The UK registered a record-breaking $15bn in tech funding in 2020, despite the uncertain investment environment created by the combination of Covid-19 and Brexit, according to a new report from Tech Nation. With robust investment from international investors and a boom in emerging sectors such as deep tech, the UK is now pulling ahead of other European tech hubs, such as Germany and France, with knock-on benefits for corporate innovation.

Over the past five years, international investors have accounted for more than 70% of the growth in venture capital investment in UK tech. In 2019, a record $10.3bn of foreign capital was invested, according to data from Tech Nation’s annual report, and while it dropped slightly in the past year, it still accounts for the lion’s share of investment.

This rising interest from international venture capital funds is the natural result of a maturing ecosystem, says George Windsor, head of insights at Tech Nation. “As the most developed market in Europe for tech, it follows that deal sizes will get larger, for companies in need of late-stage finance to continue their strong growth trajectories,” he says. “International investors have the scale of capital to contribute to these late-stage and megarounds that we saw proliferate through 2020.”

Large inflows of international capital will have beneficial ripple effects for corporate innovation. Venture capital-backed start-ups create spillovers over nine times higher than corporate R&D, according to research by the Centre for Economic Policy Research (CEPR).

Covid-19 has ramped up the pressure on corporates to digitalise fast, and many are turning to start-ups to help them innovate. Large incumbents see partnerships with start-ups as a central pillar of their innovation and product development strategies in the post-Covid-19 era, according to a McKinsey report. And start-ups share this view: almost two-thirds of those surveyed say that corporate-start-up partnerships will become increasingly important moving forward.

International investment is raising national security concerns

Foreign capital has been concentrated in late-stage rounds (those valued at $40m or more), with UK investors accounting for only 15% of the funding in raises of over $250m, according to the Tech Nation report. Most of the money is coming from North America, where there is an abundance of Silicon Valley investors with deep pockets and growing interest in European unicorns.

While more international capital reflects the rising profile of UK tech for strong investment returns, it is also raising some concerns about national security, says Windsor. “It does surface the potential for national security concerns, as opportunities rise for UK tech firms to become majority-owned by non-UK actors in the future,” he says. “This is an issue which is being addressed by governments around the world.”

The UK government has already acted on these concerns, introducing the National Security and Investment Bill in November 2020 to shore up its powers to block foreign investment in 17 “sensitive” industries, such as AI and quantum technologies, after the controversial takeover of Cambridge-based semiconductor business ARM by US giant Nvidia.

Investment in UK deep tech booms despite global decline in growth

While the tech ecosystem as a whole performed well in 2020, deep tech investment took off in the UK. AI-focused semiconductor start-up Graphcore nabbed one of the largest funding rounds of the year with a blockbuster $222m raise in December from investors including Draper Esprit and Baillie Gifford valuing it at $2.8bn post-money, following on from a $150m round in February 2020.

Deep tech start-ups such as Graphcore excel because of Europe’s strong R&D infrastructure and abundance of tech talent, says Stuart Chapman, director of tech-focused venture capital firm Draper Esprit

“What Graphcore is trying to challenge is the scale of what artificial intelligence can achieve and can do,” he says. “They are looking to push the boundaries into what people believe is possible.”

Start-ups in the deep tech space are receiving a lot of investor interest at the moment as future developments in software rely on advances in hardware, Chapman adds.

“We are at that point in the cycle where we are coming to the end of what the software guys can do with the current hardware and that is why you’re seeing a number of investments in the hardware space to try to push the boundaries of what is known,” he says, adding that this cycle will last for another two to three years.

Outside of Europe, investment in deep tech fell off a cliff, whereas a few European countries saw positive year-on-year growth, with the UK reporting the fastest rate of 17.4%, according to the Tech Nation report.

The resilience of deep tech investment in the UK reflects the central role the sector has played in the pandemic response, says Tech Nation’s Windsor.

“Companies like Babylon Health, Oxford Nanopore Technologies and Immunocore have responded directly to challenges faced over the course of the Covid-19 pandemic,” he says. “UK deep tech firms are present in a range of sectors and areas of the economy undergoing fundamental transformation.”

Unlike the wider tech ecosystem, funding for deep tech start-ups is dominated by UK investors. All of the top ten investors in the sector by number of rounds participated in between 2015 and 2020 are based in the UK.

The dominance of domestic investors reflects the nature of deep tech start-ups, which tend not to be the fast-growing businesses that late-stage investors favour, says Draper Esprit’s Chapman. “If you’re providing late-stage capital, it is often a lot easier to provide it for revenue-generating, fast-moving opportunities [as] it’s easier to do due diligence on the market size and the customers and the rate of growth in revenue,” he says. “When you come to assess deep tech, you’re really looking at the standing of the technology in its peer group, at the proof of concepts and the partnerships that they have with the major players and so there’s a benefit of proximity.”

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