If Malcolm Graham's long, hard search for £40 million for a state-of-the art hardboard mill is anything to go by, the prospects for rebuilding Britain's lost industrial base look bleak. Fortunately, Tech-board's story has a happy ending.
The business start-up is the Cinderella of corporate finance. To Malcolm Graham, that description must seem like an insult to Cinderella. As Graham discovered in a five-year odyssey in search of funds, the money that financial institutions earmark for greenfield ventures is barely detectable. Even venture capitalists, supposedly at the outer reaches of financial risk, habitually reach for the smelling-salts on hearing the words 'start-up'. Under 10% of venture capital money goes into start-ups and a high proportion of that from just one institution, 3i.
Fortunately, almost miraculously, Malcolm Graham's search had a happy ending. In July his company, Tech-Board, finally raised £40 million for a state-of-the-art hardboard mill in Wales, on a site 1,300 feet up in the hills above Ebbw Vale. In the City's eyes, £40 million is barely a flicker on the financial Richter scale. Yet Tech-Board now rates as Britain's biggest-ever industrial start-up. The new plant, creating some 200 jobs, should be commissioned within 18 months. Two years hence, Graham should know if his long search for backers has been worth the angst.
The scheme he began promoting in 1989 always had a lot going for it. Industrially it makes sense. Hardboard is widely used in everything from cars to furniture and footwear. By improving its technical characteristics, Graham sees potential to substitute it for plastics and other materials. Britain consumes about 150,000 tonnes annually and demand shows solid growth. Transport makes up a major element of costs - typically, shipping costs are up to 20% of the £160 cost per tonne - yet there is currently no UK manufacturer. In full production Tech-Board should shave £25 million off Britain's import bill.
As Graham says: 'I felt I had the essential ingredients for a good business.' He insisted on thinking big. When it eventually reaches full speed the Welsh plant will produce up to 88,000 tonnes, capable of grabbing 40% of the UK market and tackling exports as well.
'I was adamant that this could not be done on a shoe-string,' he says. 'It has to be a volume business to compete.' Tech-Board's origins go back to 1987. Graham, then an experienced thirty-something industrialist, worked for UK Paper, demerged from publishers Reed Group after a management buy-out and share flotation. 'The concept of a new mill emerged from a study of the company's hardboard mill in Kent,' he recalls. 'It became clear that the old plant was so clapped out that the only option was to start again from scratch.' In principle UK Paper had agreed. Then out of the blue they dropped the scheme when Fletcher Challenge, the New Zealand forest products combine, bid for UK Paper in June 1989.
The Kiwis clearly wanted the hardboard project out of the takeover equation. That left Graham at a career crossroads. His employers, having abandoned the new hardboard mill, also decided to close the old one. Graham was offered another post but decided to go it alone. He acquired certain intellectual rights to the scheme and began searching for backers, relying on the sale of his UK Paper shares to keep him going. 'I was arrogant enough to think I could organise it before my money ran out,' he says. 'Like many people getting close to 40, I saw this as a once-in-a-lifetime opportunity.' He started with an influential fan club. Peter Steggles, UK Paper's lawyer, liked Graham's plan and offered to act for him on a 'no deal, no fee' basis. David Carter of accountants KPMG Peat Marwick, then the partnership's MBO guru, offered similar terms. Another Graham fan was David McMeekin, corporate financier at Midland Bank.
This initial support was never enough. By late 1990 Graham was ready to throw in the towel. 'It had not been a happy time. I had run out of money and contacts,' he says. 'I had been hawking the idea around for close on two years. There was some interest, but never enough to make it happen. The typical response was: find yourself a lead investor; find yourself a financial director; find yourself a sales director and then come back and see us.' Then he met Peter Learmond. Learmond is a veteran industrialist whose painful experience with his own start-up 20 years earlier uncannily mirrored Graham's own. Invalided out of the Navy in 1946 Learmond had become a steel trader and for years nursed the ambition to build his own mini steel mill on the Medway. 'Like Malcolm, I had trudged the streets of London looking for a backer,' recalls Learmond, now Tech-Board's chairman. 'Finally, in 1970, I found one in Charles Knight of the Phoenix Insurance Company, who offered £1 million.' But Learmond needed £10 million for his Sheerness Steel Mill - at that time itself Britain's biggest industrial start-up scheme. It was only after he met Gerry Heffernan, who had built several mini-mills in Canada, that the project finally gelled. 'Apart from the Phoenix contribution,' he says, 'the whole of the funding for Sheerness Steel came from overseas.' At the time, according to Learmond, venture capital for start-ups in Britain barely existed.
To Graham, the picture looked much the same two decades on. As he admits, 'Although my business plan was certainly not off-the-wall, it was off-the-wall as far as most venture capitalists were concerned. They were simply not geared to such a scheme. To them, raising £4 million for a start-up would be a major cause for concern.' Learmond became the project's fairy godfather. And after KPMG Peat Marwick had produced a revised viability study, Learmond approached Persis Investments, a Bahamian fund fed by rich, private individuals around the world. 'Persis had helped me with Sheerness and they soon offered to finance the operation until we could do a deal - believing then that we could raise the money within the three months. They also offered us £1 million of seed-corn money and an office in Fulham.' In October 1991 the duo managed to persuade Tony Read to leave Johnson Matthey and join them as finance director. At this point KPMG's Nick Theakston, who had revised Graham's business plan, emerged as a key figure in the saga. 'I had been in the venture capital game long enough to realise that Tech-Board was a particularly interesting opportunity,' he says. 'Equally I recognised that venture capitalists run a mile as soon as you mention the words "start-up".' As an antidote to Learmond's rather gung-ho approach to City financiers, in autumn 1991 Theakston decided on a campaign of his own, which did not initially include either Graham or Learmond. It involved 3i and Gordon Maclean. 'I singled him out as being the right man and spent a considerable time talking to him on a one-to-one basis,' Theakston explains. 'I had to convince him it was a sensible idea while acknowledging the risks. All I wanted him to do was to look at the scheme properly and to invest a certain amount of time in preliminary due diligence instead of rejecting it out of hand as other venture capitalists were doing.' The strategy worked, and by April 1992 Graham had his first commitment from 3i's credit committee, for £3 million. 'It had taken 3i some five months of due dili gence work before they came on board,' Read recalls. 3i's Ian Lambert says: 'Our philosophy is to look at every project on its merits. If it is worth doing, then it is worth doing. I fail to see what difference the terminology - whether start-up, buy-out or buy-in - should make to any transaction.' Graham himself particularly impressed the 3i team. 'He looked at the project from the point of view of the customers he was going to service,' Lambert says. 'He was not in love with the technology and his own start-up idea. That was refreshing.' Read explains: 'As part of our due diligence we had gone out to a small number of potential customers in every segment of the market and asked them if they would buy from us if we were in production and prices were at today's levels. Most were very keen.' With 3i won over, the scheme should in theory have been plain sailing from then on. But Theakston concedes that the timing was 'appalling'. The country was by then in the depths of recession and the syndication market 'in a very poor state'.
As lead investor, 3i took on the task of raising the rest of the equity and the senior debt. 'It proved a balls-aching process, notwithstanding the strength of 3i behind us,' Theakston says. 'We spoke to perhaps as many as 40 venture capitalists many of whom expressed sincere interest. But all we proved at the end of the day was that the market did not like start-ups and in many cases was simply not able to invest in them. That was the major stumbling block. At least a dozen people we talked to would have quite enjoyed being a relatively small investor in this project but were prevented by their charters or the structure of their funds.' In the end Learmond's 'old-boy network' - much maligned by the smooth professional money-raisers - broke the log-jam. 'After three months of trying to raise further equity from their important institutional contacts, 3i called the three of us to a meeting to announce that they couldn't raise the funds and couldn't spend any more money on the project,' Learmond says. 'I told them we would go and raise the money ourselves if they would stand by the project.' That summer Learmond and Graham flew to Toronto to meet Gerry Heffernan, the tycoon who, 20 years earlier, had backed Sheerness Steel. 'He put up £1.5 million on the strength of Graham's presentation,' Learmond remembers. 'We then went to other wealthy individuals I knew who became fascinated by the scheme. It was done simply through people I knew, who had faith in me and whom Malcolm impressed.' The unusual mixture of equity backers to come on board included another Learmond chum - Eric Ruttenberg of Tinicum in New York. Ruttenberg knew the Rothschilds and helped bring in Lord Jacob Rothschild's RIT Capital Partners. Meanwhile, 3i helped bring in Rothschild Ventures, the venture capital arm of N M Rothschild, the family merchant bank. 'It is unusual for Lord Rothschild and N M Rothschild to do things together,' Learmond claims. Even so, it took another year - until July 1993 - to get the full £15.5 million layer of equity funding in place. It included £2 million of pure equity and the balance in subordinated loans. Between them 3i (24%) and Persis (20%) put up the bulk of the money with the rest coming from Tinicum, Heffernan, RIT and Rothschild Ventures.
Despite all the effort, the project had nearly crumbled at the beginning of that year because National Westminster, whom 3i had lined up to provide a large line of debt funding, decided to pull out. There then followed a period of what Theakston calls 'brinkmanship negotiation', as a new campaign to raise the debt began, while efforts were made to keep the equity backers happy. Graham describes the experience as 'like keeping the plates spinning in a circus act'.
When NatWest pulled out, Theakston went back to the drawing-board and 'gave a lot of extra thought to how we could encourage the senior debt players in. We decided we could not leave any of the construction risk with them. They were not obliged formally to put any money into the project until the plant could be demonstrated to produce a certain capacity. The risk of the bankers focused on Tech-Board's ability to penetrate the market sufficiently to sell the volumes needed to produce a return to service the debt.' It was a concept which was finally to win through - though after some heart-stopping moments. The scheme sailed through the credit committee of a major merchant bank, only to be halted by the chief executive. 'Eventually we managed to get N M Rothschild on board,' Theakston says. 'They had supported us on the equity fundraising. It was a crucial turning point when they supported us for the debt as well.' It required a presentation by Graham et al to virtually the entire Rothschild main board to swing it.
Midland Bank's McMeekin then re-emerged on the scene. Midland itself had, in Theakston's words, 'blown in and out of the transaction throughout the three years', because like other clearers, the bank had found the risk profile difficult. McMeekin and the Midland team eventually worked out a way to satisfy the demands of their credit committee. Learmond's connections had already brought in another merchant bank - the South African-controlled Henry Ansbacher - to complete the debt funding.
'At that point we thought we were home and dry,' Theakston says. 'But it was only then that we started having to ensure that the purchase contracts for the supply of equipment for the plant actually married into the requirements of all the financial backers. When it came down to it the suppliers were as concerned as any bank about our creditworthiness.' With a total of 14 separate groups of 'backers' among suppliers, debt and equity providers, and the management team, that final problem took another four months to sort out. 'Four sets of players had a say in the way this project ought to go and can still influence it significantly,' Theakston points out.
Many involved in the Tech-Board saga have thought long and hard about the lessons of the experience. Clearly, if Britain is serious about rebuilding its industrial base then projects of the economic significance of Tech-Board should not take five years to put together.
'I am not sure whether there is any way of making institutions more willing and able to look at these start-up deals, or indeed, whether there should be,' says 3i's Lambert. 'The government might help with a BES-type scheme to encourage business "angels" to invest in new industrial projects. The Enterprise Initiative Scheme they have launched seems to miss the target.' Lambert is less convinced by Graham's idea that the government should provide some form of mezzanine finance between the equity and the debt players, to encourage the lenders. 'It might have been appropriate in Tech-Board's case,' Lambert argues, 'but with other start-ups it is hard to see if any debt at all is appropriate.' In any case, he is not at all sure if raising debt is the real sticking point. 'I was surprised,' he says candidly, 'by the way certain individuals in some of the banks looked at the project more positively than had some of the equity investors.' KPMG's Theakston sees the case for a new government BES-style scheme restricted to industrial products or job creation. And he thinks venture capitalists themselves should look again at their attitude to start-ups. 'The management buy-out market is now really stuffed full of money,' he says. 'The major players are finding it difficult to find good MBOs to support because trade buyers are back in the market. Why don't they avoid having to compete with a trade buyer? Why not establish a business where there is a credible market and assemble a management team which knows what it is talking about?' What is certain is that in the Tech-Board case only Graham's exceptional tenacity kept it alive. Having got his project off the ground, he thinks it churlish to criticise venture capitalists or the government which, through the Welsh Office, supported the scheme with a £3.4 million grant. 'It is rather like saying I have just won the pools but I don't think the pools are a good idea because it has taken me 20 years to win,' he argues. Now he faces another wait - to see if Tech-Board really is a winner.