Download Europe`s Failure to Innovate: Is the venture capital industry to blame?

Europe’s Failure to Innovate: Is the
venture capital industry to blame?
Colin Mason
Hunter Centre for Entrepreneurship
University of Strathclyde
Presentation to an EU Cohesion Policy Workshop,
EPRC, University of Strathclyde, 5th December 2008
1. Introduction
• The EU has a deficit in R&D expenditure,
especially private sector R&D
• Consequences:
– fewer EU firms in R&D intensive sectors
– lag in the emergence of new technologies in the EU
– rates of innovation are reduced
• Lisbon Strategy established a target for the EU
to spend 3% of its GDP on R&D by 2010 if it to
achieve its goal of sustainable competitiveness
continued
• Alternative Interpretation of Europe’s economic
‘failure’ by the Expert Group on the EU’s R&D
Deficit and Innovation Policy
– Barriers prevent entrants in new industries from
growing to become major players
– Frequent comment that Europe has failed to produce
‘gorillas’: i.e. companies of the stature of Microsoft
and Google
– Only 3 European companies listed on the FT 500
global ranking were founded after 1975 – compared
with 28 in the USA and 21 in emerging countries
continued
• Inference: the real issue facing the EU is
not an R&D deficit but an entrepreneurial
deficit
• Growing companies are likely to need
appropriate finance – this puts the focus
on the role of Europe’s financial systems
in fostering innovative companies – this
issue has been ignored the debate on
Europe’s innovation deficit
Venture capital and the financing of
technology companies
• NTBFs likely to need raise several rounds of
external finance to finance innovation, product
development and market penetration before they
become cash-positive
• Venture capital designed for this purpose:
specialist equity-oriented investors with the skills
to identify businesses with growth potential, to
mitigate risk, and to add value to investee
businesses. Objective is to achieve high capital
gain. Has been termed “The Money of Invention”
Venture capital and the
transformation of the US economy
• VC-backed companies have a disproportionate
impact on economic development in terms of
innovation, job creation, R&D expenditure,
exports, payment of taxes
– Faster in developing products and bringing them to
market
– Speeds the development of companies – get to an
IPO at a younger age than other companies
– VC backed companies produce more patents per $
than corporate R&D
– VC has played a central role in the emergence and
development of new industries that have transformed
the US economy in the 20th century – e.g. computer
hardware and software, semi-conductors, computer
services, biotechnology
continued
• “no matter how one looks at the numbers,
venture capital clearly serves as an
important source industry for economic
development, wealth and job creation and
innovation” (Lerner and Watson, 2008)
The EU context
• Europe is not short of venture capital
– European VC funds raised €420 billion 19972006 and invested €327 billion
– Annual amount invested has risen from €24
billion to €71 2001-6.
• Critical question: why has VC not had the
same impact as in the USA in generating
global technology companies?
Propositions
• The EU lags behind the USA in innovation
because it has an entrepreneurial deficit.
• This entrepreneurial deficit arises because
of deficiencies in the venture capital
system
– One key factor is that Europe has the ‘wrong’
kind of VC – a much higher proportion of VC
in Europe is ‘private equity’ – i.e. invests in
restructuring large established companies
– Not a total explanation – why is EU VC less
effective than in the US?
Hypotheses
1. Compared with the USA Europe lacks
‘competent capital’
•
•
•
European VCs less likely to have
entrepreneurial backgrounds and more likely
to have financial and consulting
backgrounds
Fewer business angels in Europe with a
technology background
Less corporate venturing in Europe
Hypotheses II
2. Failure in the ‘funding pipeline’
– Lack of business angels in Europe to groom
young companies for VC
– Underdevelopment of angel syndicates in
Europe to make multiple rounds of
investment
– Ineffectiveness of government ‘seed’
programs to fund technology from laboratory
to commercialisation (general failure of
commercialisation models?)
Hypotheses III
3. European technology companies are not
competing on a level playing field
– funding rounds of US VCs 50% higher than
those in Europe and more likely to be
syndicated
– Consequences for European technology
companies: (i) management time diverted to
the need to raise more funding rounds; (ii)
slows their growth; (iii) European firms less
likely to become the dominant firm in their
industry space
Hypotheses IV
4. European investors and entrepreneurs lack the
ambition to grow
– European VCs have shorter exit horizons, are less
willing to grow their investee companies to a
significant size (and an IPO) and prefer to sell through
a trade sale at an earlier stage.
– Evidence that trade sale returns are lower in Europe –
consistent with being younger and smaller.
Consequences:
• Less wealth available for recycling (e.g. new ventures,
business angels)
• Limits the pool of managers with the experience of growing a
global business
• The acquired company is more vulnerable to being absorbed
into the acquiring company (less embedded)
Hypotheses V
5. Poor government policies
– “all venture capital markets … were initiated
with government support. These markets do
not emerge without some form of government
assistance” (Lerner, quoted in Murray, 2007)