In the first of three articles about Northern Ireland’s public sector investment into technology, David Kirk examines the returns produced by Crescent Capital.
Northern Ireland’s economic health and development is in the hands of the Department of Enterprise, Trade and Investment (DETI), through its development agency, InvestNI. In 1995, DETI and the predecessor to InvestNI recognized that venture capital funding for seed and early-stage companies in Northern Ireland, in particular for knowledge and technology-focused companies, was extremely lacking. They declared a “market failure”.
This prompted a Government intervention. Public money started to be deployed to stimulate the seed and early-stage venture market. Today, seventeen years later, taxpayers’ money is still being spent.
During its prolonged market intervention, InvestNI has committed over £42 million and has already provided nearly £26 million to three VC fund managers: Crescent Capital, eSynergy and Clarendon Fund Managers. The difference (£17 million) was committed at the beginning of 2012, but, as of 31 March of this year, had not yet been deployed.
Crescent Capital, the original VC fund manager to benefit from this intervention, has received the lion’s share of taxpayers’ money – £14.5 million – followed by eSynergy (£7.0 million) and Clarendon Fund Managers (£4.3 million).
The overriding question that should be on the minds of ministers, DETI, and InvestNI is: has the intervention worked? That is the question this three-part report seeks to answer.
If the question has heretofore occurred to any of those actors, the answer has not been readily forthcoming from them – perhaps for good reason. The conclusion of this and the two following articles in this series is that not only has InvestNI’s strategy to correct a failure in the seed and early-stage venture capital market in Northern Ireland itself failed, it is actually perpetuating further failure.
This instalment will examine the performance of Crescent Capital, and the implications of its performance for InvestNI’s strategy. The second will look at eSynergy, and the third will provide some recommendations to reverse InvestNI’s wrongheaded strategy.
Before launching into Crescent Capital, let’s consider how to evaluate the success of InvestNI’s intervention strategy. Economists in Bedford House, InvestNI’s Belfast headquarters, can supply reams of paper on how governments look at economic recovery in venture spaces, and I have no doubt the spin masters in one of InvestNI or DETI’s PR firms will be putting that together before you have finished reading the end of the next paragraph.
We suggest a simpler approach: if the seed and early-stage venture capital market in Northern Ireland is healthy and working effectively, then there will be profitable exits, happy investors and richer VCs.
With that in mind, let’s look at the first intervention by InvestNI in a venture fund: Crescent Capital I. Crescent I was launched in 1995, with £7 million of taxpayers’ money subordinated to £7 million from private investors. The fund closed in 2007 (a ten year fund, with a two year extension). How did it do?
Well here’s how Crescent Capital spun it on 1 March 2010, on a press release on its website, which curiously can’t be reached through normal navigation: “That fund [Crescent Capital I] is now wound up, with all investment [sic] sold or distributed and with returns to investments of more than 8 per cent.”
The truth? From FoI 545, we learn that “there was a shortfall of £60k in returns to private investors and DETI commitment was written off.”
In other words, Crescent Capital had north of £14 million to invest, and it managed to turn that into a little less. So as not to disappoint the private investor with a poor performance, we gave them our taxpayer cash and we will claim that the fund generated 8 per cent.
In the process of losing all that public money, Crescent Capital paid out £3.6 million in management fees between 1995 and 2007.
When a poker player’s stack is low, he doubles down. In 2004, InvestNI gave another £7.5 million of taxpayers’ money to a fund manager with a “proven track record”: Crescent Capital.
Questions have been asked about the selection criteria for the appointment of the fund manager. Interested parties may wish to ask the head of the Access To Capital group, who declined to comment on the contents of this report, since she is also on Crescent Capital’s advisory board. No doubt there are safeguards in place to prevent any conflicts of interest there.
Crescent Capital II was announced and launched in 2004 with £7.5 million from taxpayers, via InvestNI, matched by £15 million in private money. That £7.5 million was once again subordinated: a contemporary report about Crescent Capital records “subordinated funding from Invest NI, money that gives private investors a safety net against potential losses”.
Crescent Capital II has two years until it closes, with a further optional two years, so it’s not possible to provide the same level of accounting possible for its predecessor, but there are techniques that can be used to forecast performance.
The fund is closed to new investments and has invested £17.29 million of the original £22.5 million. It has already taken about £4.33 million in management fees, and, with two to four years to go until it closes, there could be another £300,000 to £500,000 in further fees.
The numbers above show that out of a total of £22.5 million, less £4.33 million in management fees, Crescent Capital II had £18.17 million in cash to invest. Deducting the likely remaining management fees of £0.5 million, we are left with £17.67 million. Since £17.29 million has been invested already (FoI 504), we can see there is just £50,000 left.
Crescent’s portfolio has achieved four exits, providing £9.4 million back to private investors. But, because their £7.5 million is subordinated to private investors returns, taxpayers have received nothing as of 1 March 2012.
So what about the remaining two thirds of the portfolio that has not exited yet? Well, we have some insight in that too.
Fund managers are required to calculate the fair market value of all their portfolio companies, which is an accountants’ projection of the value of the company. From FoI 504, we see that the fair market value of the remaining portfolio is £7.52 million.
Running the numbers as above, and assuming that InvestNI will get nothing back from their subordinated money, the private investors who gave Crescent Capital £15 million will, after ten or twelve years, get £16.92 million back. Potentially. If you ignore inflation, this is an annual rate of 1 per cent, worse returns than on a current account at a high street bank.
However, considering the impact of inflation over this twelve-year period, that £16.92 million is actually only worth £11.9 million in 2004 terms. Twelve years later, investors will get back just 70 per cent of their money in real terms.
There’s always the outside chance that the remaining companies in Crescent’s portfolio might produce a “ten-bagger”: ten times the original investment. Therefore, we looked at the last financials reported to Companies House for all of the remaining portfolio companies.
[Editor's Note: Because each company is classed as a “small businesses” they are not required to complete full financial filings: they do not have to file a profit and loss statement, but are, required to file a balance sheet. Without a P&L, it is impossible to tell how much revenue is made each year, but from the balance sheet it is possible to deduce accumulated trading figures.]
Of the companies remaining in the Crescent Capital II portfolio, only two are trading at a profit. Rhe remainder have accumulated total trading losses of over £12 million. How on earth could a fair market value of £7.52 million be given to companies that are losing this much money? Our own estimate of the value of the remaining portfolio companies, giving both profitable ones a 5 x exit, is about £3.5 million.
There’s no need to wade through the analysis again, but the bottom line is that private investors gave Crescent Capital £15 million. Ten years later they will likely get £12.9 million. (Let’s forget about inflation) InvestNI gets nothing. Therefore taxpayers lose another £7.5 million, while Crescent Capital itself creams off nearly £5 million in fees.
As an investor, it’s hardly an attractive proposition.
It is worth noting that £6 million of the £15 million in private money came from the Northern Ireland Local Government Officers’ Superannuation Committee. One might imagine DETI and InvestNI would have paid more attention to that. Alan Hevesi of the New York State Common Retirement Fund, the second biggest pension fund in the US, will likely be irritated too, having put £3.75 million in to the pot.
Crescent Capital’s contractual key performance indicators (KPIs) are:
- to stimulate the venture capital industry in Northern Ireland, helping to accelerate the quality and quantity of venture capital available to local SMEs
- to operate a cost effective fund that will achieve returns for investors
It would appear that Crescent has failed on both counts.
Four years remain in the lifetime of this fund. The fund is almost tapped out of follow-on money, and the trading losses of three quarters of its remaining portfolio are unlikely to generate any return, let alone a fund-saving multiple.
Surely it’s time for InvestNI to look into this and top wasting taxpayers’ money propping up a failed asset class, which in any case isn’t even making any money for private investors? At this point, throwing the money in pound notes from the roof of their offices would probably be a more effective investment and stimulation strategy.
Crescent Capital did not immediately return a request for comment.