power Strategies and Transport Strategies. There are far-sighted people capable of writing these. Almost since World War 2 Industrial strategy has also been left to the banks and finance industries with results that have been dismally poor. Few figures have ever stood out in this sphere. Everything is piecemeal. Industrial Strategy is a national matter as it is the sole lever for national wealth creation, something we must concentrate on because we cannot go on and on borrowing and running huge trade imbalances and funding large scale unemployment.  The pension funds immediately give up shares as soon as they can to fund their liabilities which mean established companies such as ICI and Cadbury (to name but 2) are now owned and run from outside the UK, Rolls Royce and British Aerospace will be next. Not only does this represent a long term loss of corporation tax but the supply chains migrate, leading to higher unemployment in the UK and a reduction in customers for smaller firms leading to further stunted growth in the SME sector.  Within the UK there is not enough electricity production and there will have to be phased brown outs or rationing if severe weather grips most of Europe. We do not have enough diesel fuel production. There are not enough “big firms” for “small firms” to sell to. The list of strategic liability is far too long. Coupled strategic thinking and longer term planning for Industry, Transport and Power backed up by resolute action is needed. It has to be long term to be affordable.

The National Industrial Bank is the first step, to enable the country to make more money.  No doubt there will be threats and dire warnings from those who benefit so spectacularly from maintaining the status quo, but as de Gaulle once commented: “The Cemeteries are full of indispensible men.” For men, read entrenched and self-interested positions. These have to be challenged and dismantled, sent to the cemeteries. As long as these self-interests are allowed to prevail and perpetuate the country will continue to decline as bank directors vote themselves huge blocks of shares and bonuses yet simultaneously deny credit to industry.

 

It is only people that make the difference. Trying to energise the economy of the UK by picking innovative ideas thematically or sectorially is wrong and will fail, the only metric must be innovation coupled to management capability.

The thinking here is not radical. It is what the Governments of our trade competitors do.

We must concentrate on getting products to market. If we can combine this with our already top quality innovation this will powerfully boost our economic performance.  

 

SOURCE MATERIAL

Correlli Barnett                          The Audit of War

Paul Kennedy                           The rise and fall of the Great Powers .

The National Audit Office            Industrial support schemes, management and organisation

Marcus Gibson (Ed)                   The Gibson Index

ERA report (Sir Alan Rudge)       Funding the Trade Gap



[1] {A third way could be to use a further round of Quantitative Easing to offer established firms “accounts” with HMRC in which the established firm enters into a “loan” agreement whereby for a period of time payments to HMRC are suspended and later repaid with interest. This scheme would apply to the whole UK trading economy, and has been written up and submitted separately as ‘Quantitative Easing via HMRC’.}

 

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Matthew Darroch-Thompson,
2 Oct 2011, 08:16