OECD Workshop on Entrepreneurial Ecosystems and High Growth Entrepreneurship

The challenge of public/private (‘hybrid’) Venture Capital programs

within the Entrepreneurial Ecosystem

Professor Gordon Murray OBEUniversity of Exeter, UK

The Hague 7th Nov. 2013

University of Exeter Business School

An ‘Entrepreneurial Ecosystem’ perspective

On the upside:

Takes policy seriouslyRemoves the ‘magic

bullet’ approachGives clear guidance

on weaknesses… and thus priorities

But …:

? Increases complexity? Requires

integrated/collaborative policy approaches

? Raises the bar for success

The Government’s Policy Armoury (in creating entrepreneurial eco-systems) includes:

• Grants

• Debt

• Loan guarantees

• Equity

• Tax incentives

• Legal incentives

• Information/advice/support

• Regulation (red tape removal)

• Education

• Culture

Early-stage Venture Capital investment as a percentage of total Venture Capital and Private Equity investment

  

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

0%

10%

20%

30%

40%

50%

60%

UK

EU

EUR (2012) – 5.3%UK (2012) – 1.1%

Ergo, let us assume:

There is a shortage of skilled and successful early-stage VC funds

The median/average returns to early stage VC remain persistently poor

Institutional investors have largely abandoned VC

Government feels obliged to act on supply-side issues

Most governments remain inexperienced VC supporters and funders

  

Government is often on the

Horns of a Dilemma?

The state has been riding to the rescue and supporting venture capital for over half a century

Academics have (increasing) been studying venture capital since the mid 1980s

… so what have we learned?

Did you bring any money?

Oh. @:#*#**!

10 Observations from the VC Research/Policy front-line

1. Is ‘the learning government’ an oxymoron … or merely moronic?

Government needs to build up its own knowledge resources in order to design effective VC policy programmes and to be able to negotiate with authority with the VC industry in setting realistic performance and incentive structures

2. Yes. Good early-stage investment managers do NOT grow on trees

Human Capital, i.e. sourcing experienced and successful investment management to the new programme is likely to be at least as large a constraint as securing initial funding for the new fund/programme

3. Schumacher go hang – small is, and remains, UGLY

The economics of VC fund activity are such that material scale and scope efficiencies need to be recognised in the initial size of the funds raised and managed. Several public supported VC funds are too small to be economically viable.

4. Learning by doing

There is a substantial ‘experience curve’ effect in VC investing. It is unreasonable to expect that a new VC fund - managed by new GPs - will beat the ‘industry odds’ of a very modest IRR performance.

5. Private investors (LPs) will need (public) encouragement to participate

Given ‘4’, it is likely that, at least initially, incentives will need to be asymmetric to encourage private investors to participate in hybrid VC schemes.

Jaaskelainen, Maula & Murray VC & Public Leverage Research Policy 2007

6. Spillovers are just that … ‘spilt’, i.e. the interests of public and

private investors are not aligned.

Given a government’s public objectives, a modestly performing hybrid VC fund can still provide sufficient Gross Value Added and other ‘externalities’ to justify its continuance in cost-benefit terms. The critical issue is maintaining the support of private investors (Limited Partners).

7. Difficult to ‘crowd out’ when no-one turns up to the party.

There is little evidence that public early-stage VC programmes ‘crowd out’ private investors given the continuingly poor performance of ‘classic’ VC investments across the developed world and the industry ‘shift’ form early-stage investments.

8. No, Minister this will NOT help your re-election

i.e. successful VC is a ‘long game’

Public VC programmes need to consider investments over several rounds of finance (i.e. successive funds) in order not to be vulnerable to the serendipity of economic cycles or insufficient learning. Accordingly, support for venture capital needs to be a cross party policy decision that is measured in decades rather than the life of a single government (3-5 years).

9. You can have a VC policy OR a regional policy but …

DO NOT CONFUSE THEM

Public VC programmes cannot be used to address social or regional inequities as a non-commercial investment activity and expect to remain credible to commercial and private co-investors.

10.‘Field of Dreams’ versus ‘In your Dreams’

i.e. did anyone mention DEAL-FLOW?

Quality deal flow is a non-negotiable requirement of venture capital activity given that it is premised on the realisation of rare event of exceptional returns from a minority of portfolio businesses.

The Fairchild Eight

in summary:

Please read the instructions on the label first

• The policy case for VC is not proven

• It is a minority instrument, i.e. irrelevant for the majority of firms

• However, VC can – sometimes - have positive and significant returns to both the state and investors as well as to entrepreneurs

• Its use presumes the availability of high levels of human and intellectual capital + a working entrepreneurial ecosystem

• In the absence of such strict preconditions, formal VC is in danger of being wasted

• Investors will always prefer the government to waste its own money – preferably on them