Scottish scale-up investment slumps amid 'investor hesitancy' but outlook brighter - KPMG

Investment into Scottish scale-up businesses has slumped but there are some signs of a recovery on the horizon, a new study suggests.

Both the value and volume of venture capital (VC) investment into Scottish firms fell in the opening quarter of 2023, as economic conditions started to make investors more cautious, according to the latest figures from KPMG UK. Scottish scale-ups saw 14 deals completed in the first three months of this year, raising some £70 million – the lowest raised by Scottish businesses in the opening quarter of a year since 2020. Of those deals, eight involved Edinburgh businesses, with six involving Glasgow-based firms, the Venture Pulse report reveals.

In stark contrast, during the same quarter last year, £181m was raised across 41 deals and a record total of £700m was invested in Scotland across the whole of 2022, despite investments dipping elsewhere in the UK, particularly in London. Experts said those strong volumes were unlikely to be repeated this year, as “investor hesitancy” has crept into the Scottish deals market, and activity returns to levels seen before the pandemic.

Amy Burnett, KPMG private enterprise senior manager in Scotland, said: “As a result of the pandemic and the substantial changes ushered in by businesses and consumers, 2021 and 2022 saw a large appetite for VC investment into Scottish innovation and our fast-growth businesses. This was a bit of an outlier period, and what we are starting to see now is VC investment returning to normal levels, albeit compounded by a challenging economic environment. The dynamic of the two factors together is making the disparity even bigger, but investor sentiment in the UK is starting to turn slightly with some cautious positivity that the worst of the market turbulence might be over.”

Standout deals completed this year include Edinburgh-based financial technology - fintech - firm DirectID, which provides data to optimise credit and risk decisions. It attracted a €9m (£8m) minority investment from Ikea’s investment arm, Ingka Investments. Elsewhere some £9m was raised by Causeway Therapeutics, a University of Glasgow spin-out specialising in tendon disease.

Glasgow-based blood test pioneer Dxcover secured almost £10m in Series A and grant financing during the first quarter to fund the development of its pioneering blood test to detect cancer at an early stage. Founder and chief technical officer Matthew Baker said: “The investment marks a very significant funding milestone in our mission to detect cancer early and improve survival and quality of life for patients.”

Graeme Williams, head of corporate finance M&A for Scotland, KPMG UK, said: “The dip we’re seeing isn’t a trend confined to Scotland, as our data shows market uncertainty has caused VC investment to plummet across the UK and indeed globally. As the cost-of-living crisis continues, investors are increasingly turning away from those sectors that rely on consumer spending to drive growth and doubling down on investments in sectors where technology is addressing big macro trends such as health tech and ESG [environmental, social and governance]. While VC investment is expected to remain soft over the next few months, we are expecting that some renewed activity will be seen in the second half of the year.”

KPMG said a total of £2.9 billion was raised by UK businesses in the opening three months of the year, reflecting the significant slowdown seen at the end of 2022. Like Scotland, total UK VC investment in the first quarter is also the lowest raised by UK businesses in the opening quarter of a year since 2020 and significantly down on the £8.2bn raised in the opening quarter of 2021 and the £12.3bn raised in Q1 2022. Deal volumes were also muted, the report noted, with a total of 402 deals captured in the latest data.

Investor hesitancy has crept into the deals market with less cash being pumped in by venture capitalists.

Two-thirds of VC investment coming into UK businesses in the opening quarter of this year flowed into London, with more than half of the deals completed (219) by businesses based in the UK capital. A $602m (£476m) raise by fintech player Abound (Consumer Finance) was the UK’s largest deal of the first quarter, followed by a $160m raise by business-to-business (B2B) focused fintech The Bank of London, a $149m raise by One Moto, and a $140m raise by autonomous vehicle software firm Oxbotica. Carmoola rounded out the major deals with a $126m series A deal, according to the data.

From a sector perspective, business services and energy transition continued to attract significant attention from venture capital investors during the period, while interest in consumer retail and commercial property remained dry. Looking forward, B2B technology enablement is likely to remain a key driver of investment, KPMG added, not only in areas like financial and health services but across every sector.

Several government-backed programmes were initiated in the UK and Europe during Q1 to support start-up growth. Chancellor Jeremy Hunt’s first Budget included £3.5bn to help the UK become a scientific and technological superpower, including funding to support next-generation supercomputing and artificial intelligence (AI) research. The UK also released a white paper on the regulation of AI.

During the opening quarter of 2023, the German government launched a €1bn fund to support growth stage deep-tech and climate-tech companies, while the European Investment Bank Group and five EU member states announced the European Technology Champions Initiative - a £3bn-plus fund to address funding gaps and support late-stage growth companies in the region. KPMG uses PitchBook as the provider of venture data for its Venture Pulse report.