Investing in Britain

Investing in BritainAre investors missing investment opportunities with UK high-tech firms by misunderstanding company strategies? Paul Gregg reports Why is the City’s view of young, growing, publicly-quoted electronics companies at odds with those of the industry when it comes to investment? The debate has been sparked off by Brian Woods-Scawen, who is the Midlands chairman of accountants Coopers & Lybrand. Writing in the Financial Times he accused the institutions and fund managers of missing investment opportunities and failing to understand company strategies. The Federation of the Electronics Industry (FEI) for its part, is doing its best to inform institutional investors about the work being undertaken by small to medium size UK companies. It even puts on special events to nurture closer relations between investors and aspiring technology driven companies. The FEI’s director general, Anthony Parish, said that the organisation is making every effort to get it’s message across. The UK electronics industry is now an important part of the economy. “It represents about six to seven per cent of the UK’s GDP and employs around a million people. As consumers, the UK is the fourth largest purchaser in the world of electronics products”. So why the poor image for high technology firms amongst traditional investors? Cliff Hardcastle, chairman of successful LCD, industrial computer, and microwave component company, Densitron, points out that much of what a technology company accomplishes during its growth period is seen as an `intangible’ by investors. He believes that the way in which the City views high technology companies needs to change. Hardcastle created the Kent-based displays specialist, and he took it through to public flotation. He says there is a need for a radical change in the current attitude of “short termism”, specially if we are to avoid the high level of takeovers of emerging British firms by overseas companies. The intangibles that a technology company develops over a period of time often appear as patents. But how secure are patents from predators? Ferranti held several hundred patents on its medical whole body scanner in the 1970s. However, that did not prevent Asian competitors bringing out their own version soon afterwards. Stockbroker Clive Carver of Butterfield Securities, said that the attitude of some powerful competitors towards copying seems to be one of “go ahead and sue me for 10 years, and if you are still around we might settle”. He said that in the investment climate today there was little money available for start-ups. Companies must have a track record before fund managers would begin to look at them. His views of course, do not reflect those of venture capitalist community, who specialise in investing in potential winners, even if it is only to increase their size before selling them. “In the eyes of many fund managers,” Carver said, “technology is often too difficult to understand compared with other business sectors. They would need to know as much as the people directly involved in order to judge an investment, and they just do not have the time”. John Borgars, who is a consultant investment analyst agreed with Carver. “In addition to the time factor, fund managers are often told by their bosses to keep their investment in high tech companies down to around four per cent”. In addition, there was an image problem, in that some of the figures at the top of the industry do not appear to conform to the City’s idea. There is intense pressure on fund managers to out perform one another. This often means switching investments and going for short term benefits rather than waiting for long term growth. Four of the UK’s top fund managers, who look after pooled funds on behalf of several different pension funds, have already come under the spotlight accused of under performance. For its part, the CBI is also trying to persuade the government to change the tax rules, so that more private and institutional money from the City of London finds its way into small publicly-quoted firms. Peter Agar, who is the deputy director at the CBI, said: “Increasingly these are companies that operate outside the UK, but this fact is not generally realised”. How it works Densitron’s Cliff Hardcastle can describe an example of the current situation, where he cites two companies A and B that closely follow his own experience of events. Company A has sales of ?10m and a gross margin of ?3m. After additional charges of ?2m are taken out and ?0.5m is spent on R&D, it is left with a pre-tax profit of ?0.5m. It has a price to earnings ratio of 12 and a value of ?6m. Company B also has sales of ?10m and a gross margin of ?3m, as well as additional costs of ?2m. It’s spending on R&D is zero, and it is left with a profit of ?1m. The company has a higher price to earnings ratio of 16 and a value of ?16m. Company B then approaches A with an offer of ?3.6m and the shareholders decide to take the cash, less tax at 40 per cent. Then the newly-form company (A+B) doubles it sales to ?20m, has a gross margin of ?6m, and has additional costs of ?4m. It again spends nothing on R&D, and shows a profit of ?2m. The price to earnings ratio is now 20 and a value of company is ?40m. It now looks particularly attractive to an outsider, and the shareholders decide to sell it for ?24m. They take the cash less the 40 per cent tax. “A very simple solution,” says Hardcastle, “is for the directors to be given more freedom to write the accounts as they see fit.”


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