The UK’s venture capital model has hampered efforts to create a thriving stem cell sector, says Jonathan Guthrie.

Stem cells are the fabric of life. Capable of transforming into the new tissue needed to repair damaged bodies, they promise to revolutionise medicine. The UK has talented stem cell scientists, such as Nobel laureate Sir Martin Evans. It has a relatively permissive approach to controversial research using stem cells from human embryos. So British universities should be expected to spawn a cohort of profitable stem cell spin-offs. Not so, according to Michael Hunt, chief executive of ReNeuron, a spin-out from King’s College London. “There are too few businesses coming through to create a critical mass. I can’t see that we will have a thriving stem cell sector here,” he says.

In the US, federal disapproval has, until recently, hampered embryonic stem cell research. But in the UK, a lack of venture capital has prevented start-ups from exploiting this advantage. UK technology businesses in other fields, such as electronics and the internet, have the same problems raising funds. There is a particular shortage of sums of £1m-£5m ($1.7m-$8.4m, €1.1m-€5.6m) to develop technology that has passed feasibility studies but is still some way from the market. UK entrepreneurs that have operated in the US say that venture capitalists based there are far more likely to support second, third and even fourth rounds of funding. ReNeuron, which has raised about £30m to fund its research, is the first British company to win regulatory approval for clinical trials of a stem cell treatment.

It will inject cultured stem cells derived originally from human foetuses into the brains of stroke victims. The hope is that patients will regain lost faculties. If successful, the treatment would have great commercial potential: strokes are the single largest cause of adult disability.

ReNeuron’s plans are mirrored on a grander scale in the US by Geron, the stem cell research company, which has approval for clinical trials of its own. The business, based in Menlo Park, California, plans to test whether people with damaged spinal cords will benefit from injections of its own line of stem cells when it has cleared final safety checks. Geron got a conditional go-ahead from the US Food and Drug Administration just days after Barack Obama took office in January. In March, the president lifted an eight-year ban on federally funded research into embryonic stem cells imposed by George W Bush, his predecessor. “The beast is beginning to stir on the other side of the Atlantic and will throw billions at it,” says Richard Archer of the Bio Industry Association, a UK trade body.

It would be hyperbolic to suggest the Bush ban gave the UK and other EU nations an easy advantage in stem cell research and business formation. The US science base is the biggest and best funded in the world. US states and private foundations went on paying for embryonic stem cell research during the ban. However, the sense among British biotech entrepreneurs is that the UK should have made far more progress than it has. Greg McGarrell gives an authentic taste of the sector’s frustration.

The keen equestrian co-founded Medcell Bioscience, a spin-out from University College London, in 2000. It treats tendon injuries in race horses using stem cells. Medcell wants to test whether the same medicine would work in humans too. But after a year and a half of pitching for £5m in medical trial funding from the UK’s relatively small and poorly resourced group of venture capitalists, Mr McGarrell is close to conceding defeat.

He says: “There is no oil greasing the wheel, so I am in talks about breaking the business up. It is very frustrating. We have a huge amount of supporting data from the veterinary business showing that the treatment works.” It is possible that a large continental pharmaceutical business will buy Medcell’s intellectual property and attempt to take it to market. This is a common pattern in the UK.

Biotech spin-outs can usually raise a few hundred thousand pounds to get started. When they have proved that their treatment works on humans, institutional capital readily follows. The muddle is in the middle. Funding for clinical trials is in very short supply. “A lot of companies have sold assets in fire sales or sold out altogether,” says Vadim Alexandre, an analyst at Daniel Stewart, the stockbroker. Stem cell research has scientific glamour but is a turn-off for many venture capitalists, whose own funding has been curtailed by the credit crunch. One reason is that the technology is largely unproven in humans, which means it is a long way from turning a profit. “What we have seen is a migration of funds to quicker wins, such as clean technology,” says Mr McGarrell.

Engineers do not have to manage complex clinical trials involving hundreds of patients. Moreover, their test apparatus is unlikely to kill anyone, unless it is particularly badly wired. By contrast, medical regulators on both sides of the Atlantic drag their feet granting trials for stem cell treatments because so much can go wrong. Dangerous inflammations are possible. If cells proliferate in the wrong place, cancer may result.

ReNeuron circumvented pessimistic venture capitalists by raising money on the Alternative Investment Market. The Guildford-based company listed during a phase when the exuberance of small investors supported flotations by untested technology companies. The party mood may return if ReNeuron’s stroke treatment succeeds in clinical trials, boosting other quoted stem cell fledglings such as Epistem.

However, the weakness of support for biotech companies from the City will always remain a hazard in the commercialisation of stem cell research. The Technology Strategy Board, an arm of government, has promised to put £18m into feasibility studies and clinical trials in 2010. Whether it can keep that pledge may depend on the views of the Conservative government that pollsters expect to win power in a spring election. Mr Archer quips that “a prudent man would get the money before next May”. Subsidies may be odious to fans of free markets but without them, the UK is unlikely to produce a healthy stock of stem cell businesses. Curiously, Celltech, the UK’s most financially successful biotech business, was set up in 1979 by the National Enterprise Board, a government agency. And that transaction was signed off by an incoming Tory prime minister not usually associated with interventionism: Margaret Thatcher.

Other funding options

A shortage of venture capital has hurt the UK’s stem cell industry. One entrepreneur estimates that no more than £5m has been invested in the sector since last year. Here are some other options:

*Public markets: Earlier this decade, soaring equity values allowed several businesses with stem cell programmes to raise money on the Alternative Investment Market including ReNeuron, Epistem and Intercytex. This enabled them to bypass a UK venture capital industry weakened by the impact of the dotcom collapse. They may do so again if the current rally continues.

*Business angels: Wealthy private investors sometimes back technology companies, even when payback is uncertain, because they have a personal or philanthropic interest in the science. The amounts they offer - typically of about £100,000 per investor - tend to suit early stage businesses rather than those seeking follow-on funding.

*Public sector funds: The government has committed more than £500m to its own range of venture capital funds, which typically co-invest with partners from the private sector or with European Union public bodies. These have become an important source of financing for fledgling biotech companies.