Technology and Health Care, 2 (1994) 75-82 Elsevier Science B.V.
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Venture-capital companies and the Eurotech Capital Programme of the Commission of the European Communities Deborah Lambrechts Commission of the European Communities, Bfitiment Wagner, L-2920 Luxembourg, Luxembourg
Accepted 7 April 1994
1. Venture-capital companies 1.2. This document is a guide to venture capital for entrepreneurs
This document aims both to provide information on venture capitalists, one of whose major functions is to seek out the projects of new companies and to increase the chances of success of entrepreneurs applying for venture-capital funding. It thus describes: • The relationship between entrepreneurs and venture capitalists, which is very different from that between a company and other financial partners. The entrepreneur must decide on the type of partner he requires. • The criteria governing venture-capital investment. Project evaluation needs to be explained. What criteria are used? How are those criteria assessed? The entrepreneur will then have a better chance of providing answers to the basic questions asked by investors. • Presentation. Entrepreneurs sometimes still underestimate how important it is to present their projects properly. This document underlines that importance and describes the basic presentation requirements. SSDI0928-'7329(94)00012-V
2. The company must select its potential partners carefully 2.1. A company seeking finance is not necessarily looking for venture capital
Firstly, it is not necessarily seeking equity capital. It may prefer a loan, which ensures that growth funding is available while the control of the company is safeguarded (no dispersal of share capital). If the company is seeking equity finance, it has the choice between several types of partner: commercial banks, regional development companies and venture-capital companies. The first two tend to deal with established companies, accept less risk but offer a wider range of services, whereas venture-capital companies are interested only in becoming shareholders. The venture-capital sector itself consists of different financial bodies, each with their own characteristics. 2.2. Venture-capital companies often specialize in particular sectors
The members of venture-capital companies develop more expertise in assessing technology
D. Lambrechts / Technology and Health Care 2 (1994) 75-82
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and market potential in some sectors than in others. They are therefore better able to assess the risk of investing in one of those sectors, where they already have networks of potential investors whose requirements, interests and demands they know. This is a key element in evaluating the chances of a profitable disposal. It may even be in the company's interest to involve specialist venture-capital investors. For example, with a medical imaging project, it may be useful for a company to have around the table one partner specializing in the health sector and one from the electronics sector so as to benefit from the experience of both.
2.3. The partner(s) chosen must match the size of the target market If the company is aiming at a national market, a local investor is sufficient and probably desirable. If, on the other hand, it is the international market that is to be targeted, it is highly advisable to obtain access to an international network through a multinational syndicate. This is because a venture-capital company is a real partner and not just a provider of equity capital.
3. A venture-capital company is a true partner
3.1. From seed capital to the expansion stage Venture capitalists do not confine their activities to established companies. They can become involved at different stages in a company's development. • Seed-corn finance. Financing provided for research, development and the preparation of an initial concept before a business has reached the start-up stage. • Start-up finance. Financing provided to companies for product development and initial marketing. Companies may be in the process of being set up or may have been in business for a
short time, but have not started marketing their product. • Early-stage finance. Financing provided to companies that have completed the product development stage and require further funds to initiate commercial manufacturing and sales. They will not yet be generating a profit. • Expansion finance. Financing provided for growth and expansion of a company which is breaking even or trading profitably. Capital may be used to finance increased production capacity, market or product development and/or to provide additional working capital.
3.2. A full shareholder A venture capitalist is not a lender: he is a demanding associate who has experience of company development and bears scars to prove it. He is a shareholder who works for the rapid development of the business, because of the high growth targets needed for eventual disposal. He often has a minority interest at the outset, but these growth targets may lead him to take an increasingly large stake if the founder shareholders are not in a position to subscribe to the increases in venture capital. Financing can generally be via any security that provides an entitlement, immediately or in the future, to part of the share capital (shares, convertible bonds, etc.).
3.2. Involvement in management Venture-capital companies actively monitor the running of the businesses in which they have invested their own or other funds. They do not interfere with management but take a close interest in implementation of the company's strategy. Involvement is often in the form of membership of the board of directors.
3.4. High capital gains Venture capitalists do not generally seek returns in the form of loan interest or dividends. Their profit comes from the capital gains made on disposal. The long investment period and the risk taken result in high capital-gain targets.
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3.5. High accepted risk The venture capitalist accepts a higher level of risk than bankers or traditional investors, in expectation of a high eventual return. However, it is obvious that the prior examination of projects aims to arrive at a proper assessment of the chances of success and to limit risk. We will now look at how this is done. 4. Venture-capital companies assess projects using 3 main criteria These three criteria will be discussed in greater detail below: • management capacity • development potential • prospects for disposal One can say to begin with that the first criterion is the most important, since it largely determines the other two. Management capacity is what permits the development potential of a product to be fully exploited and what leads to the success of a company. It is not an idea or a product that will be sold one day but a company. It is often said in the business that an idea is worth ECU 1, a product ECU 10 and the company ECU 100. Yet the head of a company often has the impression that it is his idea which has value. The idea is only the starting point. What will earn money in the longer term is the company. Moreover, from the investor's point of view, it is extremely difficult to reduce the technological and market risk but seems less difficult to first reduce the management risk. It is therefore essential to determine the management capacity of those responsible for projects. 5. Management capacity must be present from the outset
5.1. Do not acquire management experience at the expense of the project By definition, the company must grow to a substantial size in a limited time. It is unreason-
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able to ask people to oversee such growth if they have not already had experience of managing companies with a turnover equivalent to that being aimed at. In other words, acquiring management experience on the project itself is too dangerous.
5.2. The key success factor in high technologies has changed In the 1980s, technological breakthroughs themselves-innovative products, processes, etc.-attracted investors and were able to win over purchasers. In the 1990s, the key factor is rather the ability to exploit an innovation by finding ways of creating or gaining access to a market and staying ahead by mastering production processes. For these reasons, and because of past failures, venture-capital companies are very demanding as regards the abilities of the company management.
5.3. Management means forming a team tailored to the project Management responsibilities must not simply reflect the division of capital or the history of the project: the person who had the idea for the innovation need not necessarily be in charge of general management, although he may, at the beginning at least, have a majority stake. General management must be in the hands of a team whose members have specialist skills. In many cases, for example, the mistake is made of leaving the recruitment of a financial director until far too late. How can you demonstrate management capacity? Each venture-capital company has its own way of assessing management. For some, previous experience of managing a profit centre in a challenging international environment is the best evidence of management ability. Experience of SMEs is not essential. Some consider it important for a managing director to have a personal financial stake in the company, others are conscious of the career risk that a manager takes by leaving a successful job to take charge of a hazardous enterprise.
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Formal training (degrees etc.) is less important than past experience and especially an individual's own dynamism. The ability to deal with people is, of course, included in any assessment, since confidence in the manager(s) is a key factor in the investment decision. 6. A project's development potential is assessed on the basis of a number of key factors
6.1. The inherent characteristics of the products / services Venture-capital companies are not interested in the objective characteristics of the products/ services but in their having an "extra something". They therefore need to know: the extent to which the innovative products are the only ones to satisfy the target market segments (has the product been tested on potential customers, and what were the results?) and the advantages they have over the products they aim to replace; the productivity gains or savings they offer users; any barriers to purchase (such as the need to buy other equipment which increases the overall investment for customers, the organizational changes required, the relative fidelity of purchasers to their usual suppliers in a particular market, etc.).
6.2. Competitive advantages From the outset the entrepreneur must see himself as being in a competitive environment. Will the innovation have a relatively longlasting advance over the competition or are competitors close to producing similar products? A common error is to compare the technology that the company wishes to develop and which will be on the market in one or two years, with competitors' current technology; what is needed is to anticipate what the competition will have on offer when the new product/ technology comes onto the market.
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Can the innovation be protected by patents or copyright? Have applications already been filed? What other means of protection are available (e.g. capturing market shares by a rapid launch etc.)? What manufacturing advantages does the company have (processes, capacity, strategic alliances with suppliers of key components, etc.)?
6.3. Market size The venture-capital company may be convinced that the product has intrinsic merit and that the team/company that is developing it is in a very good position to manufacture and market the product. However, the disposal requirement is a very restrictive factor, in view of the scale of operations needed eventually to find a buyer. The market or market segments must therefore have a sufficiently large potential size.
6.4. Proper organization of distribution channels If the product is good, the company well placed
and the potential market vast, distribution still needs to be properly organized. Are there suitable distribution channels? Have they been properly identified? Have agreements been signed or are they in prospect? Do special channels need to been created? How can simultaneous distribution be arranged on all the targeted national markets or market sectors?
6.5. Expected gross margin on start-up Experience has shown venture-capital companies that if the product does not have a market premium on launch it will have little chance of achieving such a premium later, since its innovative nature can only decline over time and the competition is bound to exert increasing pressure on prices. For this reason venture capitalists lend little credibility to projects which start with a low gross margin, since there is little hope of any improve": ment and the management team is thereby showing a lack of realism that may be disturbing for the investor.
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7. Opportunities for dispopsal after 5/10 years are considered in parallel
Other investors are then in a better position to supply equity capital. Venture capitalists are the best partners, on the other hand, if rapid growth is envisaged. Repurchase is a possibility that is usually left open in agreements with venture capital companies. This allows the company's founder to retain total controL It must be said, however, that there is little likelihood of this, at least if the company reaches a substantial size and especially if it has a high valuation.
Venture-capital companies assess both the attractiveness of projects submitted to them and the chances of disposal under favourable conditions. 7.1. Finding industrial groups and identifying their investment criteria
Through their network of industrial contacts, they test the interest of potential buyers. This is where specializing in specific sectors has been seen to bear fruit. The critical aspect is size. Most large groups are not interested in a business proposition that does not reach a turnover of ECU 5 to 6 million. (to be checked in the various countries) Buyers also wish to see sustained and regular profitability, which is why, as we have seen, venture-capital companies look at the project's expected gross margin on start-up. Lastly, venture-capital companies use their knowledge of company valuation methods to assess conditions for disposal. Establishing the value of the company is not simply a question of arithmetic and venture capitalists take account of the methods used by buyers. 7.2. Stock-market flotation and access to institutional investors
Contrary to the situation in the United States, not to mention Japan, stock-market flotation is much rarer in Europe than obtaining support from an industrial group. Moreover, the minimum size required for a stock-market flotation is high, since the threshold is often estimated to be a valuation of the order of ECU 40 million. * (to be checked in the various countries) Any evaluation of the opportunities for disposal is essentially linked to an assessment of project potential. Excellent projects may thus not find venturecapital funding because they do not provide good opportunities for disposal, mainly on account of . the size threshold.
8. Clear presentation of the project is a key element in success Presentation is important in two ways: it facilitates access to venture capital companies, which have a very large number of projects submitted to them and need to be won over, and it shows the company's or its management's ability to communicate, which lends the management overall credibility. Presentation can be in the form of: 8.1. A summary
The summary, which can accompany the business plan or a request for an interview, should allow the venture capitalists contacted to determine very quickly whether the project is within their target area. Details therefore need to be given of the product, the target market, the stage of development reached and the approximate amount of capital required. This basic information may also make it possible to channel companies towards more suitable sources of finance inside and outside the venture-capital sector. 8.3. An oral presentation document
Venture-capital companies often like to have an intermediate document between the summary and detailed business plan which allows them to present the key elements of a project to several
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people at the same time (e.g. twenty or so slides outlining the project). 8.4. A business plan When a business plan is drawn up it is primarily for internal use, and not simply for the purpose of seeking finance. It is a means of weighing up the feasibility and coherence of a project and therefore serves as a reference document for the management team. The business plan is also an essential tool for communicating with investors. 9. The business plan is an instrument of persuasion
The business plan is the document in which venture-capital companies, as well as other investors, must be able to find answers to the questions they ask themselves on a project's chances of success. A business plan must therefore not only include standard financial information (financial forecasts, financing plan) but also explain the assumptions behind each forecast of turnover (market, market share, prices etc.), profitability (costs, prices, etc.) and eventual valuation. It is therefore not just a description but rather a justification. 9.1. It must show The products' development potential It is up to the company to substantiate its
proposals. Any document or information that gives credibility to the turnover figures stated is useful for the investor. Vulnerability and risk factors should also be included in this information, since they lend credibility to the general approach instead of weakening the project if left to the investor to discover. The employment of scenarios is very useful here (ranges of market shares, prices, etc.) The company's / team's ability to exploit the development potential This requires a very accurate presentation of
the company (when it is already operating on other markets), its products, its markets and its management. In all cases, details should be given of: the management: current structure, previous experience, recruitment plans; the marketing and sales plan: positioning, price policy, market penetration objectives, distribution channels, promotion, sales force, etc.; production (or provision of services): capacity, costs, supplies; general organization of the company: organization chart, manpower, etc. Capital requirements The forecasts and plans described above, translated into projected accounts. (operating accounts, cash flow, investments, balance sheets, etc.) should naturally reveal financing requirements over 3/5 years. The application of funds must also be shown. If the company exists already, the data should be related to its financial history and the ownership of its shares. For the venture capitalist, all this information comes down to one key figure: the projected value of the company in the medium term. While for the company the business plan tends to concentrate on the financing requirements, for the investor it is the expected value of the company that is central. If an agreement is signed between an entrepreneur and a venture-capital company, the business plan becomes the heart of that agreement and the basic reference document. 10. The Community's Eurotech Capital programme
10.1. A network created on the initiative of the Commission of the European Communities Eurotech Capital is a pilot project launched by the Commission to stimulate private-capital funding of transnational high-technology projects. Under the scheme the Eurotech Capital label
D. Lambrechts/Technology and Health Care 2 (1994) 75-82
may be granted by the Commission to any financial institution which acquires holdings in companies, preferably small and medium-sized businesses, undertaking transnational high-technology projects.
10.2. Investors each have a mzmmum investment capacity of ECU 50 million and can be found in most Community countries. 10.3. At present 11 financial institutions have obtained the Eurotech Capital label Finanziaria Italiana di Partecipazione SpA (FIP) FIP is an Italian venture-capital company belonging to the Banca N azionale del Lavoro group. It takes temporary minority holdings in the equity of small and medium-sized businesses. FIP invests mainly in companies undergoing expansion which offer good growth potential. Societa Finanziaria di Partecipazione SpA (SOFIPA) SOFIPA is a very active Italian venturecapital company. Via minority holdings, it invests at all stages in a company's existence (mainly at the development or expansion phases). SOFIPA provides assistance to those companies in which it has acquired a holding when they draw up their development plans. It also provides a merger and acquisition service. Innolion Innolion, founded in 1985, is a subsidiary of the Credit Lyonnais group (France). It undertakes equity financing for small and mediumsized businesses, particularly where technology transfer (research and development work, start of industrial production and marketing) is involved, and is working towards the development of a European innovation-finance market. It provides first -stage finance and also manages a seed-corn fund. Partech International Partech International is a member of the Paribas group (France). It manages three funds and concerns itself mainly with minority equity
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finance for internationally-orientated small and medium-sized businesses in the high-technology sector. Partech International invests mainly in companies at the start-up stage which show good growth potential. It also participates III the management of the company. Instituto Nacional de Industria (INI) This Spanish financial institution operates through a network of nine regional development companies. The main activity of the network is the provision of equity funding for small and medium-sized businesses in the regions. It provides equity finance and more traditional medium/ long-term loans to those companies. Sofinnova SA. Sofinnova is an independent venture-capital company operating in the high-technology sector, particularly information and health technologies and biotechnology. It invests by taking a minority holding in small and medium-sized companies and provides finance at the initial development stage. It does not usually become involved in the company's management unless requested to do so, or when the company faces a decision on strategy. Euroventures Benelux Team N. V Euroventures Benelux Team N.V. manages two funds which form part of a European network of 16 independent funds. It takes minority stakes in small and medium-sized companies engaged in high-technology innovation or which find themselves in a turn-around situation. It actively supports the management team of the small and medium sized companies. Gilde Investment Funds Gilde Investment Funds, founded in 1982, is a Netherlands venture capital company that is completely independent of any financial institution. Its hallmark is its international investment strategy (Europe and the United States) and its active involvement in the running of the companies it supports with a view to their rapid growth. Gilde is involved in the provision of traditional venture capital, buy-out operations and arranging company transfers. Gilde is not confined to any particular sector, but its past investments have been mainly in the medical, leisure and environmental protection indus-
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tries. Over three-quarters of its investments are syndicated. Eurosud Capital-European Economic Interest Grouping (EEIG) Eurosud Capital consists of companies specializing in regional equity finance. By forming this association they have acquired a European dimension. This grouping covers the northern Mediterranean area. Eurosud Capital is made up of the following companies: in Italy: LIGUR CAPITAL, which specializes in seed-corn finance, and MARCHE CAPITAL; in France: IRDI (in Midi-Pyrenees), SORIDEC (Languedoc-Roussillon) and SUD CAPITAL (Provence, the Cote d'Azur). Techno Venture Management (TVM) TVM is the leading German bank independent venture capital company with the special focus on technology oriented investments. Founded in 1983 with two parallel funds, one for Germany and western Europe and one for the US. TVM manages ten funds. from offices in Munich/ Germany and Boston/US.. Beside the technological focus TVM concentrates on multinational deals within Europe on one hand and between Europe and the US on the other. Biotechnology Investments Ltd. (BIL) BIL founded in 1981, is an independent publicly quoted company, listed on the London Stock Exchange. The company is advised by a dedicated team at Rothschild Asset Manage-
ment in London and seeks start up and early stage investments in the field of biotechnology, medical technology and health-care. BIL, is an active investor within its portfolio companies and seeks to build long term relationships with its investments. Many of the publicly listed companies in its portfolio were first invested in by BIL during their first and second round funding. Most of BIL's investments are syndicated. 11. Eurotech capital, a means of financing transnational high-technology projects
11.1. A minimum of 20% of the investment capacity of the members of the network is reserved for European companies: which undertake transnational high-technology projects (THTPs) and which, in order of precedence, have fewer than 500 employees and whose net fixed assets do not exceed ECU 75 million, with no more than one-third of the equity being held by large companies. Eligible companies must have their registered office and main sector of activity on the territory of a Member State of the European Community. • Companies announce their projects to the Eurote ch Capital network through a free entry on Eurotech Innvest
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Venture-capital companies and the Eurotech Capital Programme of the Commission of the European Communities Deborah Lambrechts Commission of the European Communities, Bfitiment Wagner, L-2920 Luxembourg, Luxembourg
Accepted 7 April 1994
1. Venture-capital companies 1.2. This document is a guide to venture capital for entrepreneurs
This document aims both to provide information on venture capitalists, one of whose major functions is to seek out the projects of new companies and to increase the chances of success of entrepreneurs applying for venture-capital funding. It thus describes: • The relationship between entrepreneurs and venture capitalists, which is very different from that between a company and other financial partners. The entrepreneur must decide on the type of partner he requires. • The criteria governing venture-capital investment. Project evaluation needs to be explained. What criteria are used? How are those criteria assessed? The entrepreneur will then have a better chance of providing answers to the basic questions asked by investors. • Presentation. Entrepreneurs sometimes still underestimate how important it is to present their projects properly. This document underlines that importance and describes the basic presentation requirements. SSDI0928-'7329(94)00012-V
2. The company must select its potential partners carefully 2.1. A company seeking finance is not necessarily looking for venture capital
Firstly, it is not necessarily seeking equity capital. It may prefer a loan, which ensures that growth funding is available while the control of the company is safeguarded (no dispersal of share capital). If the company is seeking equity finance, it has the choice between several types of partner: commercial banks, regional development companies and venture-capital companies. The first two tend to deal with established companies, accept less risk but offer a wider range of services, whereas venture-capital companies are interested only in becoming shareholders. The venture-capital sector itself consists of different financial bodies, each with their own characteristics. 2.2. Venture-capital companies often specialize in particular sectors
The members of venture-capital companies develop more expertise in assessing technology
D. Lambrechts / Technology and Health Care 2 (1994) 75-82
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and market potential in some sectors than in others. They are therefore better able to assess the risk of investing in one of those sectors, where they already have networks of potential investors whose requirements, interests and demands they know. This is a key element in evaluating the chances of a profitable disposal. It may even be in the company's interest to involve specialist venture-capital investors. For example, with a medical imaging project, it may be useful for a company to have around the table one partner specializing in the health sector and one from the electronics sector so as to benefit from the experience of both.
2.3. The partner(s) chosen must match the size of the target market If the company is aiming at a national market, a local investor is sufficient and probably desirable. If, on the other hand, it is the international market that is to be targeted, it is highly advisable to obtain access to an international network through a multinational syndicate. This is because a venture-capital company is a real partner and not just a provider of equity capital.
3. A venture-capital company is a true partner
3.1. From seed capital to the expansion stage Venture capitalists do not confine their activities to established companies. They can become involved at different stages in a company's development. • Seed-corn finance. Financing provided for research, development and the preparation of an initial concept before a business has reached the start-up stage. • Start-up finance. Financing provided to companies for product development and initial marketing. Companies may be in the process of being set up or may have been in business for a
short time, but have not started marketing their product. • Early-stage finance. Financing provided to companies that have completed the product development stage and require further funds to initiate commercial manufacturing and sales. They will not yet be generating a profit. • Expansion finance. Financing provided for growth and expansion of a company which is breaking even or trading profitably. Capital may be used to finance increased production capacity, market or product development and/or to provide additional working capital.
3.2. A full shareholder A venture capitalist is not a lender: he is a demanding associate who has experience of company development and bears scars to prove it. He is a shareholder who works for the rapid development of the business, because of the high growth targets needed for eventual disposal. He often has a minority interest at the outset, but these growth targets may lead him to take an increasingly large stake if the founder shareholders are not in a position to subscribe to the increases in venture capital. Financing can generally be via any security that provides an entitlement, immediately or in the future, to part of the share capital (shares, convertible bonds, etc.).
3.2. Involvement in management Venture-capital companies actively monitor the running of the businesses in which they have invested their own or other funds. They do not interfere with management but take a close interest in implementation of the company's strategy. Involvement is often in the form of membership of the board of directors.
3.4. High capital gains Venture capitalists do not generally seek returns in the form of loan interest or dividends. Their profit comes from the capital gains made on disposal. The long investment period and the risk taken result in high capital-gain targets.
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3.5. High accepted risk The venture capitalist accepts a higher level of risk than bankers or traditional investors, in expectation of a high eventual return. However, it is obvious that the prior examination of projects aims to arrive at a proper assessment of the chances of success and to limit risk. We will now look at how this is done. 4. Venture-capital companies assess projects using 3 main criteria These three criteria will be discussed in greater detail below: • management capacity • development potential • prospects for disposal One can say to begin with that the first criterion is the most important, since it largely determines the other two. Management capacity is what permits the development potential of a product to be fully exploited and what leads to the success of a company. It is not an idea or a product that will be sold one day but a company. It is often said in the business that an idea is worth ECU 1, a product ECU 10 and the company ECU 100. Yet the head of a company often has the impression that it is his idea which has value. The idea is only the starting point. What will earn money in the longer term is the company. Moreover, from the investor's point of view, it is extremely difficult to reduce the technological and market risk but seems less difficult to first reduce the management risk. It is therefore essential to determine the management capacity of those responsible for projects. 5. Management capacity must be present from the outset
5.1. Do not acquire management experience at the expense of the project By definition, the company must grow to a substantial size in a limited time. It is unreason-
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able to ask people to oversee such growth if they have not already had experience of managing companies with a turnover equivalent to that being aimed at. In other words, acquiring management experience on the project itself is too dangerous.
5.2. The key success factor in high technologies has changed In the 1980s, technological breakthroughs themselves-innovative products, processes, etc.-attracted investors and were able to win over purchasers. In the 1990s, the key factor is rather the ability to exploit an innovation by finding ways of creating or gaining access to a market and staying ahead by mastering production processes. For these reasons, and because of past failures, venture-capital companies are very demanding as regards the abilities of the company management.
5.3. Management means forming a team tailored to the project Management responsibilities must not simply reflect the division of capital or the history of the project: the person who had the idea for the innovation need not necessarily be in charge of general management, although he may, at the beginning at least, have a majority stake. General management must be in the hands of a team whose members have specialist skills. In many cases, for example, the mistake is made of leaving the recruitment of a financial director until far too late. How can you demonstrate management capacity? Each venture-capital company has its own way of assessing management. For some, previous experience of managing a profit centre in a challenging international environment is the best evidence of management ability. Experience of SMEs is not essential. Some consider it important for a managing director to have a personal financial stake in the company, others are conscious of the career risk that a manager takes by leaving a successful job to take charge of a hazardous enterprise.
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Formal training (degrees etc.) is less important than past experience and especially an individual's own dynamism. The ability to deal with people is, of course, included in any assessment, since confidence in the manager(s) is a key factor in the investment decision. 6. A project's development potential is assessed on the basis of a number of key factors
6.1. The inherent characteristics of the products / services Venture-capital companies are not interested in the objective characteristics of the products/ services but in their having an "extra something". They therefore need to know: the extent to which the innovative products are the only ones to satisfy the target market segments (has the product been tested on potential customers, and what were the results?) and the advantages they have over the products they aim to replace; the productivity gains or savings they offer users; any barriers to purchase (such as the need to buy other equipment which increases the overall investment for customers, the organizational changes required, the relative fidelity of purchasers to their usual suppliers in a particular market, etc.).
6.2. Competitive advantages From the outset the entrepreneur must see himself as being in a competitive environment. Will the innovation have a relatively longlasting advance over the competition or are competitors close to producing similar products? A common error is to compare the technology that the company wishes to develop and which will be on the market in one or two years, with competitors' current technology; what is needed is to anticipate what the competition will have on offer when the new product/ technology comes onto the market.
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Can the innovation be protected by patents or copyright? Have applications already been filed? What other means of protection are available (e.g. capturing market shares by a rapid launch etc.)? What manufacturing advantages does the company have (processes, capacity, strategic alliances with suppliers of key components, etc.)?
6.3. Market size The venture-capital company may be convinced that the product has intrinsic merit and that the team/company that is developing it is in a very good position to manufacture and market the product. However, the disposal requirement is a very restrictive factor, in view of the scale of operations needed eventually to find a buyer. The market or market segments must therefore have a sufficiently large potential size.
6.4. Proper organization of distribution channels If the product is good, the company well placed
and the potential market vast, distribution still needs to be properly organized. Are there suitable distribution channels? Have they been properly identified? Have agreements been signed or are they in prospect? Do special channels need to been created? How can simultaneous distribution be arranged on all the targeted national markets or market sectors?
6.5. Expected gross margin on start-up Experience has shown venture-capital companies that if the product does not have a market premium on launch it will have little chance of achieving such a premium later, since its innovative nature can only decline over time and the competition is bound to exert increasing pressure on prices. For this reason venture capitalists lend little credibility to projects which start with a low gross margin, since there is little hope of any improve": ment and the management team is thereby showing a lack of realism that may be disturbing for the investor.
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7. Opportunities for dispopsal after 5/10 years are considered in parallel
Other investors are then in a better position to supply equity capital. Venture capitalists are the best partners, on the other hand, if rapid growth is envisaged. Repurchase is a possibility that is usually left open in agreements with venture capital companies. This allows the company's founder to retain total controL It must be said, however, that there is little likelihood of this, at least if the company reaches a substantial size and especially if it has a high valuation.
Venture-capital companies assess both the attractiveness of projects submitted to them and the chances of disposal under favourable conditions. 7.1. Finding industrial groups and identifying their investment criteria
Through their network of industrial contacts, they test the interest of potential buyers. This is where specializing in specific sectors has been seen to bear fruit. The critical aspect is size. Most large groups are not interested in a business proposition that does not reach a turnover of ECU 5 to 6 million. (to be checked in the various countries) Buyers also wish to see sustained and regular profitability, which is why, as we have seen, venture-capital companies look at the project's expected gross margin on start-up. Lastly, venture-capital companies use their knowledge of company valuation methods to assess conditions for disposal. Establishing the value of the company is not simply a question of arithmetic and venture capitalists take account of the methods used by buyers. 7.2. Stock-market flotation and access to institutional investors
Contrary to the situation in the United States, not to mention Japan, stock-market flotation is much rarer in Europe than obtaining support from an industrial group. Moreover, the minimum size required for a stock-market flotation is high, since the threshold is often estimated to be a valuation of the order of ECU 40 million. * (to be checked in the various countries) Any evaluation of the opportunities for disposal is essentially linked to an assessment of project potential. Excellent projects may thus not find venturecapital funding because they do not provide good opportunities for disposal, mainly on account of . the size threshold.
8. Clear presentation of the project is a key element in success Presentation is important in two ways: it facilitates access to venture capital companies, which have a very large number of projects submitted to them and need to be won over, and it shows the company's or its management's ability to communicate, which lends the management overall credibility. Presentation can be in the form of: 8.1. A summary
The summary, which can accompany the business plan or a request for an interview, should allow the venture capitalists contacted to determine very quickly whether the project is within their target area. Details therefore need to be given of the product, the target market, the stage of development reached and the approximate amount of capital required. This basic information may also make it possible to channel companies towards more suitable sources of finance inside and outside the venture-capital sector. 8.3. An oral presentation document
Venture-capital companies often like to have an intermediate document between the summary and detailed business plan which allows them to present the key elements of a project to several
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people at the same time (e.g. twenty or so slides outlining the project). 8.4. A business plan When a business plan is drawn up it is primarily for internal use, and not simply for the purpose of seeking finance. It is a means of weighing up the feasibility and coherence of a project and therefore serves as a reference document for the management team. The business plan is also an essential tool for communicating with investors. 9. The business plan is an instrument of persuasion
The business plan is the document in which venture-capital companies, as well as other investors, must be able to find answers to the questions they ask themselves on a project's chances of success. A business plan must therefore not only include standard financial information (financial forecasts, financing plan) but also explain the assumptions behind each forecast of turnover (market, market share, prices etc.), profitability (costs, prices, etc.) and eventual valuation. It is therefore not just a description but rather a justification. 9.1. It must show The products' development potential It is up to the company to substantiate its
proposals. Any document or information that gives credibility to the turnover figures stated is useful for the investor. Vulnerability and risk factors should also be included in this information, since they lend credibility to the general approach instead of weakening the project if left to the investor to discover. The employment of scenarios is very useful here (ranges of market shares, prices, etc.) The company's / team's ability to exploit the development potential This requires a very accurate presentation of
the company (when it is already operating on other markets), its products, its markets and its management. In all cases, details should be given of: the management: current structure, previous experience, recruitment plans; the marketing and sales plan: positioning, price policy, market penetration objectives, distribution channels, promotion, sales force, etc.; production (or provision of services): capacity, costs, supplies; general organization of the company: organization chart, manpower, etc. Capital requirements The forecasts and plans described above, translated into projected accounts. (operating accounts, cash flow, investments, balance sheets, etc.) should naturally reveal financing requirements over 3/5 years. The application of funds must also be shown. If the company exists already, the data should be related to its financial history and the ownership of its shares. For the venture capitalist, all this information comes down to one key figure: the projected value of the company in the medium term. While for the company the business plan tends to concentrate on the financing requirements, for the investor it is the expected value of the company that is central. If an agreement is signed between an entrepreneur and a venture-capital company, the business plan becomes the heart of that agreement and the basic reference document. 10. The Community's Eurotech Capital programme
10.1. A network created on the initiative of the Commission of the European Communities Eurotech Capital is a pilot project launched by the Commission to stimulate private-capital funding of transnational high-technology projects. Under the scheme the Eurotech Capital label
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may be granted by the Commission to any financial institution which acquires holdings in companies, preferably small and medium-sized businesses, undertaking transnational high-technology projects.
10.2. Investors each have a mzmmum investment capacity of ECU 50 million and can be found in most Community countries. 10.3. At present 11 financial institutions have obtained the Eurotech Capital label Finanziaria Italiana di Partecipazione SpA (FIP) FIP is an Italian venture-capital company belonging to the Banca N azionale del Lavoro group. It takes temporary minority holdings in the equity of small and medium-sized businesses. FIP invests mainly in companies undergoing expansion which offer good growth potential. Societa Finanziaria di Partecipazione SpA (SOFIPA) SOFIPA is a very active Italian venturecapital company. Via minority holdings, it invests at all stages in a company's existence (mainly at the development or expansion phases). SOFIPA provides assistance to those companies in which it has acquired a holding when they draw up their development plans. It also provides a merger and acquisition service. Innolion Innolion, founded in 1985, is a subsidiary of the Credit Lyonnais group (France). It undertakes equity financing for small and mediumsized businesses, particularly where technology transfer (research and development work, start of industrial production and marketing) is involved, and is working towards the development of a European innovation-finance market. It provides first -stage finance and also manages a seed-corn fund. Partech International Partech International is a member of the Paribas group (France). It manages three funds and concerns itself mainly with minority equity
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finance for internationally-orientated small and medium-sized businesses in the high-technology sector. Partech International invests mainly in companies at the start-up stage which show good growth potential. It also participates III the management of the company. Instituto Nacional de Industria (INI) This Spanish financial institution operates through a network of nine regional development companies. The main activity of the network is the provision of equity funding for small and medium-sized businesses in the regions. It provides equity finance and more traditional medium/ long-term loans to those companies. Sofinnova SA. Sofinnova is an independent venture-capital company operating in the high-technology sector, particularly information and health technologies and biotechnology. It invests by taking a minority holding in small and medium-sized companies and provides finance at the initial development stage. It does not usually become involved in the company's management unless requested to do so, or when the company faces a decision on strategy. Euroventures Benelux Team N. V Euroventures Benelux Team N.V. manages two funds which form part of a European network of 16 independent funds. It takes minority stakes in small and medium-sized companies engaged in high-technology innovation or which find themselves in a turn-around situation. It actively supports the management team of the small and medium sized companies. Gilde Investment Funds Gilde Investment Funds, founded in 1982, is a Netherlands venture capital company that is completely independent of any financial institution. Its hallmark is its international investment strategy (Europe and the United States) and its active involvement in the running of the companies it supports with a view to their rapid growth. Gilde is involved in the provision of traditional venture capital, buy-out operations and arranging company transfers. Gilde is not confined to any particular sector, but its past investments have been mainly in the medical, leisure and environmental protection indus-
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tries. Over three-quarters of its investments are syndicated. Eurosud Capital-European Economic Interest Grouping (EEIG) Eurosud Capital consists of companies specializing in regional equity finance. By forming this association they have acquired a European dimension. This grouping covers the northern Mediterranean area. Eurosud Capital is made up of the following companies: in Italy: LIGUR CAPITAL, which specializes in seed-corn finance, and MARCHE CAPITAL; in France: IRDI (in Midi-Pyrenees), SORIDEC (Languedoc-Roussillon) and SUD CAPITAL (Provence, the Cote d'Azur). Techno Venture Management (TVM) TVM is the leading German bank independent venture capital company with the special focus on technology oriented investments. Founded in 1983 with two parallel funds, one for Germany and western Europe and one for the US. TVM manages ten funds. from offices in Munich/ Germany and Boston/US.. Beside the technological focus TVM concentrates on multinational deals within Europe on one hand and between Europe and the US on the other. Biotechnology Investments Ltd. (BIL) BIL founded in 1981, is an independent publicly quoted company, listed on the London Stock Exchange. The company is advised by a dedicated team at Rothschild Asset Manage-
ment in London and seeks start up and early stage investments in the field of biotechnology, medical technology and health-care. BIL, is an active investor within its portfolio companies and seeks to build long term relationships with its investments. Many of the publicly listed companies in its portfolio were first invested in by BIL during their first and second round funding. Most of BIL's investments are syndicated. 11. Eurotech capital, a means of financing transnational high-technology projects
11.1. A minimum of 20% of the investment capacity of the members of the network is reserved for European companies: which undertake transnational high-technology projects (THTPs) and which, in order of precedence, have fewer than 500 employees and whose net fixed assets do not exceed ECU 75 million, with no more than one-third of the equity being held by large companies. Eligible companies must have their registered office and main sector of activity on the territory of a Member State of the European Community. • Companies announce their projects to the Eurote ch Capital network through a free entry on Eurotech Innvest
