Examination of Witnesses (Question Numbers
80-99)
DEPARTMENT FOR
BUSINESS, INNOVATION
AND SKILLS
AND CAPITAL
FOR ENTERPRISE
LIMITED
13 JANUARY 2010
Q80 Mr Mitchell: Do you then deduct
from the fund manager's fee?
Mr Earley: No, but after the investment
period the fees are based on the value of the existing investment.
So the higher the number of write-offs early in the life of the
funds the lower the fees are going forward in the funds.
Q81 Mr Mitchell: So it is a bit like
a banker: he gets the money whatever he does, whether he succeeds
or he fails.
Mr Earley: That is not necessarily
the case. There is no performance incentive unless performance
is delivered and fees after the first five years generally in
the fund are based on the existing investment. So where investments
have failed, if there have been large numbers of failures, then
the fees will drop significantly after the first five years.
Q82 Mr Mitchell: You were talking
about Europe. Are there similar funds governmentally financed
in European countries?
Mr Earley: There are in most developed
economies and appendix two of the Report is a study from Professor
Gordon Murray which looks at a number of those programmes.
Q83 Mr Mitchell: Are they more generous
or meaner than ours? Taken by country, how do they do in France
and Germany?
Mr Earley: Some are more generous.
It is difficult to be precise because very, very few have been
evaluated and those evaluations which have taken place are not
in the public domain. I know certainly that there have been equity
guarantee schemes, so some Member States' governments have guaranteed
these investments.
Q84 Mr Mitchell: Which countries
do that?
Mr Earley: We believe that there
is a guarantee scheme in Germany and I believe the German Government
is talking about a new guarantee scheme which I read about last
Friday.
Q85 Mr Mitchell: Are you talking
there about national federal government or about the Länder?
Mr Earley: National government
I believe.
Q86 Mr Mitchell: The Länder
presumably does the same thing as well.
Mr Earley: I am afraid I cannot
comment on that.
Q87 Mr Mitchell: Do you know or not?
Mr Earley: We do not know.
Q88 Mr Mitchell: So they could be
smuggling large sums to start-ups which we do not know about.
Mr Earley: That is why the European
Commission Director General Competition is so wary about the use
of these funds as subsidy mechanisms and that is why they set
such tight rules concerning the activities.
Q89 Mr Mitchell: It does not seem
to have been very effective in policing the Länder, does
it so far? In other matters I mean.
Mr Earley: I cannot comment on
that.
Q90 Mr Mitchell: You were talking
with Mr Bacon about European restrictions on state aids to industry.
Do I conclude from what you were saying that that threat hanging
over us has meant that you have opted for a lot more small loans
than for big investments?
Mr Earley: As I think I mentioned
earlier, we have been very successful at maximising the scope
for these investment programmes under the state aid rules.
Q91 Mr Mitchell: Which has restricted
you to fairly small sums.
Mr Earley: Yes, relatively small
sums in the equity gap.
Q92 Mr Mitchell: That must have restricted
the effectiveness of the funding system in the sense that probably
bigger investment in a bigger start-up would have made a bigger
return.
Mr Earley: That is one of the
lessons learned from the early programmes that we have adopted
for the later programmes so that the funds can make larger investments
in smaller numbers of businesses.
Q93 Mr Mitchell: Has the EU restricted
you from doing that on the scale you would have wanted?
Mr Earley: It has accepted arguments
that the equity gap is larger than it had previously been prepared
to accept and it has allowed our current programme to invest up
to £2 million.
Q94 Mr Mitchell: Do you have any
feeling, as I always believe as a matter of religion, that they
are tougher on us than they are on France or Germany?
Mr Earley: The evidence is that
they have been more generous to us on this programme than they
have in general.
Mr Fraser: This is a policy matter
with which Ms Squire may be able to help you.
Ms Squire: Last year we refreshed
our analysis of the size of the equity gap and we concluded that
the equity gap is most acute between £250,000 and £2
million but it may go much higher for sectors which have particularly
high capital expenditure or long lead times before they start
to generate returns. We were successful in negotiating with the
Commission a special state aid dispensation to allow us to make
investments of up to £2 million under the Enterprise Capital
Funds programme and we have now the UK Innovation Investment Fund
which will make larger investments and it is able to do that because
it is not a state aid because we are not giving any advantage
at all to private sector investors.
Q95 Mr Mitchell: I get the impression
from this Report and from the fact that there is such a plethora
of funds and not one simple straightforward structure that you
have not behaved like those lunatics we have watched on television
breaking the ice in the last few weeks and leaping into the cold
water. You have put your toe in, gone into it very cautiously
and gingerly and that has made the whole process messier and slower
and more difficult than it should really have been.
Mr Fraser: It is appropriate for
us to be cautious when we are in innovative areas of policy involving
public money. I could imagine that if we had done this a different
way and things had gone wrong I might be facing a different set
of questions from you. You are absolutely right that what we need
to do is to learn from the experience that we have. We do have
to remember that we are still at the fairly early stage in this
because of the time periods on which investments of this sort
are going to realise returns. Now is the time for us to be learning
the lessons of the initial experiment, which I fully accept is
not in every respect a total success. We have lessons to learn
both in terms of the structure of the schemes, the way that we
set objectives, the way that we evaluate them, including making
sure that we take full account of the economic benefits of the
schemes as well as the financial performance of the funds, which
is a policy issue which is very important for the Department,
and the impact on businesses. There is a lot for us to learn and
we are seeking to learn those lessons.
Q96 Mr Mitchell: If the problem of
venture capital and start-up capital, which is certainly worse
here than it is in America; I don't know about European comparisons
but one always reads that the position is not very good in this
country, if that is true, then you need to get in big and you
need to get in quick, do you not, rather than this ginger stuff?
Mr Fraser: Absolutely.
Q97 Mr Mitchell: The Report says—I
am quoting from page six, Findings, paragraph six—"The
Department failed to establish a robust framework of objectives,
and associated baselines, to enable it to judge whether the taxpayers'
investment offered value for money. The Department has set multiple
aims for each fund but these have not been translated into clear
measurable objectives" and it goes on like that. In other
words, you have not learned in the way you have said you are learning.
Mr Fraser: That is a comment on
our earlier performance and those are lessons with which we fully
agree and we are learning those lessons. In relation to the United
States, the United States have been involved in this since 1958
when they set up their equivalent scheme. They have more experience
and they are more advanced. In fact in the United States the amount
of public money which is going into this sort of support as a
proportion of GDP is 2.5 times what it is in this country. They
are advanced on this. Within Europe it is generally recognised
that we are at the forefront in innovating in this area now. We
are learning lessons. NESTA, for example, who have done a review
of our schemes, have commented—and I think it is actually
quoted in this Report—that the lessons which have been learned
and the way that we have adapted to those lessons is actually
something which they identify for a degree of praise.
Q98 Mr Mitchell: Do you think the
structure is too complicated and that you have too many funds
handing out piddling sums?
Mr Fraser: We had had too many
funds and they have been set up in a way which is not the most
effective. We are seeking to streamline and rationalise that into
a more coherent programme with some funds looking at small investments.
The Innovation and Investment Fund is looking at the larger investments,
particularly in high tech, which is something we all agree is
an economic area we need to be concentrating on and now the most
recent development is the Rowlands review of growth capital for
SMEs who are at a further stage of their development, which is
between £2 million and £10 million, where he identifies
a gap of about 5,000 companies a year seeking an injection of
capital support and we are now working to seek to address that.
We will have a coherent, more structured, less diverse and better
organised range of programmes put together and managed in a more
effective way.
Q99 Mr Mitchell: It came out in Mr
Bacon's questioning that the take-up was slow in what you would
call the fat years when the economy was growing. Now the economy
is not, we are in the thin years, a situation where bank credit
seems to be too tight. Are you expecting to step up the amount
of money and the activity of these funds now?
Mr Fraser: That is absolutely
what we are doing. Interestingly I was at Imperial College yesterday
talking to Imperial Innovations, which is their venture capital
scheme. They said quite clearly that private sector equity in
this area is in retreat at present because people are risk averse.
As you have identified, bank lending is more difficult for small
enterprises to get, which is why our Department actually, since
this crisis, has put in place a number of schemes to try to promote
bank lending, our Real Help Now schemes. In addition, we have
launched this year a new Innovation Investment Fund which now
has £325 million of funding and will be available for lending
in 2010. We are now working on raising a further growth capital
fund to supplement this. We have identified that there is an acute
need now and luckily we have the learning of the past to help
us address this more effectively.
| 
