P bli Public venture financing fi i Esperanza Lasagabaster Service - - PowerPoint PPT Presentation

P bli fi i Public venture financing

Esperanza Lasagabaster

Service Line Manager of Innovation and Entrepreneurship Service Line Manager of Innovation and Entrepreneurship Innovation, Technology & Entrepreneurship Practice

The World Bank Group

Seoul, April 2013

Agenda g

• Why focus on start ups?
• Financing innovative start ups
• Lessons from past public interventions
• What is the potential of crowdfunding?
• Conclusions

2

Which firms create jobs?

• Traditionally, public policy focused on all SMEs but ….
• Increasing number of studies on developed and developing

countries suggest that young firms create a disproportionate high number of net jobs number of net jobs

‐ Haltiwanger et al. (2010) in the United States ‐ Deschryvere on Finland Deschryvere on Finland ‐ Iavocone (2010) on Indonesia ‐ Freund (2012) on Morocco

• Young firms are more volatile with higher rates of job creation

and destruction.

• Importance of focusing on both the entry process and the

subsequent post‐entry dynamics (first 10 years)

3

• Entrepreneurial growth comes from a complex venture

ecosystem ….

Regulations Finance Entrepreneur Ideas and inventions Access to world markets markets Risk taking Skills, t l t g culture talent, expertise

4

Agenda g

• Why focus on start ups?
• Financing innovative start ups
• Lessons from public interventions
• What is the potential of crowdfunding?
• Conclusions

5

Financing innovative start ups Financing innovative start ups

• Financing of start ups and its subsequent growth needs to

be considered as a continuum.

• Investors are needed in all stages. Gaps along they way can

ifl h l d l ll f d h Th stifle growth or lead to closure—valley of death. There can be more than one “valley of death”.

• Start ups cannot take off on flimsy business plans or too

weak financial foundation, as there will be limited capital in l t d later rounds.

A typical market for innovative start ups A typical market for innovative start ups

Exit through IPO

• r trade sale
• ptions

Global funds

Finance o

Incubators, Accelerators, Business angels, venture funds

PRE‐SEED SEED EXPANSION START‐UP

, , proof of concept, etc.

Higher Risk Declining Risk Public finance Private Finance Public finance Private Finance

Financing innovative entrepreneurs: is there a rationale f i i ?

• Information asymmetries are more “acute” for innovative start ups

for government intervention?

y p

• Innovation projects are riskier than physical investment projects—both

commercial and technological risk. P i t t d t h “ f t i f ti ” b t t h l i l

• Private actors do not have “perfect information” about technological or

production frontier.

• Technological development can take a long time and resources (e.g.,

g p g ( g biotechnology) before product is market ready

• Reluctance of innovative entrepreneur to share the idea with potential

investor due to appropriability problem investor due to appropriability problem

• Difficulty of using intangible assets (Intellectual Property) as

collateral collateral

• Experience building

“Fi t ” di d t

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• “First mover” disadvantage
• Counter cyclical role

Agenda g

• Why focus on start ups?
• Financing innovative start ups
• Lessons from public interventions
• What is the potential of crowdfunding?
• Conclusions

9

Lessons from public interventions to spur Venture Capital

• Entrepreneurship does not occur in a vacuum

p p

• Need to foster the entire ecosystem (e.g., Singapore)
• Often too much emphasis on finance but the “deal flow” is equally or more

important

• Enabling regulatory framework needs to be in place
• Entrepreneurial programs for university students and at earlier stages can be

developed

• Mechanisms to facilitate commercialization of research
• Intellectual property

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• Technology transfer offices
• Incubation

Lessons from public interventions to spur Venture Capital

• What is the evidence on the performance of VC funds?
• Financial returns have been typically lower for public funds

yp y p

• Various studies on Canada
• Lerner et al. (2011) showed a private‐public gap in return for US and UK funds,

but the gap has narrowed over time

• Publicly‐backed funds in the pre‐bottom bubble period heavily

underperformed private funds (returns were 20 percentage points lower in th UK) ti th t i l t d i i d ( d ti i the UK) suggesting that in later years design improved (e.g., reduction in restrictions)

• Differences in public‐private performance remain after controlling for stage of

financing, industry and investor hubs. Such differences could be due to constraints imposed on managers or inability to retain the most talented ones

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constraints imposed on managers or inability to retain the most talented ones

Lessons from public interventions to spur Venture Capital

• What is the evidence on the performance of VC funds (part II)?
• Financial returns are not the only or most relevant performance

indicator.

• Other public policy objectives (e.g., value creation) are more
• important. Evidence on these indicators is more scarce and mixed.
• Evidence on UK publicly‐backed VC funds suggest that recipients would not

have undertaken their investments without public support

• A World Economic Forum study (2010) found that companies with moderate

public VC support outperformed in terms of value and patent creation those h h bl with just private support or heavy public support.

• An analysis by Brander et al (2009) on Canada’s VC industry suggests that

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• An analysis by Brander et al. (2009) on Canada s VC industry suggests that

privately‐backed funds outdid publicly‐sponsored ones in terms of value creation and patents.

Lessons from public interventions to spur Venture Capital

• Balancing the supply push with the demand pull

g pp y p p

• Let the market provide direction
• Yozma program (Israel): used matching private funds to determine where

bli t h ld d l li d i t f d public support should go and also relied on private fund managers

Ali i ti

• Align incentives
• Transactions on commercial terms
• Share risks and losses with private investors
• Share risks and losses with private investors
• Might subsidize the upside but not the downside

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Lessons from public interventions to spur Venture Capital

• Long lead times

g

• Programs should have the time horizon necessary to prove merits and not

focus on short‐term returns V t f d h lif f b t 10 d ib t VC i d t ill

• Venture fund has a life of about 10 years and a vibrant VC industry will

typically take longer

• Problems with too large or small initiatives
• Problems with too large or small initiatives
• Too large could crowd out rather than leverage private financing or too many

funds chasing few “deals”

• Too small undercapitalized funds tend to underperform
• Relative high overhead and insufficient funds to back companies through

development (e g evidence from UK public funds) development (e.g., evidence from UK public funds)

• Changed strategy of Danish Growth Fund

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Lessons from public interventions to spur Venture Capital

• Do not micromanage
• Excessive restrictions on VC funds or entrepreneurs could affect the firms’ and

VC’s performance (e g on geographical locations) VC’s performance (e.g., on geographical locations)

• Evidence from Lerner et al. (2011)
• Exit strategies are critical to successful VCs
• Exit strategies are critical to successful VCs
• Big returns are typically done through IPOs not trade sales
• Development of capital markets

Development of capital markets

• Evaluation of initiatives
• Monitoring and evaluation can reduce “principal‐agent” problems
• Monitoring and evaluation can reduce principal agent problems
• Compare publicly supported firms and venture funds to peers (financial

performance, revenues, job creation)

• Consider randomization or regression discontinuity to understand impact

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What is the potential of crowdfunding? p g

• Why focus on start ups?
• Financing innovative start ups
• Lessons from public interventions
• What is the potential of crowdfunding?
• Conclusions

16

What is the potential of crowdfunding?

• Crowdfunding: raising funds for a project through small to

medium investments from several other people

p g

medium investments from several other people

• Types of crowfunding:

yp g

• For profit: equity or lending
• Not for profit: reward or donation
• Crowfunding portals or platforms act as intermediaries

b i d between investors and entrepreneurs

• 452 crowfunding platforms (April 2012) mainly in the US and
• 452 crowfunding platforms (April 2012), mainly in the US and

Western Europe

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• Estimated US$2.8 billion raised in 2012

More than 450 platforms are active worldwide

250

Crowdfunding Platforms by Country

191 200 250 150 ber of CFPs 100 Numb 44 29 28 21 20 18 17 12 6 6 6 6 6 50 April 2012 Crowdfunding Industry Report

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April 2012 ‐ Crowdfunding Industry Report

Growth in worldwide funding

US$2 806

3000

Total Funding through CFPs US$2,806 (estimate)

2500 3000

US$1 470

2000

• f US$

US$854 US$1,470 …

1000 1500 Millions o

US$530 61% 72%

500 2009 2010 2011 2012

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Source: Crowdfunding industry report (2012)

Enabling Regulatory Landscape (US case)

• While US is leading in crowdfunding, growth for equity and

lending stifled by lack of regulatory framework until ….

g g y p ( )

lending stifled by lack of regulatory framework until ….

• JOBS Act (2012): Legislation that that seeks to facilitate

( ) g funding for start ups and small businesses and protect

• rdinary investors from fraud
• Securities and Exchange Commission (SEC) is still in the

l ki rulemaking process

• Legislators recognize the need for some degree of
• Legislators recognize the need for some degree of

experimentation and careful monitoring

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• JOBS Act—key provisions for crowdfunding

Enabling Regulatory Landscape (US case)

JOBS Act key provisions for crowdfunding

• Limits on funds raised (US$1 million per year)

( $ $

• Limits on investors (US$2,000 or 5% of income < US$100,000 in

income; 10% of income for those above)

• Transactions made through brokers or “funding portal” registered

with SEC P t l l i t b t i t t d i

• Portals‐‐less requirements but no investment advice
• Responsible for providing relevant factual information from

issuers and other third parties p

• Can only release funds once “target amount” is raised
• Disclosure: Annual reports and different levels of audits
• Disclosure: Annual reports and different levels of audits
• Accountability: Issuers (and control persons) are subject to liability for

statements made and use of funds

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• Relationship to other capital raising initiatives (SEC to define rules)

Conclusion

• Start ups are important for job creation and

renewal of economies

• Public interventions to foster Venture Capital have

been mixed: bee ed:

• Balance the demand pull and push
• Need to align incentives
• Need to align incentives
• The potential of crowdfunding is still untested
• The potential of crowdfunding is still untested
• Financing is not enough need to promote entire

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• Financing is not enough, need to promote entire

entrepreneurial ecosystem

Thank you