If growth is the main driver behind the Capital Markets Union (CMU) project, then venture capital will play a key role. The European Commission is consulting on ways to boost the take-up of European Venture Capital Funds (EuVECAs) and European Social Entrepreneurship Funds (EuSEFs) through targeted changes to the relevant legislation. The Commission has expressed concern that EU venture capital funds remain small relative to the US market, with an average size of about €60m. A focus of CMU will be on connecting funds to entrepreneurs that might otherwise struggle to find finance.
Since their adoption in 2013, the European Venture Capital Fund Regulation (EuVECA Regulation) and European Social Entrepreneurship Fund Regulation (EuSEF Regulation) have provided an EU-wide capital raising passport for fund managers authorized to use these labels. Currently only smaller fund operators managing asset portfolios below €500m can manage these funds, but larger institutional fund managers may be able to participate soon.
EuVECAs must be established in the EU, be registered as alternative investment funds (AIFs) in their home Member State under the Alternative Investment Fund Manager Directive (AIFMD) and manage portfolios of qualifying venture capital funds (VCFs). VCFs must invest at least 70 per cent of their aggregate capital contributions and uncalled committed capital in assets that are ‘qualifying investments’, such as shares in or loans made to privately held small and medium sized enterprises (SMEs).
EuSEFs are subject to similar requirements as EuVECAs, except the ‘qualifying investments’ must have a measurable, positive social impact. Examples of such ‘social impact’ investments include undertakings that provide goods, services or financial support to vulnerable or marginalized, disadvantaged or excluded groups of people.
By encouraging take up of EuVECAs, the Commission hopes to encourage investment in new businesses that are generally small and in the initial stages of expansion. By providing finance and advice to these undertakings, venture capital funds stimulate economic growth, contribute to the creation of jobs and capital mobilization, increase investment in research and development and facilitate innovation and competitiveness.
Most EU Member States allow some private individuals (such as high net worth individuals) to invest in venture capital, provided that certain conditions are met such as minimum investment limits. However, these rules vary at the national level. CMU-related measures may change that.
On 14 July 2016, the Commission proposed amendments to the EuVECA Regulation and EuSEF Regulation to remove barriers to growth by implementing the following measures:
- allowing managers authorized under the AIFMD to set up, manage and market EuVECAs and EuSEFs;
- broadening the range of eligible assets available to EuVECAs;
- harmonizing the “sufficient own funds” requirement for registration across the EU that currently vary across Member States from €6,500 to €125,000 for similar size funds;
- restricting the ability of Member States to impose additional costs on the establishment of EuVECAs and EuSEFs; and
- allowing managers based in third countries (i.e. countries outside the EU) to use the investment fund’s designations.
In order to open up the range of eligible assets, the proposed changes would allow EuVECAs to invest in unlisted undertakings that employ up to 499 employees or small and medium-sized enterprises (SMEs) listed on an SME growth market. An undertaking only needs to qualify once for an EuVECA to invest in it. Subsequent investments are allowed even if the undertaking no longer satisfies the criteria (by, for example, growing such that it employs 500 or more people). This measure should enable long term investment in high-growth SMEs, and prevent distortions caused by an unintended incentive for the SMEs to remain below the eligibility growth thresholds.
In respect of the harmonization of “sufficient own funds” requirements, the Commission instructed the European Securities and Markets Authority to develop draft regulatory technical standards to determine what constitutes sufficient own funds for the registration of EuVECAs and EuSEFs. At the moment, this remains unclear.
The Commission is considering a reduction the minimum investment of €100,000 for eligible investors; however, it will continue to impose a minimum investment threshold, citing concerns over investor protection.
If accepted, the proposed amendments could significantly increase investment in EuVECAs and EuSEFs by large fund managers. Broadening the scope of who can manage and market these funds should to overcome what was viewed by stakeholders as the greatest hurdle to kick-starting this class of investment.
One other item to look out for is a Commission consultation on venture capital tax incentives, which is expected to launch in 2017. We will update our CMU technical resource as this initiative develops further.