A completely new market-based investment model, which supports the regeneration of industry with the return levels demanded by investors, was introduced on Tuesday 28 October at the annual Cleantech Venture Day, organised for international investors and Nordic cleantech companies and held this year in Lahti. ETLA is developing the model in collaboration with Professor Peter Adriaens from the University of Michigan.
Small and medium sized enterprises (SMEs) offering innovative technological solutions and developing pioneering business models form important potential for the regeneration of traditional industry, and thereby the acceleration of economic growth. However, financing the renewal has become a bottleneck in regeneration.
“The need for new financing tools is becoming clearer by the day. Interaction between firms across traditional sector boundaries, and with it the generation of new sectors of industry, are slowing due to the current lack of risk finance. The loan financing which is essential to SMEs in particular has been difficult to attain due to the financial crisis and new operating guidelines”, says Antti-Jussi Tahvanainen, Chief Research Scientist at ETLA, who has been part of the team developing the model.
According to Tahvanainen, examples of future emerging areas include smart power distribution grids, smart transport, and green chemistry following the principles of sustainable development.
ETLA believes that there is plenty of room to expand the model. Institutional investors in particular, such as pension insurance firms, are lacking suitable investment tools that would allow them to make investments in SMEs effectively and in a sufficiently wide-ranging way, whilst at the same time staying within the regulatory constraints governing their operations.
Even at this stage many central European investment firms have expressed their interest in introducing the model.
Chairwoman of the project’s steering group, and Lahti Region Development LADEC Oy’s Development Manager Nina Harjula feels that the new financing model is a welcome development. “It is important that structures and methods are regenerated in every direction. We are convinced that cleantech innovation is needed for the regeneration of industry, but at the same time new functional ways to commercialise and finance the new solutions are also needed. No stone will be left unturned.”
Model brings alternatives to the investment market
The model, which will be tested over the next few years, and which has been given the working title impact hedge fund, will take into account both the return targets of investors and the risk financing needs of SMEs at different phases. “For example, it is often particularly important to SMEs that external financing does not alter the company’s ownership structure”, Tahvanainen highlights.
Bringing alternatives to the investment market, the fund model will direct financing towards company clusters representing emerging sectors. In order to explore these, the project has mapped out the structures connecting these emerging sectors to one another, and utilised cooperation networks between the fields.
Furthermore, the project also uses the Keystone Compact™ tool, developed at the Ross School of Management at the University of Michigan, in order to analyse companies’ skills and investability.
Risk financing aimed at SMEs lies at the heart of the investment instrument and can be divided into high-risk regeneration loans aimed at companies seeking fast and comprehensive regeneration, and lower-risk investment loans to support the direction of companies’ skills into new market areas.
These new varieties of loans are phased, meaning that the interest is dynamically tied to the attainment of the goals set for the companies’ different phases. The fund finances the majority of loans with bank credit, thus in addition to the investors, the fund’s structure requires the participation of banks and guarantors. On the basis of the economic developmental impact, it has also been envisaged that states will provide guarantees for the loans through their various credit guarantee programmes.
The instrument also connects the loans to other financing forms, for example capital investment and stock index based components in portfolios in accordance with the companies’ financing needs.
According to the director responsible for the content of the ETLA project, Professor Peter Adriaens, merging the different types of funding forms into individual portfolios represents a significant change in how financing is channelled into the promotion of economic development.
“The model allocates regenerating sectors’ very diverse financing needs and the return targets of institutional large investors by the risk rate demanded. These kinds of high-yield funds can be built at any regional level in order to achieve different kinds of industrial regeneration targets”, states Adriaens.
The investment instruments’ primary target group consists of capital management funds as well as insurance and pension insurance firms, who are searching for new tools to decentralise alternative forms of investment. According to very preliminary estimates, the fund would offer pension insurance firms and major investors specialised in capital management the opportunity to expect an eight per cent return on invested capital.
For additional information:
Antti-Jussi Tahvanainen, Chief Research Scientist, Ph.D. (Industrial Engineering and Management), M.Sc.(Econ.), ETLA – The Research Institute of the Finnish Economy, tel. +358 (0)44 535 1797, antti.tahvanainen@etla.fi
Nina Harjula, Development Manager, Cleantech, Lahti Region Development LADEC Oy, tel. +358 (0)50 518 0915, nina.harjula@ladec.fi
