Rallying around the SMEs
The EIF, which was founded in 1994 as a joint venture between the European Investment Bank, the European Commission and European financial institutions, is a leading supporter of SMEs in Europe. It has proven itself to be a major player in the European venture capital market, with a cumulative portfolio of E2bn comprising some 153 funds across the EU and central and Eastern Europe. Last year the EIF made 57 investments in venture capital funds, valued at E800m, reflecting its growing capacity as the European financial institution dedicated to the support of SMEs. E49m out of the E800m invested in 2001 were EU ‘budgetary funds’ managed by the EIF under its ‘ETF Start-up’ scheme. This is a scheme dedicated to regional funds, which has, to date, invested in funds in Belgium, Denmark, Finland, France, Germany, Luxembourg, Sweden and the UK.
Europe is waking up to the attractions of private equity in a big way. Governments across Europe have, in the last few years, been taking big steps to ease tax laws or proactively help businesses as part of a broader drive to support SMEs. There has been a trend for national governments within Europe to institute changes in capital gains taxation (CGT) regimes to promote entrepreneurialism and company formation.
Take Germany, where the Schröder government has just introduced a radical tax reform package. Changes to capital gains tax, effective from 1 January, will have the biggest effect on conglomerates who will be able to dispose of the cross shareholdings free of tax.
Martin Block of private equity firm, HG Capital in Germany, says he believes an upturn in corporate disposals and desire to extract (shareholder) value from, for example, unbundling industrial cross-shareholdings, will act as a significant catalyst to deal flow. The initial indications are good, says Block: “2002 has started well. The market has picked up demonstrably across the board and there is a stronger pipeline of higher quality deals. These tend to be led by larger corporate disposals and corporate restructuring. In terms of private equity activity, there should be a noticeable knock-on effect as this type of restructuring shakes loose SME targets.”
In France, a special tax rate for SMEs was implemented at the beginning of 2002. It is a 15% tax rate on the first Ffr250,000 (E38,000m) of profit, where total revenue is less than Ffr50m per annum. Also, a variety of measures have been taken to encourage the formation of innovative businesses. For instance research tax credits have been redirected to innovative SMEs, and individuals who take out life insurance contracts invested in venture capital endeavours and shares, are now eligible for favourable tax treatment.
The country is also encouraging the growth of venture capital more directly. Following the first Public Fund for Venture Capital funded by the state and the European Investment Bank in 1998 for Ffr900m, a project for the development of a second Public Fund for Venture Capital has now been started.
In the UK, for example, in 2000, a new
corporate venturing scheme was introduced which is intended to facilitate a minority equity investment by larger corporates in smaller, high growth companies.
Similarly, since 1997, the Italian Government has been undertaking substantial reforms to corporate income tax and investment vehicle rules. Italian authorities have recently introduced several tax benefits that make Italy much more attractive for investments. For instance, the ordinary corporate income tax rate will decrease from 37% to 36% for fiscal years 2001 and 2002, and to 35% for 2003 and beyond.
According to Keith Arundale of PricewaterhouseCoopers, only around 2% of the European private equity has gone into seed capital in the last few years, which is not enough support for early stage deals. “There is a growth in governments working alongside funds and their funds will help address that shortfall to a certain extent,” he observes. Indeed, according to the European Private Equity and Venture Capital Association (EVCA), 2000 saw European government agencies double their investment in private equity funds from E1.2bn to E2.4bn.
But the government agencies’ investments pales into comparison to that of pension funds, which overtook banks in 2000 in terms of being the largest contributor to private equity funds. They doubled their contribution from E4.7bn in 1999 to E10.7bn in 2000, representing a lion’s share of 24% of all fund investment.
The EVCA believes that the development of fiscal, legal and regulatory frameworks that are more conducive to entrepreneurship and investment are “central to Europe’s future economic health and its competitiveness at the global level”.