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Regional Venture Capital Funds

Managed by professionals, with commercial focus
 
What are Regional Venture Capital Funds? Why are they being established?

Regional Venture Capital Funds (RVCFs) are an England-wide programme to provide risk capital finance in amounts up to £500,000 to small and medium size enterprises (SMEs) who demonstrate growth potential. The funds, managed by experienced venture capital professionals, are commercially focused, making commercial returns.

There is an acknowledged 'equity gap' at the lower end of the market. The government's intervention is designed to be the minimum necessary to stimulate private sector investors to provide small-scale risk finance for SMEs with growth potential.

What are the objectives of RVCFs?

Short term:

• Establish at least one viable, commercial fund in each of the nine English regions – which increase the amount of equity gap venture capital available to the SME market and which does not displace any existing fund activity in this segment of the market. This objective has been achieved and funds are now operational in each region.
  

Long term:

• Increase the amount of equity-based risk finance available to growing SMEs to enable them to realise their full growth potential.
• Ensure that each region in England has access to a viable, regionally based venture capital fund, making equity based investments in smaller amounts in SMEs.
• Demonstrate to potential investors that commercial returns can be made by funds investing in the SME equity gap thus promoting the private sector venture capital industry.
• Increase the supply of quality fund managers operating in the equity gap .

How were fund managers chosen?

Commercial private sector venture capital fund managers were sought, via a comprehensive bidding and open tender process, throughout 2000.

All of the bids to operate RVCFs have gone through a comprehensive, robust assessment and due diligence process. SBS has brought in professional corporate finance (PKF) and legal advice (Clifford Chance) as part of this process as well as utilising the Government Office network to assist in the assessment of proposals from a regional perspective.

On completion of this assessment process, all proposals were put to an independent Appraisal Board (a sub-group of the Small Business Investment Taskforce (SBIT), whose members consisted of external people with experience of the venture capital sector). The recommendations put forward by the Appraisal Board have been taken forward by the Enterprise Directorate.

All nine funds are operational and making investments. Annex 1 provides information on fund size and indicative targets set for each English region, together with respective contact points.

How funds operate

• Each fund operates within a regional boundary in England
• Fund managers operate and manage funds on a purely commercial basis and are governed by a ten to twelve year Limited Partnership Agreement
• The fund managers are independent companies who are operating out of their own premises, on a purely commercial basis
• Fund managers will make all investment decisions, including how the investment should be structured
  

Investors in the fund

In each RVCF, the government, via the Enterprise Directorate, is investing for its own account. In addition, the Enterprise Directorate has secured funding from the European Investment Fund (EIF), the equity arm of the European Investment Bank, such that in most cases, approximately 50 per cent of the funding will be from these two sources. Each fund manager then has to secure the remaining percentage from other private sector investors.

In order to assist fund managers to attract private sector investors, the government decided to subordinate its investment position by firstly putting a cap on its investment return, thereby boosting the anticipated return to private sector investor and the EIF along with agreeing to act as 'first loss'. This means that, in the event of an erosion of a fund's capital base, the DTI investment suffers the loss first.

Investment criteria

How much can be raised?

RVCFs can invest up to £250,000 in equity or debt into any qualifying business, be it a start-up, early stage, or needing development capital either for an acquisition or for organic growth.

As stated above, all decisions as to whether or not to invest in any proposal will be made by the fund manager based on commercial viability. MBOs, MBIs and BIMBOs are also eligible.

If another institutional venture capitalist has already invested, then the cost of that investment is deducted from the £250,000 ceiling to arrive at the amount the RVCF can invest.

If an RVCF wishes to bring in another venture capitalist at the time of its initial investment, then it may do so. However, the total investment by the RVCF and the other venture capitalist must not exceed £250,000. These restrictions have been applied to help ensure that the RVCFs stay firmly rooted in the lower segment of the equity gap.

The RVCFs are allowed to make 'follow on' investments of up to a further £250,000, and in exceptional circumstances, more than that.  For such follow-on investments, there are no restrictions on who can co-invest or how much can be co-invested.  Such follow-on investments are not permitted within a six-month period starting from the date of the original investment.

Length of investment holding

No investment is permitted if it is expected to last less than six months. Most investments are likely to be held, on average, for about five years, after which the fund manager will need to find an exit. Each RVCF has a 'life' of ten years, and at the end of that time must have turned all its investments into cash.

Which businesses qualify?

A business may apply for equity finance to the fund covering the area in which the head office is situated or where it conducts a material part of its business and where the purpose of the relevant investment is, or the application of the proceeds of such investment by the relevant company shall be, predominantly related to or for the benefit of the region.

There are three differing types of criteria, other than the geographical one mentioned above.

i. Size of business

The business has to comply with the European Union's definition of a small and medium-sized enterprise (SME). Currently, this is defined as a business with less than 250 employees and either has a turnover of less than 40 million euro (approximately £24 million) or a balance sheet total of less than 27 million euro (approximately £16 million).

ii. Ownership

It must not be owned:

• by another company
• have 25 per cent or more by owned by another enterprise
• jointly by several enterprises not meeting the above SME definition

Some of its equity can be owned by business angels or other individuals not connected with the directors or other shareholders, and it can already have had venture capital funding. This can either be from Seedcorn funds or from other venture capitalists. If it is the latter, the amount the RVCF can invest will be restricted.

iii. Sectors

As a condition of state aid clearance, there are a number of sectors in which the RVCFs cannot invest. The key ones are listed below:

• land and property development, dealing and investment
• provision of debt and equity finance and financial services in general
• accountants and legal services
• hotels
• nursing and residential care homes
• international motor transport
• agriculture
• forestry and timber production
• horticulture

The rules governing what is eligible and what is not are quite complex, but anyone wishing to know about a particular case should contact, in the first instance, the fund manager of the appropriate RVCF.

What is the relationship between the Enterprise Directorate, RDAs and fund managers?

The role of the Enterprise Directorate has been to manage all aspects of the development of the RVCF programme including the bidding process and handling state aid issues. The Enterprise Directorate has also agreed to act as agent for the EIF investment in this programme. With the operational funds it is responsible for managing both the DTI's and EIF's investment in the programme.

The fund managers are responsible for delivering/operating the ten to twelve year Limited Liability Partnership Agreements signed by all investors in funds, including the DTI. They also undertake all aspects of the investment process in funds, including taking all investment decisions on what investments are made.

RDAs have a pivotal role in ensuring the success of this programme, by supporting the RVCF operating in their region.

The role of RDA is to assist the fund manager in raising the necessary private sector investment by utilising their contacts and knowledge of the business support network within their region.

Once funds are launched, RDAs will:

• develop the networks within their region that will ensure the funds success
• assist by providing links to organisations that could support businesses once they have received investment
• sit as members on the advisory committee for each fund

The advisory committee's role will be to monitor the activities of the fund and represent the interests of the limited partners. However, the advisory committee does not have the authority to amend or influence any investment decision taken by the fund manager.

How to access the RVCFs

Each RDA has sponsored a fund manager to set up and run a fund in their region.  Access to funds will either be direct to the fund manager or through the normal business support channels.