ETLA ELINKEINOELÄMÄN TUTKIMUSLAITOS

Transcription

1 ETLA ELINKEINOELÄMÄN TUTKIMUSLAITOS THE RESEARCH INSTITUTE OF THE FINNISH ECONOMY Lönnrotnkatu 4 B Helsnk Fnland Tel Telefax World Wde Web: Keskusteluaheta Dscusson papers No. 832 Ar Hyytnen Lotta Väänänen GOVERNMENT FUNDING OF SMALL AND MEDIUM-SIZED ENTERPRISES IN FINLAND* * Correspondng author: Ar.Hyytnen, Etlateto Ltd, Lönnrotnkatu 4 B FIN Helsnk, E-mal: ar.hyytnen@etla.f. We would lke to thank Pertt Valtonen and Srpa Hautala from the Mnstry of Trade and Industry as well as Pas Holm from the Federaton of Fnnsh Enterprses for helpng us to receve some of the data presented n ths paper. We have also benefted from the materal Harr Laajarnne from Tekes sent us and from the comments provded by Markus Koskenlnna, Eva Lljebolm, Markku Maula, Anu Nokso-Kovsto, Vesa Puttonen, Petr Rouvnen, Otto Tovanen and Pekka Ylä-Anttla. Fnancal support from the Natonal Technology Agency (TEKES) and the Fnnsh Natonal Fund for Research and Development (SITRA) s gratefully acknowledged. The vews expressed n the paper are those of the authors, and do not reflect those of the fundng bodes. The usual caveat apples. ISSN

2

3 HYYTINEN, Ar VÄÄNÄNEN, Lotta, GOVERNMENT FUNDING OF SMALL AND MEDIUM-SIZED ENTERPRISES IN FINLAND. Helsnk: ETLA, Elnkenoelämän Tutkmuslatos, The Research Insttute of the Fnnsh Economy, 2002, 50 p. (Keskusteluaheta, Dscusson Papers, ISSN ; No. 832). ABSTRACT: Not unlke elsewhere, the government n Fnland has been keen to provde fundng to Fnnsh frms, especally to small and medum-szed enterprses (SMEs). In ths paper we revew, n the lght of the economc ratonales for publc efforts to fnance SMEs, all of the government nsttutons provdng SME fundng n Fnland and the objectves and tasks assgned to them. Usng recently collected data on SMEs, we then explore what knds of SMEs apply for and receve government fundng n Fnland. We fnd ) that the rhetorc on what the nsttutons are set to do s not fully n lne wth what the economc ratonales suggest; ) that the total amount of government fundng awarded to SMEs has over the past four years grown qute rapdly and smultaneously wth ncreases n the avalablty of external fnance on the marketplace; and ) that every thrd SME has appled for and receved at least one type of government fundng. Our econometrc results suggest that overall, the characterstcs of SMEs applyng for and recevng dfferent types of government fundng are consstent wth the offcal rhetorc and the general dea of what the dfferent nsttutons are set to do. Our results hghlght the mportance of emphaszng selectvty n the provson of government fundng to SMEs, as we also fnd some evdence that the fundamental screenng problem of fndng out SMEs truly n need for government fundng s not addressed adequately n practce. JEL: E50, G21, G24, G32 KEYWORDS: corporate fnance, government fundng, market falure, SME HYYTINEN, Ar VÄÄNÄNEN, Lotta, GOVERNMENT FUNDING OF SMALL AND MEDIUM-SIZED ENTERPRISES IN FINLAND. Helsnk: ETLA, Elnkenoelämän Tutkmuslatos, The Research Insttute of the Fnnsh Economy, 2002, 50 s. (Keskusteluaheta, Dscusson Papers, ISSN ; No. 832). TIIVISTELMÄ: Kuten monssa mussakn massa, valto on Suomessa ollut varsn nnokas tarjoamaan julksta rahotusta suomalaslle yrtykslle, ertysest penlle ja kesksuurlle (pk-) yrtykslle. Tarkastelemme tässä tutkmuksessa talousteteestä julkselle yrtysrahotukselle löydettävssä oleven perusteluden valossa kakka pk-yrtykslle julksta rahotusta tarjoava valton organsaatota Suomessa sekä nlle asetettuja tavotteta ja tehtävä. Käyttämällä uutta anestoa suomalassta pk-yrtyksstä tutkmme myös stä, mnkälaset pkyrtykset hakevat ja saavat julksta rahotusta Suomessa. Tutkmuksemme osottaa, ) että lansäädännöstä ja muusta sääntelystä löytyvä retorkka stä mtä er julksta rahotusta tarjoavat valton organsaatot on asetettu tekemään (ja mtä ne tse raportovat tehtävstään ja tomnnastaan) e ole täysn lnjassa talousteteestä löydettävssä oleven perusteluden kanssa; ) että pk-yrtykslle myönnetyn julksen rahotuksen kokonasmäärä on vmesen neljän vuoden akana kasvanut melko nopeast ja nähtäväst samanakasest markknaehtosen ulkosen rahotuksen saatavuuden kanssa; ) että joka kolmas pk-yrtys on tähän mennessä hakenut ja saanut rahotusta vähntäänkn yhdeltä julksta rahotusta tarjoavalta valton organsaatolta. Ekonometrset tuloksemme vttaavat shen, että kokonasuutena tarkasteltuna ertyyppstä julksta rahotusta saaven ja hakeven pk-yrtysten omnasuudet ovat yhdenmukasa vrallsen retorkan kanssa, ja sen kanssa mtä ko. organsaatoden tulskn tehdä. Tuloksemme osottavat kutenkn myös, että vo olla, että julksta rahotusta todella tarvtseven pk-yrtysten löytämseks e ehkä ole panostettu rttävässä määrn. Tutkmuksemme tulokset tukevat ajatusta, että julksen rahotuksen tuls olla valkovaa el kohdstua van nlle yrtykslle, jotka stä todella tarvtsevat. ASIASANAT: yrtysrahotus, julknen rahotus, markknoden epäonnstumnen, pk-yrtykset

4 Table of Contents 1 INTRODUCTION THEORETICAL CONSIDERATIONS INSTITUTIONAL DESCRIPTION HISTORICAL BACKGROUND GOVERNMENT INSTITUTIONS FUNDING SMES ASSESSMENT EMPIRICAL ANALYSIS DESCRIPTIVE ANALYSIS ECONOMETRIC ANALYSIS ASSESSMENT CONCLUSIONS...33 REFERENCES...35

5

6 1 Introducton Not unlke elsewhere, the government n Fnland has recently been keen to provde fundng to Fnnsh frms, especally to small and medum-szed enterprses (SMEs). 1 In ths paper, we focus on the followng set of questons: Whch government nsttutons provde fundng to SMEs n Fnland? What are they set to do? What s the relatve mportance of the dfferent government nsttutons provdng SME fundng? How has the total amount of government fundng awarded to SMEs developed n the recent past? What knds of SMEs apply for and receve government fundng? Are there systematc dfferences between SMEs that apply for and receve the dfferent types of government fundng? A natural startng pont for consderng these questons s the Natonal Industral Strategy for Fnland that was publshed n 1993 by the Mnstry of Trade and Industry (MTI) amdst the economc and bankng crss that Fnland experenced n the early 1990s. 2 The report concluded (p. 138) that Fnancng s one of the most dffcult problems of small and medum-szed enterprses and emphaszed (p. 143) that The shorng up of the bankng system and development of captal markets would promote ndustral growth. Fgure 1 dsplays survey data on the percentage of Fnnsh SMEs reportng that the avalablty of captal s the most sgnfcant obstacle to developng the frm. The data suggest that the concerns put forward n the MTI report were not unfounded, as the avalablty of captal was the greatest concern to many SMEs n What the fgure also shows s that thngs have changed dramatcally snce then. Today, only about 5 percent of SMEs regard the avalablty of captal as the most sgnfcant obstacle to developng the frm. [Insert Fgure 1 here] 1 2 Followng the recommendaton by the European Commsson 96/280/EU, an SME s n ths study defned, whenever possble, as a frm that employs less than 250 people and that ether has an annual turnover of at most 40 mllon euros or a balance sheet total of at most 27 mllon euros, and less than 25 percent of the shares are owned by large companes. An SME councl report of the MTI, wrtten n 1990, had already emphaszed the mportance of developng the Fnnsh venture captal ndustry that had begun to emerge n the 1980s but that almost dsappeared because of the economc dstress of the early 1990s. See Seppä (2000, p. 214) for further detals.

7 2 A smlar portrat of the current stuaton of the Fnnsh captal markets as that conveyed by Fgure 1 emerges from the survey data reported n the IMD World Compettveness Yearbook 2002: among the 49 countres researched, Fnland ranks frst n the queston of how easly credt flows from banks to busnesses; second n the queston of how easly venture captal s avalable for busness development; and fnally, fourth n the queston of how adequately the stock market provdes fnancng to companes. 3 Seed Captal n the Nordc Countres: Best Practce, a report of the Nordc Industral Fund, argues that Fnland has the best functonng seed captal market n the Nordc regon. Fnally, the Global Entrepreneurshp Montor -report from 2001 mostly echoes these results: among the 29 countres researched, Fnland ranks fourth n the analyss of how easly entrepreneurs can access debt and equty. Faced wth ths evdence, t s dffcult to dsagree wth the vew that the avalablty of external fnance to Fnnsh frms has on the whole mproved. Provded that the nvestment opportuntes of Fnnsh frms have not dramatcally decreased, there are three mutually non-exclusve explanatons for the drastc reducton n the perceptons of how tght the market for captal s for a representatve frm: ether good proftablty of frms has reduced the overall demand for external fnance 4, the functonng of the prvate captal market has mproved sgnfcantly or government fundng has successfully complemented the prvate market. In ths paper, we focus on the last of these explanatons by studyng the government fundng of SMEs n Fnland. How government fundng gets allocated across SMEs s a queston that has earler been addressed only to a lmted extent, f at all. 5 The queston s however topcal and of frst rate mportance, not least because recent evdence suggests that certan types of SMEs may stll face problems n rasng external fnance (despte that the overall avalablty of external fnance to frms has mproved). The most recent survey (from 2002) by the Federaton of Fnnsh Enterprses and Fnn In addton, Fnland ranks frst n the queston of how well rghts and responsbltes of shareholders are defned. Because nvestor protecton has been found to be an mportant determnant of the avalablty of external fnance to frms, ths could be regarded as an ndcaton of the avalablty of fnance to frms n the long-run. There s some evdence supportng ths vew. For example, accordng to the survey data reported n the IMD World Compettveness Yearbook 2002, Fnland ranks frst n the queston of how suffcent cash flow s generally to allow companes to self-fnance. In general, Fnland s publc fnancng programs have been regarded as compettve and successful (see, for example, Muoto (1998), MTI (2000), and Prht et al. (2000), the studes summarzed n Asplund (2000), and Rouvnen (2002)). However, relatvely few studes have taken a holstc look at the allocaton of SME fnance. Therefore, relatvely lttle s known about the characterstcs of SMEs that apply for and receve government fundng from varous government organzatons

8 3 vera Ltd for example ndcates that the avalablty of external fnancng s a problem for as many as every second growth-orented SME. Further, the Global Entrepreneurshp Montor -report from 2001 shows that among the 29 countres researched, Fnland ranks (nterestngly) only sxteenth n the analyss of how smoothly the markets for venture captal, angel fnance and ntal publc offerngs operate. We concentrate on the man nsttutons that currently provde government fundng to Fnnsh SMEs. They are the State-owned specalzed fnancng company Fnnvera, the Fnnsh Natonal Fund for Research and Development (Stra), the Natonal Technology Agency (Tekes) and the government venture captal frm Fnnsh Industry Investment (FII). Fnancng to SMEs also flows from the budgets of varous mnstres through regonal Employment and Economc Development Centers (TE-Centers) and from varous regonal governmental and sem-governmental venture captal frms. On the whole, these nsttutons provde SMEs wth fnancng va a varety of tools, ncludng gratutous (.e. non-repayable) fundng, such as drect subsdes, grants, ad, and guarantees, and non-gratutous fundng (.e. fundng that s repayable or provded n exchange for, e.g., an ownershp stake n the frm) such as loans, captal loans, and drect equty nvestments. 6 The rest of the study s organzed as follows. In secton 2 we revew the man economc ratonales for provdng government fundng to SMEs. In secton 3, we descrbe the sources of government fundng to SMEs n Fnland. Secton 4 presents an emprcal analyss of the characterstcs of SMEs applyng for and recevng government fundng. Secton 5 concludes. 2 Theoretcal Consderatons Economc analyss suggests two man ratonales for governments to subsdze or to drectly provde fundng to SMEs, especally to technology ntensve SMEs (see e.g. Lerner, 1999). Frst, publc fnance theory posts that f SMEs are a unque source of 6 In addton to SME fnancng, the nsttutons offer varous support actvtes that nclude servces and consultng, tranng, networkng programs, and research. TE-Centers offer a varety of consultng and advsory servces, as well as tranng programs. Tekes promotes networkng n R&D through ts Technology Programs, and Stra supports networkng n both ts nnovatve programs as well as n ts equty fundng. Furthermore, Stra plays an mportant role n tranng and n conductng socetal research, and Tekes fnances both basc and appled research at unverstes, research nsttutons, and companes. Other governmental and sem-governmental organzatons also provde non-fnancal support to SMEs. For example Fnpro has a role n promotng SME nternatonalzaton by offerng marketng servces and market nformaton. In ths paper we focus on fundng and abstract almost entrely from these non-fnancal support programs.

9 4 new deas and growth that generate benefcal externaltes to other ndustres and frms, supportng them s approprate. For example, because the socal return from SMEs R&D expendtures may exceed the prvate returns due to knowledge spllovers (Grlches 1992), frms wll tend to undernvest n R&D from the socal pont of vew. Second, captal market mperfectons, such as asymmetrc nformaton between frms and fnancers, may result n persstent fundng caps that constran the brth of new enterprses, nvestments n nnovatve actvty and the growth of SMEs (see also Cressy 2002). If that s the case and f government organzatons are able to successfully dentfy frms that have unduly been excluded from recevng external fnance n the marketplace, government fundng mght boost frm creaton, nnovaton and growth, because t then rectfes captal market falures. 7 Doubt has been cast even on these two ratonales. Holtz-Eakn (2000) argues that evdence does not support the vew that SMEs provde a dsproportonate share of new deas n the economy or that SMEs are producng too lttle nnovatve actvty because they cannot capture the socal return from t. Moreover, he emphaszes that even though a growng body of lterature suggests that mperfectons n captal markets, such as asymmetrc nformaton, may mpede entrepreneurshp and nnovaton, the lterature does not show that too few busnesses are created each year, or that the wrong frms get fnanced (p. 286). De Meza (2002) moreover argues that subsdzng credt may under asymmetrc nformaton decrease effcency, because the effect wll be to draw n more low-qualty types, resultng n too much unsound enterprse. And even f captal market mperfectons were an mportant obstacle to entrepreneurshp and nnovatve actvty, the problem would stll be, as emphaszed by Holtz-Eakn, that the government faces exactly the same dffculty [as the fnancal sector] and unless t somehow has an ablty greater than the fnancal sector to dscern the probablty of busness success, there s lttle that t can do to more effcently allocate credt [captal]. (p. 287) In addton, f the government nsttutons were better than prvate sector fnancers n dentfyng SMEs that are of hgh qualty, they mght also be able to encourage prvate sector fnancers to nvest n some of the SMEs that would otherwse reman unfunded n the marketplace (certfcaton hypothess). See Lerner (1999) for further dscusson. Holtz-Eakn also consders whether nsuffcent rsk-takng and market neffcency would consttute a ratonale for treatng SMEs preferentally. He concludes that they do not and that on the bass of economc analyss t s surprsngly dffcult to construct a case n favor of systematcally favorng small busnesses. (p. 283).

10 5 The two man ratonales for governments to provde SME fundng and the doubt cast by Holtz-Eakn suggest that government fundng should, f t s to be provded at all, be allocated across SMEs selectvely. Frst, not all frms (should) choose to apply for t. Second, f government organzatons am at fnancng ) frms that generate benefcal externaltes to socety and other ndustres and ) frms that suffer from captal market mperfectons, frms that chose to apply need to be screened by the nsttutons provdng government fundng to fnd out those truly elgble for t. Taken together, these consderatons call to mnd two thngs: Frst, market falures,.e., the nablty of SMEs to approprate the benefcal externaltes that they generate and the mperfectons n the market for SME fnance, are not a suffcent argument for a government to provde SME fundng. To rectfy the market falures, t s requred that they can be dentfed and, partcularly, that the nsttutons provdng government fundng can solve the fundamental screenng problem of beng able to determne those truly elgble for government fundng. 9 Otherwse, there s a non-neglgble rsk of government falure,.e., that prvate actvty s crowded out and that publc funds are used neffcently. Solvng the fundamental screenng problem s costly but amounts to nothng less than avodng undesrable and counterproductve transferrng of ncome (captal) between dfferent sectors of the economy and rasng captal va (dstortng) taxaton n van. 10 Second, because the nsttutons provdng government fundng should accordng to the economc ratonales be set to rectfy market falures, they should (almost by defnton) pursue the knds of actvtes that are not prvately proftable. What means s that these actvtes cannot n economc terms be proftable n the long-term. In fact, f they were, t would consttute evdence that the nsttutons are not solvng the fundamental screenng problem and takng suffcent rsks, and that they practce busness actvty that competes wth the prvate sector. In what follows, we take a look at the government fnancng of Fnnsh SMEs and contrast t wth the two man economc ratonales for governments to provde fundng to SMEs. We frst examne whether and how the ratonales and the fundamental screenng 9 10 Ths means that there s a huge amount of nformaton that the nsttutons provdng government fundng should process to overcome the same nformaton asymmetres that the prvate sector fnancers cannot and to dentfy SMEs that are lkely to generate postve externaltes. de Meza s (2002) conclusons further qualfy ths vew. He emphaszes that there s a real possblty that lendng needs to be curtaled, rather than expanded, to ncrease effcency.

11 6 problem are taken nto account n the rhetorc of the Fnnsh legslaton governng the government nsttutons that support the Fnnsh corporate sector. Thereafter, we analyze recently collected data to explore the characterstcs of SMEs partly fnanced by Fnnsh taxpayers money. 3 Insttutonal Descrpton The Fnnsh legslaton contans two Acts on the use of government funds n grantng government ad and busness subsdes n general. 11 These provde nformaton on the general ams and condtons of government support. The Act on government ad 688/2001 apples to the use of government funds n government ad. It refers to the grantng of subsdes, loans and other fnancng, nterest subsdes, guarantees, and other smlar benefts. Secton 7 of the Act descrbes the general condtons on the grantng of government ad: 1) the purpose for whch the ad s granted s socally acceptable; 2) the grantng of government ad s justfable based on the ams set for the use of the ad; 3) the grantng of government ad must be consdered necessary, takng nto account any other publc support receved by the applcant, as well as the qualty and scale of the project or operatons targeted; as well as 4) the grantng of government ad s not estmated to cause more than mnor dstortons on competton and the market, n a state belongng to the European economc area 12. (Authors translaton) The Act on the general condtons on busness subsdes 786/1997 apples to the grantng of busness ad drectly or ndrectly from government funds. Busness subsdes refer to government ad and nterest subsdes as well as loans, guarantees, or other fnancng, whch nvolve a subsdy to the recpent. 13 Secton 3 descrbes the general objectves of a busness support program: A busness support program must promote the growth potental of the economy as well as ncrease the effcency of busness actvty. A busness support program must be targeted prmarly to such purposes, whch remove defcences n the market. (Authors translaton) A busness support program must be composed n such a way that the dstorton on competton s mnmzed. (Authors translaton) The source of all the quotes on the legslaton s the database at Translatons are authors own. Artcle 87 of the EC Treaty, 87(1): 1. Save as otherwse provded n ths Treaty, any ad granted by a Member State or through State resources n any form whatsoever whch dstorts or threatens to dstort competton by favourng certan undertakngs or the producton of certan goods shall, nsofar as t affects trade between Member States, be ncompatble wth the common market. Secton 2 also defnes a busness support program: A busness support program refers to a system, whch s based on legslaton or offcal decson, where the target, form and amount of the busness subsdy s defned, and by vrtue of whch ndvdual busness subsdy decsons are made. (Authors translaton)

12 7 A busness support program must be drected prmarly at research, product development, educaton, nternatonalzaton or other ntangble busness develop-ment or mprovng the compettveness of SMEs n the long term. For fnancng typcal large company nvestments and workng captal, busness subsdes can be granted only on specal grounds. (Authors translaton) Secton 5 descrbes the general condtons on busness subsdes: Busness subsdes can only be granted for such busness actvty, whch s est-mated to have the requstes for contnuous proftable actvty. The gver of the subsdy, when makng the busness subsdy decson, must establsh the amount of publc support as well as the total fnancng, proftablty and effects on compet-ton of the project n queston. (Authors translaton) In Fnland, the government has empowered the MTI to create and mplement polces that provde an envronment conducve to the establshment of new busnesses and ther growth, where an mportant aspect s the development of corporate fnancng. Accordng to the MTI, the objectve s to mprove the fnancng envronment by measures correctve of operatve defcences of the market and by actons promotng market operatons 14 Of the currently actve government nsttutons provdng SME fundng, the MTI admnsters Fnnvera, Tekes, TE-Centers, and FII. These nsttutons serve as the publc specal fnancng nfrastructure n the Fnnsh economy. In addton to the nsttutons admnstered by the MTI, Stra and varous regonal governmental and semgovernmental venture captal frms provde fundng to Fnnsh frms. 3.1 Hstorcal background The currently actve nsttutons provdng SME fnance were establshed durng two waves of government actvty. The frst wave began already n the 1960s, when the Fnnsh captal markets were heavly regulated. Fnancng of frms, especally SMEs, and nnovatve actvty was then a cause of concern especally to a couple of nfluental ndvduals at the Bank of Fnland (see Rosenlew 1985 and Seppä 2000). 15 To address the concern, the Fnnsh government together wth the Bank of Fnland establshed a semgovernmental venture captal frm, Sponsor, and Stra, n Other government organzatons were also establshed durng the era of regulated captal markets. In 1971, Kehtysaluerahasto Oy (the Fund for Developng Regons, known then as Kera and today as Fnnvera) was founded to subsdze busnesses and provde loans especally to Source: Mnstry of Trade and Industry web ste Seppä (2000) carefully ctes Rosenlew and also provdes other references on contemporary accounts of Fnnsh frm fnance.

13 8 frms resdng n the less developed rural areas. In the early 1980s, no less than seven regonally focused government development companes, (knd of venture captal frms), were establshed by the muncpaltes and Kera. Establshng Tekes n 1983 to advance the fnancng of R&D and nnovatve actvty eventually completed the frst wave. Much has happened after the frst wave ended. Followng the fnancal lberalzaton and credt boom of the 1980s, Fnland underwent n the early 1990s the most serous cyclcal downswng n the ndustralzed countres snce the Great Depresson of the 1930s (see e.g. Kander and Varta 1996, and Honkapohja and Koskela 1999). Integral to the economc dstress was a major bankng crss that led to heavy government nterventon and complete reorganzaton of the Fnnsh bankng sector. 16 Because banks had for decades been the major source of external fnance to Fnnsh SMEs, t s no surprse that n the Fnnsh ndustral polcy, the SME sector and ts fnancng receved specal attenton n the early 1990s. The second wave of government actvty can be sad to have begun when a new government venture captal frm, SFK Fnance Oy, was establshed n 1990 by Kera to manage a new government venture captal fund, Start Fund of Kera. At about the same tme, n 1991, Stra, whch had been actve n developng the venture captal culture already at the end of the 1980s, was separated from the control of the Bank of Fnland, transferred to under the supervson of the Parlament, and actvated as a venture captal nvestor. Inspred, at least n part, by the suggestons of the Natonal Industral Strategy for Fnland and by the example of the European Investment Fund as well as Norwegan and Swedsh government ntatves, the government fund of funds, FII, was establshed n 1995 to promote the development of venture captal n Fnland. In 1997, TE-Centers were establshed. The second wave was completed n 1999 when the State-owned specalzed fnancng company Fnnvera was created through the merger of Kera and the Fnnsh Guarantee Board. 16 Snce the end of the frst wave, the Fnnsh fnancal system has dsengaged from relatonshp-based debt fnance towards ncreasng nfluence of stock markets. Durng the same perod, also credtor protecton has been weakened whle shareholder protecton has been strengthened (Hyytnen, Kuosa and Takalo 2002).

14 9 3.2 Government Insttutons Fundng SMEs Fnnvera plc Fnnvera plc s a State-owned specalzed fnancng company admnstered by the MTI. It also s Fnland s offcal Export Credt Agency and acts as an ntermedary between the European Unon s fnancng programs and Fnnsh SMEs. As we mentoned n the prevous secton, Fnnvera obtaned ts present form n the begnnng of Its actvtes are regulated by a number of Acts. The Act on the State-Owned Specalzed Fnancng Company 443/1998 descrbes the offcal purpose of Fnnvera. Accordng to secton 1 of the Act, Fnnvera s objectve s: to promote and develop partcularly SME operatons as well as frm nternatonalzaton and export operatons, by offerng fnancng servces. In ts actvtes, the nsttuton must also promote government s regonal polcy measures. The operatons must be drected at correctng any defcences that exst n the provson of fnancal servces. 17 (Authors translaton) Secton 2 of the Act defnes the tasks set for Fnnvera: The company practces fnancng actvtes by provdng and managng credt, securtes and guarantees as well as other commtments. The company also conducts research related to busness fnance, and provdes busness development servces and advce. (Authors translaton) The Act on Credts and Guarantees Provded by the State-Owned Specalzed Fnancng Company 445/1998 sets that the fnance must be drected prmarly at SMEs. It also sets that credt can be granted wthout suffcent collateral or wth no collateral, and that for specal loans the government pays nterest subsdes to Fnnvera that t channels to the frms. The Act on State s Export Credt Guarantees 422/2001 sets that the objectve of export guarantee actvtes s to strengthen the economc development n Fnland by promotng exports and frm nternatonalzaton. Export credt guarantees are granted to cover for the rsk of losses from exports and nvestments abroad. Fnnvera s msson s drectly taken from the objectves set by law. How Fnnvera perceves ts poston n the market s best descrbed by quotng the Managng Drector: Fnnvera has ganed an establshed poston as a co-operaton partner sharng the fnancal rsks of Fnnsh enterprses, regardless of whether these enterprses have just started ther busness, are n the phase of growth and nternatonalzaton, or already operate n the export market The followng quote from Fnnvera s Annual report hnts at how Fnnvera s montored: Defcences on the fnancal market are charted annually by means of fnancal studes and analyses. By montorng [Fnnvera], t s determned how well [Fnnvera s] operatons can compensate for exstng fnancal market defcences. (Fnnvera s Annual report 2001, p.26) Fnnvera s Annual Report 2001, p.4

15 10 Secton 4 of the Act on the State-Owned Specalzed Fnancng Company 443/1998 sets the economc prncples governng Fnnvera s operatons: Fnnvera must am at self-suffcency,.e. that the expenses from ts operatons can be covered wth ncome from ts operatons n the long term. To cover such actvtes that the government decdes to support separately, the requred appropratons are ncluded n the state budget. (Authors translaton) However, As a publc lmted company that operates n an nherently rsky nvestment envronment, the State has establshed certan provsons that allow the company to take rsk whle remanng self-suffcent. 19 (MTI 2000) Fnnvera s servces are offered both through ts own natonal network of 16 regonal offces and through the cooperaton network of other publc organzatons provdng servces for enterprses. The followng two quotes, taken from Fnnvera s web ste, refer to the crtera Fnnvera apples when grantng fnance: Fnnvera's objectve s to provde rsk fnancng to enterprses wth a sound bus-ness dea and precondtons for proftablty when a company has nsuffcent col-lateral to rase funds for nvestments and development projects. The fnancng decson s preceded by a company analyss conducted by Fnn-vera s corporate analyst, that analyses the company s busness operatons, own-ershp, management, and fnances. The company s potental for success s evalu-ated based on these. (Author s translaton) Fnnvera s busness fnancng ncludes loans, guarantees and export credt guarantees. Fnnvera offers entrepreneur loans for startng up a busness, development loans for busness development projects, nvestment and workng captal loans and guarantees, a varety of nternatonalzaton loans and guarantees, and envronmental loans and guarantees. Accordng to Fnnvera, t s able to offer nterest-subsdzed specal loans and accept collateral for loans consdered nsuffcent by the prvate sector. Specal subsdzed loans are also avalable for frms n the European Unon s objectve regons. Fnnvera also engages n rsk sharng wth the prvate sector. It has, for example, establshed cooperaton relatons wth banks and nsurance nsttutons n whch the role of Fnnvera s to share rsk by guaranteeng loans. Fgure 2 shows the total amount of domestc fnancng granted by Fnnvera (and ts predecessors Kera and Fnnsh Guarantee Board) over the years The Fnnvera s exempt from the Act on Credt Insttutons; as well t s beyond the Bankng Supervsory Authortes jursdcton The Republc of Fnland provdes annual assstance to t n three addtonal ways: nterest rate subsdy, credt and guarantee loss subsdy, and operatng subsdy. (MTI 2000, p.31) All the tme-seres presented n ths paper have been deflated usng the consumer prce ndex so that the tme-seres data are measured at 2001 prce level.

16 11 total amount granted, consstng of loans and guarantees, has ncreased by about 20% n real terms over the fve years. Ths s mostly the result of a large ncrease of 48% from the year 1999 to 2000 n the amount of guarantees granted. The amount of loans granted has ncreased by only 5% over the whole fve-year perod. As a result, the share of guarantees n Fnnvera s fnancng has ncreased from less than half to more than half. Whle not shown n the fgure, the share of Fnnvera s total domestc fnancng that s drected to SMEs s slghtly below 90% and has ncreased a lttle over the years. 21 [Insert Fgure 2] The Natonal Technology Agency (Tekes) Tekes s the man fnancng organzaton for R&D n Fnland. The Act on the Natonal Technology Agency 429/1993, secton 2, sets the objectve for Tekes: to promote the socetal welfare and stable development by mprovng drectly or ndrectly the technologcal evoluton and competence of ndustry to enhance ts ablty to develop nternatonally compettve products, processes and servces. (Authors translaton) Secton 3 specfes the tasks set for Tekes: The Natonal Technology Agency plans, fnances, and admnsters R&D projects that promote the development and utlzaton of technology. It funds and consults n ventures amed at the development of products, processes and servces as well as promotes wdespread utlzaton of nternatonal technologcal know-how and cooperaton, and technology transfer. In addton, Tekes takes part n the plannng of Fnnsh technology and nnovaton polces along the lnes gven by the MTI. (Authors translaton) The decree on the Natonal Technology Agency 467/1993, secton 1, defnes the actvtes stated n the Act n more detal, wth addtonal references to: strengthenng compettve, technology-based busness actvty partcularly n the SME sector. (Authors translaton) developng the technologcal cooperaton between frms and research nsttutes to facltate effectve utlzaton of research results n busness. (Authors translaton) The decson of the Councl of State 461/1998 sets the general rules governng the grantng of fnance for technologcal research and development. Tekes can grant subsdes and loans (ncludng captal loans) to companes and other assocatons for the pur- 21 Over the years , Fnnvera s fnancng granted to mcro frms (defned as frms employng less than 10 people) has ncreased (n 2001 prces) from just over 150 mllon to around 180 mllon, and that to other SMEs has gone up from 320 to 450 mllon. Fnnvera s foregn rsk-takng commtments are mostly drected to major companes. Well below ten per cent of guarantees coverng foregn rsks are granted to SMEs, yet out of Fnnvera s 240 foregn rsk-takng clents, one thrd are SMEs.

17 12 pose of technologcal research and development. The decson sets the amounts of subsdes and loans that can be granted. Where the fnance s drected to SMEs, EU projects, cross-natonal R&D projects or cooperaton of the publc and prvate sector, the amounts can be rased (by 10-25%). Where fnance s granted to large companes, some degree of networkng or other cooperaton s requred. The loan nterest rates charged by Tekes are below the market rate and the maturty of ts loans can be up to ten years. 22 The repayment of the loan can be termnated f the R&D project fals or does not lead to proftable busness. Tekes msson statement, as found on ts web ste, states that: Tekes prmary objectve s to promote the compettveness of Fnnsh ndustry and the servce sector by technologcal means. Actvtes am to dversfy producton structures, ncrease producton and exports, and create a foundaton for employment and socal wellbeng. Furthermore, Tekes has translated ts tasks nto strategc goals: [1] to strengthen the natonal knowledge base n the sectors of socety and the economy most mportant n terms of Fnland s future. [2] to ncrease the number of technologybased companes and ensure ther growth. [3] to ncrease the number of companes that engage n R&D, and to ensure that R&D projects mplemented are more challengng and longer-term. [4] to produce commercally vable results from R&D and accelerate ther commercal applcaton. [5] to ensure that technology polcy supports regonal development. Tekes fnancng s decded and determned annually and comes drectly from the state budget. It does not have a requrement for self-suffcency. Tekes offers ts servces through ts own personnel at the regonal TE-Center offces, through ts headquarters n Helsnk, and also through four offces abroad. Accordng to Tekes, ts fundng s targeted at projects, whch are expected to produce new know-how, and bear hgh technologcal and commercal rsks. Some of the qualfcaton crtera for recevng fnance from Tekes are presented on Tekes web ste: The followng factors are evaluated: the company's compettveness and growth, the compettve advantages of the technology or technque, the company s re-sources, and how Tekes fnancng wll nfluence the project. Tekes takes a postve vew towards projects that nvolve networkng wth other companes, jont ventures, the use of local SME subcontractors n the case of larger companes, partcpaton n natonal technology programs, contractng of servces from Fnnsh research nsttutes and unverstes and promoton of nternatonal co-operaton. The results of the work wll have to mprove the compettveness and expertse n Fnnsh ndustry. 22 The nterest rate s three percentage ponts below the Central Bank rate, yet at least 1%. The nterest rate on captal loans s two percentage ponts hgher than that for loans. The frst fve years can be free of repayments.

18 13 Tekes uses all types of fnancng that the decson of the Councl of State allows t to use: ndustral R&D grants and loans, captal loans for R&D, and research fundng. 23 In addton to fundng varous knds of R&D projects usng these nstruments, Tekes organzes technology programs n selected strategc areas. The am of these programs s to promote the compettveness of ndustry and enhance technologcal cooperaton and networkng. Fgure 3 presents the amounts of Tekes fnancng over the past fve years, dvded nto ndustral R&D loans, captal loans, grants to companes, and research fundng for unverstes and research nsttutes. We see that the bulk of Tekes fnancng s n the form of R&D grants and research fundng. On the whole, Tekes fnancng has ncreased by 8% n real terms over the years From 1997 to 1999, there was a real ncrease of 18% n fnancng but ths has been offset by a decrease of 8% from 1999 to One sgnfcant trend s that captal loans have ganed mportance n Tekes fnancng; over the fve-year perod the amount of captal loans granted has more than doubled. The share of Tekes total fnancng that s drected to SMEs has ncreased from a lttle above 40% to over 50% durng the fve years. 24 [Insert Fgure 3] The Fnnsh Natonal Fund for Research and Development (Stra) Stra s an ndependent publc foundaton under the supervson of the Fnnsh Parlament. The Fund was set up n conjuncton wth the Bank of Fnland n 1967, and transferred to the Fnnsh Parlament n The Act on the Fnnsh Natonal Fund for Research and Development 717/1990, secton 2, sets the objectves for Stra: to promote stable and balanced development, busness actvty and ts qualty, as well as nternatonal compettveness and cooperaton of Fnland by undertakng such ventures, whch have the effect of more effcent use of resources or mprovng the standard of research and educaton, or whch explore future development opportuntes. (Authors translaton) Secton 3 defnes the actvtes that Stra can undertake to acheve ts ams: The Fund can: 1) conduct or outsource research, 2) grant loans and other fnancng (the repayment of whch can be made condtonal), 3) grant subsdes, 4) grant securtes and In companes product development projects Tekes typcal share of total project fnance for SMEs s 35% n R&D grants, 45% n captal loans, and 70% n R&D loans. These fgures are hgher for SMEs than for large companes. For companes research projects the respectve fgures are 50%, 60%, and 70%. From 1997 to 2001 Tekes fnancng granted to small frms has by 42% n real terms, and that to medum-szed frms has gone up by 32% n real terms.

19 14 guarantees, as well as 5) partcpate n cooperaton projects and own shares n companes. (Authors translaton) Sectons 4-7 of the Act set the economc prncples for Stra s actvtes. Secton 5 states that: The operatons of the Fund are fnanced from ts endowment captal and returns from ts fnancng actvtes. (Authors translaton) Secton 6 adds that: The government can take appropratons n ts budget to ncrease the endowment captal of the Fund. Appropratons can also be taken to fnance the operatons descrbed n secton 3. (Authors translaton) Stra s own nterpretaton of ts ams and tasks, found on ts web ste and annual reports, concdes wth the rhetorc n the legslaton but s rather general n nature: The Fund ams to promote Fnland s economc prosperty by encouragng research, backng nnovatve projects, organzng tranng programs and provdng venture captal. Stra ams to further economc prosperty n Fnland by developng new and successful busness operatons, by fnancng the commercal explotaton of expertse, [and] by promotng nternatonal compettveness and co-operaton. Wth regard to ts busness fnancng actvtes: The prncpal purpose of Stra s corporate fundng s to create and develop compettve and proftable busness n Fnland by offerng entrepreneurs and companes fnancng and servces to help them develop. (Annual Report 2001, p.22) The busness fnancng actvtes are dvded nto four areas: technology, lfe scences, regonal operatons and early stage SMEs. Accordng to Stra, ts venture captal operatons focus on start-up companes, companes n the phase of product development, and especally on nnovatve technology companes. In Stra s Annual Report 2001 Stra s technology team specfcally states that t concentrates on those areas where prvate nvestors are not yet prepared to provde fundng alone (p. 12). Stra offers ts servces through ts offce n Helsnk. The followng quotes from Stra s web ste provde us wth some nformaton on how Stra assesses the projects to be fnanced: Stra nvests n companes whose actvtes are based on technologcal nnovatons or other specal expertse and whch can also be expected to become mportant busness actors. Very often a company s growth depends on ts possblty of gan-ng access to the nternatonal arena. The object of Stra s nvestment may also be a project whose am s to found a company that wll explot research carred out by a research nsttute or unversty. Stra evaluates the followng factors before decdng to provde captal: the market potental of the company s products, the unqueness of the technology and whether t can be

20 15 protected, the company s prospects for growth, the weakness and strengths of the company s management, and the company s compettveness. 25 Though Stra could use a varety of fnancng nstruments, t fnances frms manly usng equty and equty-lnked nstruments. 26 Usng these nstruments, Stra collaborates wth both publc and prvate nvestors. 27 In addton to ts drect nvestments, Stra makes nvestments n nternatonal funds and management companes, regonal funds and management companes, and other Fnnsh funds and management companes. 28 Fgure 4 presents Stra s fnancng fgures for the years Fnancng s dvded nto research, nnovatve projects and tranng (RIT), drect nvestments, and domestc and nternatonal fund nvestments. The amount of drect nvestments made annually has ncreased by 142% n real terms over the fve years. Fund nvestments have vared from year to year, year 2000 beng a peak year, when large nvestments nto nternatonal funds were made. In 2000, also portfolo nvestments nearly doubled, and thus the total amount of fnancng granted more than doubled from 1999 to Overall, more than half of the nvestments go to portfolo companes. 29 [Insert Fgure 4] Fnnsh Industry Investment (FII) FII s a State-owned equty nvestment company, admnstered by the MTI. The Act on Fnnsh Industry Investment Ltd. 1352/1999 sets the objectve for FII: To mprove the condtons partcularly for SME operatons by nvestng equty nto venture captal funds. FII can also make equty nvestments drectly nto target companes partcularly n busness ventures requrng long-term rsk takng. (Authors translaton) Compettveness s evaluated usng the followng yardstcks: the nvolvement of the entrepreneurs, the credblty of the concept, the techncal and commercal compettveness of the product/s, market and transfer prospects, strength of know-how and technology, suffcent expertse n entrepreneurshp Stra s holdng n the start-up stage s usually per cent. At the same tme, Stra's representatve partcpates as a board member n the management and the runnng of the company, and helps the company to establsh nternatonal contacts. In general the sze of Stra s nvolvement vares between mllon. Ext from portfolo nvestments takes place normally wthn 3-6 years. The most lkely partners are from the publc sector, especally Tekes, from whch nearly all Stra s companes have receved fundng (Annual report 2001, p. 22) and about a half of Stra s portfolo conssts of syndcatons (Annual report 2001, p. 12) Accordng to Stra, t also ams at creatng SME networks for promsng felds of busness. It also tres to fll the (fnancng) gap between a busness dea and venture captal. To ths end, t together wth Tekes set up a PreSeed fund n 2001 that provdes fnancng n two phases. The frst phase, LIKSA, funds the development of a busness plan from a proftable dea. The second phase, INTRO, ntroduces companes to prospectve nvestors. Fnally, Stra also promotes technology transfer n collaboraton wth technology-transfer companes. In 2001, seed and start-up companes made up almost half of Stra s nvestment portfolo by value of nvestment, and early-growth companes close to one fourth.

21 16 The Decson of the Councl of State (2000) sets general gudelnes for FII s nvestment actvtes. Secton 1 specfes that Investments are drected to targets, where the market does not channel suffcent funds (Authors translaton) Furthermore, t sets the focus of FII s actvtes: The frst area of focus s the mprovement of equty fundng to seed companes. Especally mportant n ths regard s the settng up, development, and fnancng of funds nvestng n seed and start-up stage frms, the development and fnancng of a regonal network of funds, as well as the channelng of EU fnance. (Authors translaton) Another area of focus s equty nvestments nto large busness ventures requrng longterm rsk-takng (Authors translaton) In addton to the ndustry, the nvestment actvtes also target the servce sector, especally knowledge ntensve servce enterprses. (Authors translaton) Secton 2 of the Decson defnes the objectves of the nvestment actvty n more detal: [1] Enhance equty nvestments nto seed and start-up stage nnovatve companes by encouragng the settng up of funds targetng those; [2] promote the channelng of prvate equty nto seed/start-up funds; [3] speed up the commercalzaton and nternatonalzaton of the results of R&D; [4] promote structural change n the economy by drect nvestments n lne wth the ams of economc polces; [5] promote the functonng of the venture captal market amng at a more developed market; [6] mprove frms possbltes for growth, nternatonalzaton, and publc stock offerngs by utlzng the possbltes of nternatonal fund cooperaton; [7] to promote the channelng of equty-based EU fundng to Fnland. (Authors translaton) FII has translated the tasks set n law nto four objectves, whch are n lne wth the legslaton. 30 The fundng of FII s based on proceeds accrued from the prvatzaton of state-owned companes but the secton 2 of the Act 1352/1999 on FII sets that: The company s actvtes should be proftable n economc terms. (Authors translaton) It also states that: In ndvdual nvestment decsons, the company can accept lower expected returns and hgher rsks than normally (Authors translaton) The Decson of the Councl of State further specfes that: Due to the economc polcy tasks set for the company, a lower target on returns s accepted than n the venture captal ndustry n general. (Authors translaton) 30 These are, as quoted on FII s web ste, to encourage more effcent functonng of the venture captal nvestment market by nvestng actvely n new venture captal and prvate equty funds n Fnland, to promote product realzaton and commercalzaton of new nnovatons by nvestng n seed and growth-stage enterprses together wth prvate nvestors, to promote regonal venture captal nvestment, to use drect nvestments to enable major nvestments n corporate development, corporate restructurng and the launch of new ndustral projects.

22 17 And that: to balance [FII s] nvestment portfolo and to secure the proftablty objectve, [FII] can make nvestments n the market nto funds that target companes n the later development phases. (Authors translaton) FII nvests n three types of funds targeted at fnancng companes n dfferent growth phases. Prvate equty funds target later growth stage companes, ncludng corporate restructurng. Venture captal fund nvestments target early and ntal growth stage companes. Regonal funds target companes n varous growth stages n the fund's regons. FII also engages n drect nvestment together wth other nvestors and fnancal nsttutons. Accordng to FII, drect nvestments are channelled nto restructurng efforts or selected growth companes. FII offers ts servces through ts offce n Helsnk. Concernng the screenng process for drect nvestments, the Decson of the Councl of State asserts that the startng pont n drect nvestments s the dentfcaton of market defcences and cooperaton wth prvate equty. However, there s some ndcaton that FII also pays attenton to other objectves, such as dversfyng Fnnsh frms producton structures, keepng frms know-how and producton facltes n Fnland, and ncreasng the rate of employment (see for example FII s Annual Report 2001, p. 11). Gven the startng pont and these objectves, the followng statement from FII s Annual Report 2001 has n many ways a contrastng ndcaton, [drect] nvestments are expected to yeld earnngs on market terms (p. 11). Fgure 5 presents FII s nvestment fgures for the past fve years, dvded nto fund nvestments and drect nvestments. Clearly most of the nvestments are made nto funds, as nvestments nto target companes typcally make up less than one tenth of the total. The total annual nvestments made ncreased by 70% n real terms from 1997 to 1999 but have fallen snce then by about 30%. [Insert Fgure 5] Employment and Economc Development Centers (TE-Centers) TE-Centers (Employment and Economc Development Centers) are publc offces under mnsteral supervson 31, provdng varous busness related servces and fnance. The 31 More specfcally, TE-Centres operate under the supervson of MTI, Mnstry of Agrculture and Forestry, and Mnstry of Labour. MTI s responsble for ther general admnstraton.