Much has been written on how Silicon Valley emerged. The early combination of world-class research institutions, military establishments, funding and talent certainly helped. Its growth into a huge domestic market with a single language and currency has provided a foundation for global expansion. Importantly, it benefits from a deep, sophisticated capital market that provides diverse and flexible funding for second- and third-stage funding. And, we have also seen the emergence of wealthy private investors and family offices prepared to offer direct support.
America’s West Coast has essentially matured into an ecosystem that is geared toward innovation. This ecosystem encompasses start-ups, universities, and a wealth of domestic and international talent in the form of leading data scientists, engineers, mathematicians and technologists. And, this engine for innovation is leading the transformation of multiple industries, including financial services, automotive with driverless cars, health care and many others.
In sharp contrast, the European technology scene lacks the presence of a truly global player, a top technology player or similar, to complete. Overall, it is relatively fragmented compared with the US. Yes, Europe does have a number of established and exciting tech hubs, such as Amsterdam, Berlin, London, Madrid, Paris and Stockholm, to name just a few. Recent data suggests that Europe is creating more “unicorns” — start-ups with valuations of over US$1b. However, we have not seen enough of these companies break through to the US$50b-plus valuations. Also, many of the European unicorns have merged or been acquired by US technology players and have not pursued an independent strategy — the highest profile ones being in the video chat, mobile gaming and travel fare aggregation spaces.
Across Europe, historically, individual countries have pursued their own digital and technology strategies with the absence of an overarching technology framework. Encouragingly, this could soon change, thanks to the European Union’s Digital Single Market strategy, which aims to remove online barriers and create a single market to allow European firms to scale more rapidly. If successful, this could add €415b to the European Union’s economy. Logic should dictate that if a technology business can successfully serve the diversity of Europe in terms of language, currency and business practices, then becoming global business should be easier.
Another challenge in Europe has been technology funding. While it has improved in recent years, Europe is still behind the US. In the US, VC funds raised over US$100b new investment plus existing cash to invest over US$160b — of which US$70b went into Silicon Valley alone. In Europe, while VCs and private investors are growing in terms of funding, countries still remain reliant on the traditional banking system. According to the Association for Financial Markets in Europe, around 70% of Europe’s debt funding is still provided by banks, compared with 30% in the US. Also, Europe’s pool of capital remains fragmented at the country-level and there are fewer private investors prepared to support tech businesses in reaching the next stage of development.
So how can Europe improve its chances of incubating the next tech giant?
- Create the business environment for tech entrepreneurs: We’re already seeing emerging political debate around the merits of taxing robotics and automation as way of funding a universal benefit payment for people whose jobs may get displaced. However, it would be a mistake to introduce policies that discourage the development of technology that could potentially transform industries and lives. We must understand that, socially and politically, we have a responsibility to support and retrain people who have been displaced by technology while recognizing that it would be counterproductive to put up barriers or to assume that we can slow down the pace of change. It’s a careful balance and we need to get it right.
- Harness historical strengths: In Europe, we have seen clusters or hubs emerge around specific capabilities and cities. For example, London is a center of FinTech innovation, which complements the city’s leading role in financial services, while Stockholm is known for gaming and sport tech.
We can observe a “networking” or “multiplying” effect when we have a concentration of businesses in the same industry. So, as the Fourth Industrial Revolution takes hold, the opportunity for Europe is for governments to digitize their historic industrial strengths by transforming today’s existing centers into tomorrow’s future technology hubs. This might be FinTech in London, the future of auto mobility in Germany, luxury goods in Italy or the internet of things for advanced manufacturing in Switzerland and France. As centers develop, with a view to creating the broader ecosystem necessary to incubate a tech giant, it would be logical for governments in individual countries to associate their upcoming tech industries with their traditional industries. The political and economic challenge is to then leverage and connect these new and emerging hubs to create the “virtual” scale necessary to compete with the US West Coast.
- Deepen the funding pool and attract the interest of investors: The EU already has a plan to create a Capital Markets Union — a single market for capital, which would provide businesses with a greater choice of funding at lower costs. This would potentially reduce tech start-ups’ dependence on bank funding, which is less flexible than other forms of investment.
But, policy makers also need to think about how they can incentivize private equity firms and private individuals to invest in technology businesses. The good news is that investors generally are attracted to the idea of investing in Europe. According to the EY European Attractiveness Survey 2017: plan B for Brexit, over half (56%) of global investors plan to grow their presence in Europe over the next three years.
A key issue here will be the future role of London post Brexit with UK-based firms being involved in over half of debt and equity issuance by EU27 borrowers. Over the past decade, the city’s average annual debt capital markets issuance alone has stood at roughly US$328b. An acrimonious Brexit risks limiting the supply and access to much-needed capital.
- Ensure that tech start-ups have access to academics and skills: Universities are a vital component of the tech ecosystem, which is why UK universities must be able to keep collaborating with European companies on contract research. In the academic year 2014–15, universities in the UK attracted over GB£836m in research grants and contracts from EU sources. This represented 14.2% of all income that they received from research grants and contracts in that year. Start-ups also need access to deep talent pools, which means that people need to leave schools and universities with skills that will be needed in the workplace of the future.
- Welcome immigration: Technology companies compete globally for talent. They need the best engineers, technologists and data scientists. Europe has some of the best universities and colleges in the world, but studying in Europe needs to be welcoming and attractive to the best talent from abroad, particularly students from India and China. Ensuring that we continue to welcome and support free movement of the right expertise not just across the European Union, but all of Europe, is key. A positive attitude to high-skilled immigration could become a real differentiator in the future.
Of course, none of these suggestions are necessarily quick or simple fixes to the scaling challenges that European start-ups face. Neither will they guarantee that Europe produces the next technology giant. But, if we can do our best to remove both the soft and hard barriers that prevent tech start-ups from operating within the wider European market, the chances of Europe incubating its own tech giant will be greatly increased.
Legal disclaimer: The views expressed are those of the author only and do not represent the views of any of the member firms of Ernst & Young Global Limited.