Brussels, 18 October 2000
The Commission reviews strategy and calls for actions to stimulate development of risk capital in Europe
Although 1999 was a good year for the EU risk capital market, the gap with the US, particularly in the early stages, remains as large as ever. In a Communication to the Council the Commission argues that more needs to be done to create an environment favourable to creating and sustaining new and innovative businesses in Europe. According to Pedro Solbes, EU Commissioner for Economic and Monetary Affairs, "there is a need for further progress in implementing relevant structural reforms, in financial-market integration and in promoting a culture of entrepreneurship." Frits Bolkestein, EU Commissioner for Internal Market, stresses that "timely implementation of the Financial Services Action Plan by 2005 will do much to foster a more integrated EU risk capital market." Member States are asked to act in three priority areas: (i) the easing of quantitative constraints on institutional investment in equity capital; (ii) the softening of bankruptcy laws to allow failed entrepreneurs a second chance (while affording adequate protection of creditors' rights); and (iii) the development of a fiscal framework more conducive to investment and entrepreneurship.
Update on EU risk capital strategy
Although small in relation to other financial markets, the risk capital market is of unique importance in providing a source of equity financing for young and innovative businesses. Several studies suggest a high employment content in the activities of innovative SMEs, while highlighting the role that venture capital funding and IPOs can play in their development. In this way, a developed and efficient risk capital market has a significant role to play in stimulating sustainable economic growth and employment creation. It is for this reason that development of the EU risk capital market figured so prominently in the conclusions of the special Lisbon European Council (March 2000). Accordingly, the Council called for implementation of the Risk Capital Action Plan (RCAP)(1) by 2003.
The RCAP proposes initiatives to be taken at Community and/or at Member State level in the areas of market fragmentation, institutional and regulatory barriers, taxation, paucity of high-tech SMEs, human resources and cultural barriers.
After a first implementation report (October 1999), the Commission adopted today a Communication reviewing the strategy for developing the EU risk capital market so as to take account of the Lisbon conclusions and proposing priority areas for action to ensure implementation of the RCAP by the 2003 deadline.
Market developments in 1999
The EU risk capital market performed strongly in 1999. An increased number of business angels invested in young small and medium-sized businesses; venture capital investments reached the highest level ever in Europe, increasing by 70% relative to 1998, to about €12 billion; and so called new stock markets experienced significant growth, listing an ever-widening number of high-growth companies. The progress achieved must be viewed in the context of profound changes in the functioning of the EU financial system as a whole, globalisation and the introduction of the euro in particular. But, despite the progress made, the EU risk capital market remains small and fragmented, particularly in respect of early-stage investment and investment in technology sectors. It compares unfavourably with the US market where venture capital investments rose by 150%. The gap relative to the US risk capital market remains as large as ever. While there is no evidence of a generalised market failure in the EU, the divergence in performance between Member States points to market fragmentation and to the existence of country-specific constraints on more efficient market functioning. To close this gap, the Commission proposes action in several areas.
Actions to accelerate market integration at EU level.
As stressed by the Commission's communication, timely implementation of the Financial Services Action Plan (FSAP) is the key. The FSAP includes many measures of particular relevance to risk capital. In this context, the Commission adopted last week a proposal for a Directive on the prudential supervision of supplementary pension funds. By setting as a principle that investment rules will be based on the "prudent-man" principle, this Directive will ensure that pension funds can invest in risk capital markets. The Commission also intends to table important proposals before end-2000 to facilitate cross-border financial activity, such as improved procedures for issuing prospectuses to raise capital, the agreement at EU-level on which investors should qualify as professional, and the introduction of common accounting standards.
Similarly, the Commission's adoption in July of a Regulation on a Community patent will do much to lower the costs and increase legal certainty for innovative enterprises wishing to operate outside their own Member States. The Commission stresses how important it is that this momentum toward creating an integrated risk capital market is maintained.
Actions to speed up the necessary structural reforms to address country-specific constraints.
The second line of action highlighted by the Commission is to ease the regulatory and fiscal constraints hindering the development of efficient risk capital markets and slowing down business creation. Progress has been made in several Member States to relax regulatory constraints on institutional investment in equity markets. The administrative procedures for establishing a business have also been eased. But little has been done to address the disincentive effects of bankruptcy and insolvency procedures in most Member States.
The Commission calls upon Member States to act swiftly in this area. It also highlights that, despite progress already being done, tax reforms will need to be accelerated and extended to reduce disincentive effects on risk capital investment and entrepreneurship.
Actions to promote a culture of entrepreneurship
The third necessary line of action highlighted by the Commission is to promote innovation and entrepreneurial culture in the EU. Several Community, as well as national, but also regional actions have been taken in these regards. The communication gives some examples, such as the exchange of experience and good practice between the use of the European Social Fund to finance a series of educational and training programs to promote entrepreneurship, the introduction of entrepreneurship in the school curriculum, or the creation of award schemes for entrepreneurs.
Priorities for action
With this Communication, the Commission highlights the importance to create an environment favourable to creating and sustaining new and innovative businesses. Consistent with this approach, it recognises a limited role for public funding as a means to address identifiable market failures, provided it respects competition rules. Among the various actions to be swiftly undertaken, it identifies three priorities, all of these falling under Member States responsibility:
(i) the easing of quantitative constraints on institutional investment in equity capital;
(ii) the softening of bankruptcy laws to allow failed entrepreneurs a second chance, while affording adequate protection of creditors' rights; and
(iii) the development of a fiscal framework more conducive to investment and entrepreneurship.
Substantial progress in these priority areas, combined with accelerated progress of financial integration will do much to ensure the environment necessary for a thriving EU risk capital market.
(1) annexed to the April 1998 Risk Capital Communication SEC(1998)552