Financing of Innovation Part 1 Presentation by Rumen Dobrinsky European Alliance for Innovation Training in the field of Innovation Minsk 26-28 May 2015 1
Structure of the presentation Introduction: Why finance is key to innovation? Module 1. The Nature and Financing of Innovative Enterprises Module 2. Private Early-Stage Financing of Innovative Enterprises. Business Angel Financing Module 3. Private Early-Stage Financing of Innovative Enterprises. Venture Capital Financing Module 4. Public Policy Initiatives to Address the Early-Stage Financing Needs of Innovative Firms Module 5. The Experiences of Different Countries in the Financing of Innovative Enterprises Module 6. Interactive Discussion on the Topic 2
Why finance is key to innovation? The broader picture 3
What is innovation? • Introduction to the market of: – New products or services – New business models that enhance the value of existing products or services • Disrupts existing market processes – Incremental (small-scale improvements) – Radical – new ways of doing business 4
Innovation in the modern economy • Innovation is a complex phenomenon, requiring a combination of different types of knowledge and skills • Involves the interactions of many “actors” (stakeholders): academic and R&D institutions, firms, public bodies, financiers, users, etc. • Innovation is a process with highly uncertain outcomes: therefore there is a need to commit resources to reduce uncertainty 5
Innovation and Finance • Innovation is about making money: • “Whereas R&D focuses on transforming money into knowledge Innovation is about transforming knowledge into money “ Esko Aho, Former Prime Minister of Finland 6
The innovation-finance cycle 7
How is innovation related to finance? • Innovation performance and financial flows are closely interrelated and correlated • Finance (relevant and adequate financial support) is a key factor driving innovation at all levels • What follows illustrates these links and interrelations at the macro level 8
Measuring innovation performance (EU) • The Innovation Union Scoreboard provides a comparative assessment of the innovation performance of the EU28 Member States • IUS uses 25 indicators grouped in 3 categories: • Enablers capture the main drivers of innovation performance external to the firm • Firm activities capture the innovation efforts at firm level • Outputs capture the effects of firms’ innovation activities • Average performance is measured by a composite indicator, the Summary Innovation Index (SII) 9
Measuring innovation performance (EU) 10
Performance groups by SII 11 Source: European Commission
12
Regional innovation performance by SII 13 Source: European Commission
Diferent innovation scoreboards Name Editing Preparing First Last Frequency Standard Target Number thereof Selection Composite Institution Institution Ed. Ed. structure countries of based on criteria Indicator indicators innovation surveys Innovation Union European MERIT 2001 2014 Annual Yes EU 25 6 Reasoning, Yes Scoreboard Commission Member Correlation States analysis Innovation Union European European 2011 2013 Biennial unknown EU 51 None No Competitiveness Commission Commission Member Report States OECD Science, OECD OECD 1991 2013 Biennial No OECD ~180 34 Reasoning No Technology and countries Industry Scoreboard OECD Science, OECD OECD 1998 2012 Biennial No OECD 22 None Not No Technology and countries (country available Industry Outlook fiches) Global Innovation INSEAD, INSEAD 2007 2014 Annual Yes World 84 None Yes Index WIPO Innovationsindikator Telekom Fraunhofer 2005 2014 Annual Yes Germany 38 None Model, Yes Stiftung, ISI, and Regression BDI ZEW, MERIT selected analysis countries Global World Centre for 1979 2013- Annual Yes World 116 None Yes Competitiveness Economic Global 2014 Report Forum Competiti- veness and Performance Knowledge World World Bank 2001 2012 Regularly Yes World 148 None Yes Assessment Bank updated 14
Global Innovation Index 2014 (WIPO) 15 Source: WIPO
Total R&D expenditure as % of GDP (2013) 16
R&D expenditure and innovation performance 17 Source: European Commission (2013-2014)
R&D expenditure and innovation performance, 2013 18 Source: WIPO; UNESCO; OECD
Private equity investment - innovation performance 19 Source: EVCA, European Commission (2013-2014)
SME access to finance and innovation performance 20 Source: European Commission (2013-2014)
Innovation: the main financing instruments Financing Key features in financing Remarks instrument Seed funding for innovative start-ups and SMEs at the seed and Complements market failures, Grant, subsidy early stage financing at seed and initial stage Financing source at early riskier stage and provides financing, Business angel Financing at start-up and early stage advice and mentoring on business management. Invests at later, less risky growth stage. Referred to as patient Venture capital capital owing to the lengthy time span (10-12 years) for Financing at later expansion stage investing, maturing and finally exiting. Used by large firms to invest in innovative start-ups with a view Corporate to improving corporate competitiveness with either strategic or Strategic motive venturing financial objectives. A collective funding tool via the Internet which makes it easier Crowd funding for small businesses to raise capital at the seed and early stages. Still developing; potential for fraud Bank loans Needs collateral or guarantees in exchange for loans. Obligation to repay as debt A broad range of tax incentives for R&D and entrepreneurial Tax incentives Indirect, non-discriminatory investments in most countries. 21
1. The Nature and Financing of Innovative Enterprises 22
Issues covered in the module • The nature and characteristics of innovative enterprises • The financing needs of innovative enterprises • The financing options for innovative enterprises 23
What are innovative enterprises? • Innovation takes central stage in their activity – Tend to be new or younger and small (startup, SME) – Can grow substantially – Account for over half of all innovations and almost all radical innovations • Innovation opportunities: – Market applications for new inventions or technological discoveries – New applications for existing technologies – Imitation (replication of business practices/ introducing products new to the local market) 24
Some key factors driving firm innovation • Investment in education that is relevant to business. • Support to investment in R&D by both government and business. • Business investment in innovation strategies. • Specific policy measures to create a conducive environment for firms to engage in the commercialization of innovative business opportunities. 25
What determines the prevalence of IE? • Overall R&D environment – R&D intensity – Innovation leaders, followers, catching-up, trailing • Attractiveness of entrepreneurship as a career – Attitudes and aspirations towards risk and growth – Workforce mobility • Favorable environment of early stage financing and support (in particular for SME) 26
How innovative enterprises develop? • It starts with an individual (group) and an idea • Exploration of technical feasibility, market potential, and economic viability • Product development • Start-up of operations; market introduction • Market and organizational expansion • Growth 27
Financing needs in different stages • Seed stage – initial R&D, business concept refinement, feasibility analysis • Start-up stage – prototype development, market research and outreach, formal organization. • Early-growth – small-scale commercialization, platform for scalability • Expansion – substantial growth in scale and market impact. 28
Risks and roles on the journey to market 29
Risks sharing in financing innovation Basic Research Grants, Public Support innovation Discovery vouchers, Invention tax incentives Risk Applied R&D Equity (BA, seed finance), Level Patenting and Public and private convertible licensing initiatives loans, guarantee schemes Prototyping Industrialization Private Intervention VC, IPO 30
Challenges of attracting mainstream finance • High uncertainty – No track record, no collateral – Limited evidence for feasibility and viability – Possible high-rates of obsolescence • Information asymmetry – The entrepreneur’s knowledge is tacit – Hard to distinguish high- and low-quality opportunities • Value is entirely based on the long-term growth potential This is why we need specialized financial institutions for early stage financing! 31
The dynamics of financing needs Cash Flow Public stock markets Debt / Bridge loans Venture capital funds Business angels Feasibility grants Founder, 3Fs Seed Start-up Early growth Expansion “Valley of death” Development stage 32
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