Northern Gritstone’s Duncan Johnson talks to PMP about the North’s untapped potential, adding another research-intensive northern university to the Gritstone Family and his firm’s European aspirations
Northern Gritstone is on a bit of a roll. This month it added a £50 million fundraise – from Northern LGPS, Fulcrum Asset Management and Aviva – to take its total to £362 million since 2022.
It is now set to add new University partners to its founding partners of the Leeds, Manchester and Sheffield universities, expanding its access to science and technology spin-out companies.
Gritstone, which operates as a private self-managed investment company, was founded to make deep-tech, health-tech and life sciences investments from its own balance sheet. It mainly invests in seed capital and 75% of investee businesses were spun-out of its three founding universities.
Chief executive Duncan Johnston had set up two private market investment businesses before making his first foray into the universities sector in 2021. “It looked very interesting, exciting and different. I wanted to do something with impact – or what we call profit with purpose.”
The original three partner universities became frustrated by the Oxford, Cambridge and the London universities attracting all the investment in the sector despite “producing a similar quantum of world-class research”, he says.
“I concentrated on linking everything we’re good at with identifying cracking investments. We want to make an impact not just locally, but regionally, nationally and hopefully globally. Profit with purpose is the key to attracting the best talent and new shareholders.”
Its investors do not need to be interested in ‘purpose’. “Every investor is somewhere along the bell curve. The fund from which Columbia Threadneedle invested has no impact aims so it is looking purely for return while Greater Manchester, West Yorkshire and South Yorkshire mayoral funds invested £1.5 million each for purpose,” he says. “But if you’re not passing the profit test, you can forget the impact side.”
Johnston is adamant investors do not need to sacrifice returns to achieve purpose. “The more impact we have, the more profitable we’ll be. The more profitable, the more impact. It is a self-reinforcing cycle. More funding and talent encourage businesses to form. Winning this argument has been very important.”
Establishing an asset class
Gritstone finalised its business plan in 2021 and closed its first fundraising in 2022, following in the footsteps of IP Group, Cambridge Innovation Capital (CIC) and Oxford Science Enterprises (OSE). “When IP Group got going 25 years ago, universities had not sufficiently evolved their own commercialisation journeys or technology transfer offices to make the most of the IP Group offering,” he says. “They come a long way since then.”
Like OSE, Gritstone has the contractual rights to invest in everything that comes out of its founding partners’ universities. Gritstone, OSE and CIC have all attracted a level of pension fund investment although Gritstone has attracted by far and away the most from this group of investors.
The three work closely together for their mutual benefit. “We share information so we can see what we are doing differently. Hopefully, we can find the optimal way of operating,” says Johnson.
“We’re working together to create critical mass in the UK universities sector. The key idea is this is its own asset class. It’s not just early-stage VC – UK university spin-outs is a specific asset class with its own return dynamics and parameters.”
While science spin-outs “have core technology in spades,” he says, that is just the start of the process. “Our skill is in matching it with high-performing human capital to create businesses and produce desirable products.”
While its “easy to keep polishing tech”, the value is in turning it into a scalable product. “Deep-tech involves amazing science that allows a task to be done quicker or better – hopefully both – and importantly cheaper. This allows firms to take enormous market share very quickly.”
The government is putting pressure on pension funds to increase their private markets exposures. While Johnston accepts most will opt into private credit, some of will have the appetite for greater risk. “We want to ensure trustees and investment committees understand the dynamics of UK university spin-outs,” he says. “We’re creating a product that is easy for them to become comfortable with, while providing real alpha.”
As successful investments produce large multiples and some inevitably fail, overall returns are largely uncorrelated with public markets.
Looking ahead
While the North doubtless provides many opportunities, why does Gritstone need to restrict its business to a limited geographical area? “The place-based part is very important to us,” he says. “All the capital we invest is for the North, so the value comes back to the North.”
Adding to Northern Gritstone’s partner universities has a double impact of both giving it access to additional elite research such as: the Liverpool School of Tropical Medicine; the Materials Innovation Factory, in conjunction with Unilever, both in Liverpool; and the strong medical research in Newcastle. This creates a pathway for academics to spinout successfully with Northern Gritstone’s support. “Some great, world-leading work is going on in the region,” he says.
However, its business model does not preclude it from raising separate pots of capital. “We’re still proving our model works. Rather than expanding geographically, I imagine replicating it somewhere in Europe with the academic concentration needed to scale. Once we’ve earned our spurs, our ambition is to be the number one business doing this across Europe.”
Johnson says there is not enough capital for all the opportunities in the sector – so spin-outs need to compete for backing and there is always room for more capital. Indeed, Gritstone investors including Aviva have also allocated to OSE and CIC. “We have no concept of competition among investors – only collaboration. Our investments are all co-investments as we want others alongside us,” he says.
The other main shortage is for talented people. Although the situation is improving, it means building regional and national networks is hugely important. Johnson says attracting overseas capital can “exponentially” increase a firm’s network. “Just the act of investing helps to scale it,” he says.
Nonetheless, he acknowledges the adoption of technology remains faster and more scalable in the US.
The UK government actively courts US investment, with delegations from the Department of Business and Trade heading stateside every six months to showcase UK venture businesses.
“It’s a well-trodden path,” he says. “The UK is getting more and more attention and has become an important part of the global ecosystem. Putting aside the tariff negotiations, it’s logical to want US venture capital. We want it in the shareholder base, the right US VC backing is a real positive. Businesses do better with access to their networks and other businesses.”
Capital considerations
Johnston would like to see more UK funding at the scaling stage. He differentiates between “smart money”, which comes with networking opportunities, and “capital just to push you through”. “We don’t have enough of the latter in the UK,” he says. “The UK is missing an opportunity to grab more value – too much goes overseas.”
Johnson plans to raise more balance sheet capital in about three years, noting OSE raised £850 million for a single university. “We have a number at which we can sensibly and profitably invest. But we could easily deploy a lot more in scaling businesses.”
For example, when Durham-based flexible semiconductor manufacturer Pragmatic recently raised £200 million, Gritstone contributed only £7.5 million despite Johnston being on the board. “It’s a world-beating company and we would like to have invested £25 million. It’s approaching the elusive $1b billion unicorn status.”
He says whether it stays in the UK or management ultimately feels the need to list on NASDAQ or NYSE “will be a big test” for the UK listed market.
The number of main market companies exceeded 2,400 a decade ago but is now below 1,700. “There has been a massive de-equitisation,” he says. “The LSE is doing a great job of trying to change the narrative – but it would take a long time to reverse.
“The US has five to 10 times larger capital markets and tech allocations are vastly greater. The US has better analyst coverage, more experience, greater risk appetite and more liquidity. That means tech firms are likely to get a far better valuation,” he warns.
While he appreciates governmental support through UKRI, the tax environment is also far from ideal. He looks back fondly at the Blair-Brown era as having “the best regime we ever had for entrepreneurs”.
“If we want a world-class, technology-based economy, we must improve the entire ecosystem and create momentum. We could certainly improve the tax environment for entrepreneurs, risk-takers and for investors – and stop kiboshing companies with blanket taxes. We don’t need to become Singapore-by-sea, but increasing taxes on non-doms and private schools doesn’t create an attractive market.”
That said, he points to the £50 million fundraising at “a good valuation and from top-drawer investors” as a reason for optimism. “It’s currently a risk-off world and we would prefer it to be risk-on. But our shareholders are happy and ‘profit with purpose’ is delivering.”