Cleared from scrutiny (decision reported on 14 December 2016); drawn to the attention of the Treasury Committee
Proposal for a Regulation of the European Parliament and of the Council amending Regulation (EU) No.345/2013 on European venture capital funds and Regulation (EU) No.346/2013 on European social entrepreneurship funds
Article 114 TFEU; ordinary legislative procedure; QMV
(37956), 11303/16 + ADDs 1–2, COM(2016) 461
27.1In 2013, the EU adopted two Regulations which established a quality label and marketing passport for European venture capital funds (“EuVECA”) and European social entrepreneurship funds (“EuSEF”). The objective of these EU-wide labels is to increase the capacity of investment funds to raise additional capital to invest in innovative start-ups and social undertakings, and thereby create a deeper pool of non-bank finance for European companies.
27.2The original Regulations set a number of criteria for which funds could register for the EuVECA and EuSEF designations. Notably, only funds with assets under management of less than €500 million were eligible, and consequently take-up was lower than desired. To encourage greater use of the labels, the European Commission in July 2016 proposed certain amendments. These would, among other things, abolish the maximum asset threshold for funds seeking to register for either designation, and also make more start-ups eligible for investment by EuVECA funds. The proposal also included a new power for the European Commission to adopt by delegated act a standardised EU-wide approach to calculate the “own funds”, the capital buffer requirements which apply to EuSEF and EuVECA investment funds.
27.3The then Economic Secretary to the Treasury (Simon Kirby) expressed the Government’s support for the proposals in September 2016, and the previous Committee cleared the draft Regulation from scrutiny in December after receiving assurances from the Government that its outstanding concerns, in relation to the way EuVECA and EuSEF funds’ capital buffers would be calculated, had been addressed. The new Economic Secretary (Stephen Barclay) has now informs us that the European Parliament and the Council reached agreement on the proposal in May, and the new Regulation currently was published in the Official Journal on 10 November 2017. We have set out the substance of the new legislation as agreed in more detail in paragraphs 0.15 to 0.17 below.
27.4We thank the Minister for the information provided on the new Regulation. As the previous Committee cleared this new legislation from scrutiny, and the legislation has now been formally adopted, we have no further questions about its substance. However, we must also consider this document afresh given the current status of our negotiations on EU withdrawal. In light of our Brexit assessment as set out in paragraphs 0.18 to 0.25 below, we ask the Minister to:
27.5In anticipation of the Minister’s reply, we draw this Report to the attention of the House and of the Treasury Committee in particular.
Proposal for a Regulation of the European Parliament and of the Council amending Regulation (EU) No.345/2013 on European venture capital funds and Regulation (EU) No.346/2013 on European social entrepreneurship funds: (37956), 11303/16 + ADD1–2, COM(2016) 461.
27.6In 2013, the EU adopted two Regulations to establish European venture capital funds (“EuVECA”) and European social entrepreneurship funds (“EuSEF”). The legislation did not create new types of legal structures, but introduced two quality labels that funds can use to help them market themselves across the EU, provided they meet the relevant criteria (see below). The objective of these EU-wide labels is to increase their users’ capacity to raise and invest capital in innovative SMEs (EuVECA) and social undertakings (EuSEF), and thereby contribute to the EU’s Capital Markets Union by creating a deeper pool of non-bank finance for European companies.
27.7To use either label, a fund must register their intention to do so with the financial regulator of the Member State where they are established. They must also provide information demonstrating compliance with the qualifying criteria, namely:
27.8The Regulations also created a marketing passport: once registered with a national regulator for either a EuSEF or EuVECA label, funds can use that designation for marketing purposes throughout the Single Market. However, the funds cannot be marketed at retail investors unless they can commit at least €100,000 (£89,200) and understand the risks to their capital. Moreover, where the Regulation does not lay down harmonised rules or requirements (for example in relation to capital buffers), each Member State is free to impose its national rules.
27.9Take-up of the labels, in particular for EuSEF, has been low. There are only seven investors with EuSEF designation, of which one is based in the UK. By contrast, there are 129 funds with EuVECA designation (56 of which are UK-based). A 2016 European Commission review of both Regulations found that several factors were holding back the use of the labels, including the maximum asset threshold for eligible funds; the types of investment that the venture capital funds must invest in to maintain their designation; and the divergent national rules, for example relating to minimum capital buffers.
27.10To address these issues, the Commission published a legislative proposal in July 2016 to amend both Regulations. Its proposed amendments would abolish the maximum asset threshold for funds seeking to register for either designation; expand eligible start-up investments for EuVECA funds beyond the existing definition; and make some changes to fee structures and registration processes to decrease costs for managers. It also included a new power for the European Commission to adopt by delegated act a standardised EU-wide approach to calculate the “own funds”, the capital buffer requirements which apply to EuSEF and EuVECA investment vehicles.
27.11The then-Economic Secretary to the Treasury (Simon Kirby) submitted an Explanatory Memorandum on the proposal in September 2016. In it, he strongly welcomes the Commission’s initiative, saying it highlighted the “positive role that the CMU (Capital Markets Union) can play in developing more proportionate, effective and risk-sensitive regulatory frameworks”. However, he expresses the Government’s preference for the inclusion of “as much detail as possible” for the calculation of the “own funds” requirement to be laid down in the Regulation rather than through a subsequent delegated act.
27.12Negotiations within the Council progressed rapidly, and in November 2016 the Minister requested the Committee clear the proposal from scrutiny ahead of the possible adoption of a general approach by COREPER. However, the Minister’s letter also noted that, while progress had been made on establishing a methodology for the calculation of the “own funds” requirement within the text of the Regulation itself, the then-Presidency’s proposals would create a “complex set of requirements” which would be “more burdensome than the UK’s existing regime”.
27.13The previous Committee therefore declined to clear the proposal from scrutiny while further technical negotiations on the “own funds” provisions were in progress, but did issue a scrutiny waiver allowing the Government to support a general approach on the condition that it included an “appropriate outcome” on capital buffers. It also asked the Minister to clarify how the registration process for large asset managers wishing to do cross-border business as an EuVECA or EuSEF would operate after Brexit.
27.14In the event, COREPER did not reach a general approach in November 2016. The following month however, the Minister informed our predecessors that the Government had secured a simplification of the capital buffer requirements and asked for scrutiny clearance ahead of the expected adoption of a general approach by mid-December. With respect to the implications of Brexit, he stated that “ensuring that asset managers have access to EU clients remains a priority for the Government”. The Committee subsequently cleared the file from scrutiny on 14 December 2016, ahead of a COREPER meeting on 16 December 2016 at which the general approach was adopted with the UK’s support.
27.15Following the adoption of the European Parliament’s position on the proposal in March 2017, trilogue negotiations between MEPs and the Maltese Presidency took place. These resulted in an informal agreement on 30 May, under which the following changes will be made to the EuSEF and EuVECA Regulations:
27.16The Commission will also assess the possibility of introducing a management passport for EuSEF and EuVECA fund managers, which would allow them to manage such funds established anywhere in the EU from their home Member State. This assessment will be conducted alongside the Commission’s review of the 2011 Alternative Investment Fund Managers Directive.
27.17The legislation was formally endorsed by the Parliament on 14 September and by the Council on 9 October, with the UK’s support. It was published in the Official Journal on 10 November, and will apply from 1 March 2018.
27.18As the proposal has already been cleared from scrutiny, there are no further formal steps to take by the Committee. However, for completeness’ sake, we have set out below our conclusions with respect to the implications of Brexit for the use of the EuVECA and EuSEF Regulations by UK-based firms. This is especially pertinent given that the UK is a dominant player in the European venture capital funds market, with nearly half of all EuVECA-designated funds based in the UK.
27.19Under both Regulation 345/2013 and 346/2013, only funds which are established in an EU Member State can register for the EuVECA or EuSEF designation. Barring any legal agreement to the contrary, UK-based funds which already have such designations will automatically lose them when the EU Treaties cease to apply in theUK (although they could, either pre- or post-Brexit, establish a new, capitalised entity in another EU country and register for either label there). For those that do not, UK funds will have to stop using the labels within the EU, and they will lose their passport to market their EuVECA or EuSEF investment products in the EU-27.
27.20There is also a potential impact on UK-based start-ups or social enterprises which are in receipt of funding from EuVECA or EuSEF-designated funds based elsewhere in the EU. By law, these funds must invest at least 70 per cent of their capital in “qualifying investments” that meet the objectives of either Regulation (i.e. start-ups for EuVECA and social enterprises for EuSEF). However, before investments into “third country” undertakings (which UK companies will be following Brexit) can be counted towards that 70 per cent threshold, two additional requirements must be met that do not apply to EU-based companies:
27.21As a result of these additional requirements for third country undertakings, the UK’s exit from the EU may act as a disincentive for EU-based venture capital funds to invest in British start-ups. In particular, it is unclear how many tax agreements the UK already has with other EU Member States that meet the criteria set down by the Regulations.
27.22The precise impact Brexit could or will have on flows of venture capital to and from the UK is unknown. According to the Register of EuVECA funds maintained by ESMA, there are currently twenty-three UK-based funds which market their products in other Member States using this designation. Conversely, the Register shows there are forty-five EuVECA funds established elsewhere in the EU which market their products in the UK.
27.23However, the total investment flows from UK-registered funds into EU start-ups and vice versa is not listed. In 2016, the European Commission estimated that approximately 40 per cent of venture capital in the UK was raised from other countries (including the EU-27). This figure does not include investment by the European Investment Fund (EIF) in the UK, which provided €2.3 billion (£1.9 billion) of venture capital in the UK between 2011 and 2015. As an aside, we note that the EIF normally only operates in EU Member States, (potential) candidates for EU membership, and the four EFTA countries. This is therefore another source of venture capital the UK may forgo as a result of Brexit, although the Treasury has consulted on a potential domestic replacement.
27.24We have requested that the Minister share his assessment of the potential impact on UK funds if the Government cannot reach an agreement by March 2019 on allowing UK-based European venture capital funds to continue using the EuVECA designation and passport, and the implications of our withdrawal for venture capital investment in the UK by the EIF. With respect to recipients of EuVECA investment from funds established in another EU country, we have asked him to clarify with which other Member States the UK has signed an agreement based on the OECD Convention, and whether it intends to sign any additional agreements to that effect before March 2019.
27.25However, given the relatively small capitalisation of both EuVECA and EuSEF funds, the implications of the UK becoming a “third country” vis-à-vis the Single Market are likely to be smaller for these funds than they are for UK-based alternative investment funds, asset managers and banks with more substantial cross-border activities into the EU under Single Market legislation. In the light of those implications, we are writing to the Economic Secretary separately to obtain more details about the Government’s plans with respect to negotiations with the EU on a financial services agreement, and its contingency planning if no such agreement can be reached.
Eleventh Report HC 71–ix (2016–17), (14 September 2016); Eighteenth Report HC 71–xvi (2016–17), (18 November 2016); Twenty-Fourth Report HC 71–xxii (2016–17), (14 December 2016); and Thirty-Sixth Report HC 71–xxxiv (2016–17), (22 March 2017).
324 on European venture capital funds.
325 on European social entrepreneurship funds.
326 See “Background” below for more information on the Regulations.
328 on European venture capital funds.
329 on European social entrepreneurship funds.
330 €1 = £0.91973 or £1 = €1.08728 as at 1 September 2017.
331 The €500 million threshold applies only where the assets are unleveraged and cannot be redeemed in the first five years. Otherwise, a threshold of €100 million (£89 million) applies.
332 Under article 3(3)(a) of (the Alternative Investment Fund Managers Directive or AIFMD), AIFs which do not meet a certain threshold for assets under management are not subject to the Directive but must still register with their national financial regulator.
333 The initial definition of a start-up for the purposes of the Regulation is that it cannot be listed; employs fewer than 250 people; and has a turnover of less than €50 million per year. These requirements will be loosened, however (see paragraph 0.15 below).
334 “Social undertakings” are, for example, those dedicated to public health; equal treatment; or social inclusion.
335 ESMA Register, “” (accessed 23 October 2017).
336 ESMA Register, “” (accessed 23 October 2017).
337 See (14 July 2016). The previous Committee set out the contents of the proposal in more detail in its .
338 The current Regulations require managers to hold “sufficient own-funds”, but do not specify either an amount or the methodology to arrive at an amount. Different national rules led to direct and indirect costs funds when marketed across borders, with capital buffers ranging from € 6,500 to €125,000. See the Commission Impact Assessment (), p. 37.
339 submitted by HM Treasury (2 September 2016).
340 from Simon Kirby to Sir William Cash (1 November 2016).
341 See the previous Committee’s .
342 Letter from Simon Kirby to Sir William Cash (12 December 2016).
343 See the previous Committee’s .
345 See document .
346 Directive 2011/61/EU.
347 See the voting result in .
349 Article 2(1)(b) of both Regulations.
350 According to the ESMA Register.
351 Article 3(d)(iv) of both Regulations.
352 Article 26 of the OECD Model Tax Convention is available .
353 The single UK-registered EuSEF fund also markets its products in a few other EU countries. Conversely, two EU-based EuSEF funds (one from Finland and one from France) have told ESMA they are marketed in the UK.
354 See the Commission Impact Assessment (), p. 59.
355 European Investment Fund, (accessed 24 October 2017).
356 HM Treasury consultation, ““ (closed 4 September 2017).
28 November 2017