POLITICS:IN LAST APRIL'S edition of Innovation, I discussed Enterprise Ireland's assertion that it is the largest venture capitalist in Europe. At the time, I found this surprising because I had always thought the largest European funds available were in Israel, but Enterprise Ireland presumably excludes Israel as outside of Europe.
More recently, I have heard concerns from the start-up sector that, although Enterprise Ireland has done valuable work to improve the seed and early stage funding of new ventures, there may be a dearth of funding for follow-on and growth-stage development.
Enterprise Ireland has committed €175 million of taxpayers’ funds into its 2007-12 Seed and Venture Capital Scheme. As of December 2010, it reported that nine new funds had been launched as a result, with a total capacity collectively of €551 million, of which €152 million has come from Enterprise Ireland. As of the same date, these nine funds had so far invested in total just €80 million.
There are a further 15 funds, with a total capacity of €473 million, still operating under an Enterprise Ireland scheme which concluded in 2006. These funds had invested €345 million, as of December 2010.
In addition in the first six months of this year, the Irish Venture Capital Association reported further investments of €162 million by its member firms. So out of the €1,024 million total available, €587 million has now been invested, .
At first sight, it would appear the indigenous venture capital industry is reasonably well positioned, with almost 43 per cent of the total funds raised yet to be invested. These figures are for the domestic seed and venture capital industry, and exclude the Innovation Fund Ireland initiative, which targets international venture capital firms to establish an Irish presence.
There has been strong interest by Enterprise Ireland in supporting seed and early-stage companies, particularly via its High Performance Start-Up (HPSU) programme. Its 2010 annual report notes that 80 HPSUs received seed-stage funding during that year (for a total investment of €19 million) and a further 17 received follow-on funding of (just) €2 million.
Some of the domestic funds have responded to the emphasis on seed and early-stage funding. For example the Equity Fund III LP, a €105 million fund run by Delta Partners, had made 31 investments in seed and early-stage companies by the end of last year, investing €25 million. That leaves €80 million in reserve for follow-on funding.
However, there are industry concerns that some of the other indigenous venture capital funds may not be so well-placed: in some cases there are issues with size of some funds, and in others an overcommitment to earlier investments which have yet to mature.
Clearly, managing financing over the lifetime of a start-up company requires some thought. A classic funding sequence for an innovative company is first the seed stage, to build a proof of concept for the venture; then a Series A investment to start to build out the initial revenue; then a Series B investment to further grow the company; then a Series C investment to prepare the company for an exit by way of a public offering or possible sale to another company; and perhaps a Series D or even Series E if the company has still not developed sufficiently to be able to exit or to be self-sustaining.
Some industries – in particular web and social software – may require relatively little investment and rapidly proceed to either successfully grow or fail.
However others – particularly pharmaceuticals and biosciences – often require substantial investment and in general proceed relatively slowly.
The actual investment required at the various rounds can vary tremendously. Capital- intensive sectors, like semiconductors and bio-sciences, tend to require higher amounts than other sectors. Series A rounds may typically vary from a relatively nominal fee to €10 million, and Series B from €5 million to €50 million: although higher Series B are possible (for example the recent €80 million Series B transaction for accommodation service Airbnb).
In general, Series C, D and E tend to be within a similar range of €5 million to €50 million. It is very rare for a single venture capital firm to exclusively fund any particular round, and typically a small syndicate of venture firms co-invest in each transaction, sharing the risks and rewards.
When a venture capital or seed fund makes an early-stage investment, it is clearly important that it can “follow its money” and invest as necessary in the subsequent funding rounds.If it cannot do so, then there is a danger that new investors in the later funding rounds will substantially dilute the position of the early-stage fund.
It’s not unusual for later stage investors to demand a preferential position over other investors, particularly if they sense that the earlier investors are in a vulnerable or weak position.
When a company is eventually sold, this may result in later stage investors not only getting their own investment back in full ahead of earlier-stage investors, but also profiting from the division of any remaining sum even while the earlier stage investors have yet to recoup their own investment, let alone make a profit.
That’s bad news for the seed and venture capital firm concerned, but it is all the more concerning if Enterprise Ireland funds – taxpayers money – are involved.
Every fund which receives financial support from Enterprise Ireland has a clear obligation to the Irish taxpayers to ensure that there is the best return for the State.
Any fund manager that takes Irish public funds but does not ultimately generate a reasonable return on those funds back to the State as a result of a poor investment strategy would clearly be failing a national expectation.
