The European Commission’s proposal to review the EuVECA regulation are a welcome step forward, but if changes are not implemented, European venture capital will likely stay local and stay small, writes Michael Collins.
Michael Collins is deputy chief executive and public affairs director at Invest Europe.
The European Venture Capital Funds Regulation (EuVECA) entered into force in 2013 and offers venture capitalists the ability to market their funds to investors across the EU through a voluntary EU-wide passport, giving the funds a ‘EuVECA’ label. This allows them to raise capital more easily from investors across the region, instead of being limited to domestic investors.
But only 25% of European venture capital fundraising in 2013-15 was raised from European investors outside the fund’s home country, according to Invest Europe’s data.
The reasons for this include limitations in the types of companies an EuVECA is allowed to invest in, as well as certain EU member states’ imposition of a requirement that fund managers pay additional fees to market in their jurisdictions, even with the EuVECA passport. This practice acts as a barrier to the Capital Markets Union and must be outlawed.
Venture capital funds located in larger European countries, where there are pools of capital from a local investor base, can often raise funds without the EU-wide passport. But in smaller member states, with fewer domestic investors, barriers to cross-border fundraising will tend to keep them small and reliant on public money.
This in turn means that entrepreneurs and innovators running start-up and scale-up businesses in that vicinity may struggle to get the funding they need for their business to survive. Or they will simply look outside Europe to secure funding from investors in other locations like the US.
This opens up the risk that the whole business relocates to follow the capital, leaving Europe without the intellectual property, the talent or the limitless potential that these entrepreneurs and businesses represent.
While the EuVECA Regulation was not due for general review until next year, the Commission decided to bring it forward in line with the objectives of the Capital Markets Union Action Plan to develop alternative sources of finance for SMEs, including venture capital.
Against this background, on 14 July 2016, the executive published a proposal to review the EUVECA regime, ensuring that member states’ additional fees and charges are prohibited and broadening the types of companies an EuVECA is allowed to invest in.
And it’s not just those funds investing in start-ups that need help. While European mid-market private equity funds support hundreds of high-potential small and medium-sized enterprises (SMEs) every year, they are at a disadvantage when it comes to raising cross-border capital for their investments.
These funds – many of which are known as ‘growth capital’ funds – are often too small to be caught by the Alternative Investment Fund Managers Directive (AIFMD), which was always designed for larger funds. EuVECA currently requires that 70% of a fund’s investment goes into SMEs, defined by the Commission as companies with fewer than 250 employees and an annual turnover of less €50 million.
So, if a fund makes one or two investments into companies with 251 employees, or with a turnover just above €50 million, it is then unable to use the EuVECA passport, limiting its freedom to approach investors in other European countries and to contribute to a Capital Markets Union.
Following the consultation, the Commission is proposing to double the size of a qualifying SME to 499 employees. If implemented, these proposals will represent a significant step forward, allowing more funds to access the EuVECA passport and invest in the growth of hundreds more SMEs every year.
Finnish pet food and accessories chain Musti ja Mirri is just one of the four thousand SMEs a year that receive private equity backing. Vaaka Partners invested in the company in 2010 and, with their support, the chain became the largest pet goods retailer in Scandinavia and the fourth largest in Europe.
Without this investment, it may have been unable to develop beyond its domestic market and over a hundred new jobs are unlikely to have been created.
Analysis by the European Central Bank shows that firms of this size can find it harder than larger companies to secure finance during more turbulent economic times. Alternative sources of funding are crucial for them to survive and flourish.
The Council Working Group is meeting this week to discuss the EuVECA proposals for the first time. If approvals are achieved, it will improve the flow of investment capital across borders, enabling more of Europe’s long term investors to back our high potential companies. If not, we may see more start-ups and scale-ups failing to reach their potential or moving to the US, along with the innovation, growth and jobs they can create.
Invest Europe will continue to act as a constructive interlocutor throughout the negotiations on EuVECA II and we look forward to a positive reform. Longer term, we would like to see the EuVECA regime extended so fund managers based in non-EU countries can market to investors across the EU.
In the meantime, Invest Europe will also continue to monitor the implementation of the Regulation across member states, to ensure that no additional undue burdens and obligations are imposed on managers using the EuVECA label. This way, more investment capital can flow across – and eventually beyond – EU borders to boost the companies that need it and keep them flourishing in Europe.