CIBC Innovation Banking Podcast

Sean Duffy [00:00:00] It's not to say that cash burning companies don't get funded. That's not true. That's clearly not true. But what is much more in evidence now than two, three years ago is how that money is being efficiently used. 

Michael Hainsworth [00:00:16] Hello, I'm Michael Hainsworth. The CIBC Innovation Banking Podcast explores the world of startups, growth stage companies and late stage companies that have made a big splash in their industries around the world. Egress is a 10 dollar word for leaving. Egress is also a private equity and VC backed multi-million dollar B2B software as a service company based in the UK, which aims to prevent your sensitive corporate data from leaving your hands. And despite high interest rates, inflation that's even higher and the fallout from Brexit still settling, Egress has no intention of leaving the UK, just expanding beyond its waters. For almost a decade, the company's financials have been in the hands of CFO, Malcolm Locke. He recently guided the company to a 40 million dollar Series C equity investment round aimed at expanding off the island and into the United States. I sat down with Malcolm and the CIBC Innovation Banking Relationship Manager, Sean Duffy to find out what it takes to grow a UK-based company post-Brexit and why the UK is still attracting attention and dollars. 
 
Malcolm Locke [00:01:30] Well, it's definitely interesting times, Michael. As is well reported, the macro conditions for businesses are pretty challenging across the whole economy. High inflation leading to high wage inflation, high interest rates making the cost of capital expensive. So there's definitely some high level macro headwinds. There's also the impact of Brexit, which obviously came about quite a while ago now. But you know, the full manifestation of those impacts is still very much out there alive and kicking in the economy. And so, yeah, it's a pretty, challenging environment. 

Michael Hainsworth [00:02:06] What does that challenging environment mean for the tech market generally? I understand that it's sort of created a shift from the investor point of view. 

Malcolm Locke [00:02:16] Yeah, there's two or three things. So I think one aspect is for tech companies in the UK or in any country, the access to talent, particularly technical talent, software engineers and the like, is critical to be able to grow and drive innovation. And the impact of Brexit is that the access to talent has been constrained because with no longer having the free movement, people across Europe, companies based in the UK who want to employ that talent in the UK can no longer easily attract that talent from across the whole of Europe. And the tech sector was hugely reliant on that talent pool prior to Brexit. There's another impact as well, which is kind of in the opposite direction. So the tech companies have got to the point where they're looking beyond the borders of the UK to grow their businesses and sell their products. Getting into Europe is now a little bit tougher because you can't easily move your talented, experienced people from the UK. You can't easily move them into other markets in Europe to build out your operations in those markets. That's a challenge. I think the third area is around the cost of capital. So there's macroeconomic trends with high inflation leading to high interest rates. That's really impacted the cost of capital for tech companies and that has two implications. One is if you already have debt in your business, as one of your funding mechanisms, the cost of that debt is most likely increased quite significantly, which is impacting your available cash flow that you can put into your operations and invest back into your business. That in itself then has a knock on effect into the investment community. So the investment community, the venture capitalists, the growth equity providers, and private equity providers, they'll be looking at that cash impact of the cost of capital and the impact that that has on cash burn in companies and wanting to see tech companies focus more on efficiency as well as growth. 

Sean Duffy [00:04:28] So on cost of capital. I think what's changed is from two, three years ago, people used to say money was largely free in inverted commas, that interest rates were on the floor, companies seem to be able to get away meaningful raises relatively easily. All of the investors were very well funded and were eager to deploy funds. With rising interest rates and a dramatic fall in valuation in late 22 and throughout 23, the emphasis has shifted radically to efficient use of that money. It's not to say that cash burning companies don't get funded. That's not true. That's clearly not true. But what is much more in evidence now than two, three years ago is how that money is being efficiently used. 

Michael Hainsworth [00:05:22] How is efficient money use typically measured? 

Sean Duffy [00:05:25] There's a typical CAC to LTV ratio, sort of how much should you spend to get that customer? And then how long does that customer stick around? LTV means lifetime value and CAC means cost of acquisition. So to polarize it, if you're spending a dollar to win a customer and that customer stays for a year and generates a dollar, you’re just wasting your time. You will see all types of scenarios in the companies that we look at where there's some fantastic LTV to CAC ratios and some terrible ones, but that LTV/CAC ratio is under a lot of focus to ensure that people are spending their marketing and sales dollars very wisely to bring on the right customers. And that those customers stick. I think that's a phenomenon that didn't really have much resonance two, three years ago, but it's a leading one. So you want that ratio in the sort of five, six, seven range at least. 

Michael Hainsworth [00:06:25] So a post-Brexit business world in the UK has meant the hunt for talent has gotten more cutthroat and UK business has been forced to focus across the pond in North America as post-Brexit barriers make working in continental Europe that much more difficult. Meantime, investors have changed their focus from revenue growth to return on capital and how efficiently a startup founder is using the revenue that is coming in the door. That's led investors to open their wallets for companies that typically don't need the money. 

Malcolm Locke [00:06:58] Yeah, that's absolutely true. It's like, you know, you can only get an umbrella if the sun is shining. More specifically, I think if you're a company that's looking to raise capital in the form of debt, then you definitely need to be able to demonstrate that you have a good runway of cash in the business. So you're not going to run out of cash in the next three months or six months. I think most lenders would be looking for at least 12 months of cash runway from the existing cash in the business before they'd be prepared to put additional cash in the form of debt into any company. So that presents its challenges for the smaller scale businesses, the startups and the early stage scale up businesses that perhaps haven't got the luxury of an established customer base that's generating some cash for them. So I think that's a tough environment. And then from the venture capital and private equity community or the growth equity community, those guys and girls, they don't like uncertainty. And there's been a lot of uncertainty in the economies of the world. Again, rising inflation leading to rising interest rates, uncertainty about when the inflation curve is going to start turning in a more positive direction. I mean, it has in some economies, but not so much in the UK yet. And so there's still a degree of uncertainty for that investment community as to how high is inflation going to go or how long before it starts to come down, How high are the central bank rates going to go? Obviously, other factors that generate uncertainty, like the war in Ukraine, don't help. And it's that uncertainty that means the equity investors are kind of sitting on the fence. They're not ready to readily deploy capital again yet. So that's been obviously the case now for more or less 18 months, and I think it will continue for a little while yet. 

Sean Duffy [00:08:47] I think for good companies there remains a very active funding market, whether it's debt or equity, there is still a lot of funding around. Money has to go somewhere. It can't just sit in the bank. Good companies with good parameters continue to attract investment, whether that's debt or equity, I think the amount of funding has come back, certainly on the equity side because 2021 saw a high watermark in terms of the amount of money that was coming in. So in that sense, it sort of had to come back. And the lending market, markets are sort of correlated, possibly a slight derivative of the equity markets. But if the equity markets slow down, the debt markets slow down a bit. But generally speaking, good companies still got funded. So I don't think that has changed. 

Michael Hainsworth [00:09:37] There's a saying that goes, there's always money, there just isn't money for you. And that's the case for startup and growth stage companies that fail to pivot to address the current climate of high interest rates, higher inflation, low mobility and lower valuations. The economic environment in the UK has forced companies in the tech space to focus on profitability and double down on efficiency. Malcolm tells me one of the secrets to success at Egress is that he's pivoted from growth at any cost to efficient growth. 

Malcolm Locke [00:10:10] There's a long run focus on growth. Top line growth. Get onboarding new customers. Selling more to existing customers, and that's been the kind of mantra for Egress and a lot of tech companies for a long time. And companies were focused on like, how do we scale our whole organization to drive growth? The change is now, it's like balancing that, still part of the focus is growth, but balancing that out with like, how do we do that efficiently? So how do we get more out of the people and the processes we have? Where have we built out processes and organic parts of our organization that perhaps are a nice to have, rather than a must-have, or where have we kind of scaled up too quickly and we're not really getting the bang for buck for that part of the scale up that we've built out and rowing back on some of that to find those efficiencies. You know, tech businesses are really people businesses. So a lot of the cost is in people. So, it's not necessarily reducing headcount. In some cases that's not necessary, but it probably has been for many tech companies, freezing hiring or going much more slowly in terms of hiring and adding people into the team and making sure that the team you have is absolutely as efficient as it can be before you start adding those additional heads. 

Michael Hainsworth [00:11:28] So then what happens to product innovation when you're focused on efficiency? 

Malcolm Locke [00:11:33] That's a really interesting question because logically, you’d think innovation would be one of the kind of the luxuries that might go. But actually when we look to the efficiency or how we could gain efficiencies across our engineering organization, what we found was the inefficiencies were really in some of the areas of maintaining our existing products and services, maintaining our customers from a technical point of view. And there was a lot of process redundancies and inefficiencies, the use of people where we could automate tasks and processes and therefore actually we didn't need to reduce innovation or move people off innovation to spend more time on maintenance tasks. 

Michael Hainsworth [00:12:17] You once told me that you've got a Japanese management technique that you employ when it comes to squeezing more productivity out of the routine. 

Malcolm Locke [00:12:28] Yeah, it's one I learned a long time ago when I was on an MBA program. It's super simple to remember, so it really stuck with me and it's called the Five Whys, and it basically is literally asking why five times in a row. If someone says like, why do we do it that way? And then they give you your answer. Then you say, well, but why do we do it that way? You keep asking why until you really get to it, and the idea is you really make people think about the answers they're giving you, and say actually, you know what? You're right about this. Like, why do we do it that way? There is a better way of doing it. Why are we still doing that technique or that process that we've run for five, ten years? We've never changed it. We can do that differently. We can do it smarter. And there's a real opportunity at this kind of moment in time with the evolution of AI based products that are coming into the market in all areas, in all walks of life, all areas of business processes are potentially going to benefit from AI based software that's being commercialized and become usable in lots of different areas of business which will help make processes much more efficient. 

Michael Hainsworth [00:13:38] I see you've got debt financing from CIBC Innovation Banking in June of 2021, additional debt financing in January of this year. You've got what, a combined 32 million burning a hole in your pocket? Tell me about your growth strategy and how it includes expanding into new geographic markets. How do you overcome the Brexit challenges for the European market? 

Malcolm Locke [00:13:58] Part of having the capital is the organic growth. So looking at markets, we can expand into and enter for the first time. Definitely Europe has become more challenging and how we address, we might address a market entry into European countries is definitely more challenging post-Brexit. There's always been challenges with Europe because of the languages and the need to localize products for the different languages France, Germany, Italy, etc. versus what you get in the US, which is a market of a similar size to Europe, homogenous in terms of being English speaking. And obviously, that's, you know, as a UK based company that means our products are already ready and localized for the North American market. And so our focus as a business, which I think is true for a lot of UK tech companies, is that the US market is probably the number one market that you target after you've proven yourselves in UK market. So our organic growth strategy is to focus in the US primarily. 

Sean Duffy [00:14:59] The UK remains a very good place to set up and scale the company. It's very pro-business, it's very pro-commerce, it has a lot of very talented people and it has a highly supportive ecosystem, if you like, of VCs, loans, corporate finance houses, they're all still heavily concentrated in London, the Southeast and other bits of the UK. And it's still an awful lot of talented people. So whilst Brexit has certainly created an additional headwind to expand, certainly to expand into Europe, so it certainly hasn't made it easier, it hasn't been a death blow for the VC industry in the UK. The UK is still, you know, the leading country in Europe for VC investment and a leading global player. Brexit hasn't made it easier, but I think the UK is learning to cope with it. 

Michael Hainsworth [00:15:57] It's a testament to the UK economy that it can have sky high interest rates, higher inflation and trouble attracting talent while still being the leading country in Europe for VC investments. And while Brexit hasn't made working in the UK easier, Egress is learning to cope with it. It could have pulled up stakes and moved to North America, but it will continue to treat One Old Street Yard in London, England, as its base of operations. One upside to focusing that 40 million in Series C across the Atlantic? No language issues. 

Michael Hainsworth [00:16:30] Every tech company wants to reduce friction for their clients, and I can imagine it's the same for you with an M&A strategy, there's less friction moving into the United States and Canada. 

Malcolm Locke [00:16:42] Exactly right. We've been able to seed the North American market using our UK based sales team. There's no language barrier. The time difference isn't too significant from the UK to the east coast of North America. Our support teams, which support customers and deploy the software and support customers once we've sold the software, that can all be done from the UK. Where now we've got some scale in the US. We're beginning to put those teams locally as well. But to get it going, we could do- many of the functions could be done from the UK, which reduced the heavy lifting of setting up in a new market. 

Michael Hainsworth [00:17:17] What does the next ten years hold for Malcolm Locke and Egress? Locke doesn't know. Not even the crows that guard the Tower of London can predict what's next, but being willing to pivot from growth at any cost to growth at a reasonable cost, a focus on efficient capital use and expansion into foreign yet friendly territories, it's all set up Egress for success for its next decade. As for Sean Duffy, the managing director for UK and Europe, he's confident that Egress is in a good region to scale up the company, thanks to the United Kingdom's pro-business stance, strong ecosystem and support from innovation economy investors like CIBC Innovation Banking. 

Michael Hainsworth [00:17:55] This has been the CIBC Innovation Baking Podcast, where we learn the secrets to innovation economy success from the entrepreneurs who are paving the way for the future. I'm Michael Hainsworth. Thanks for listening.