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Israeli
Financing
Innovation
Schemes for
Europe
Final Report
Published by the University of PaviaThe University-Enterprise Liaison Offi ce
Ifise Final Report
PLANNING FOR THE CREATION OF SEED AND
START-UP CAPITAL SOURCES FOR HIGH-TECH FIRMS IN ITALY FOLLOWING THE
ISRAELI SUCCESS STORIES OF THE YOZMA AND THE TECHNOLOGICAL
INCUBATORS PROGRAMMES
PARTICIPANTS IN THE PROJECT
Vittorio Modena (P.I.) Gil Avnimelech
Margherita Balconi Roberto Del Giudice
Yigal Erlich Matteo Facoetti Tobia Fiorilli
Amnon Frenkel Patrizia Gattoni Anna Gervasoni Dan Kaufmann Aric Leibovitch
Chen Levin Michal Miller
Gordon Murray Peter Nijkamp Fabio Palmieri
Francesco Pellizzari Arie Sadovski Daniel Shefer Morris Teubal
Paola Vita-Finzi
This document was developed and edited by Vittorio Modena ([email protected])
INDEX
Executive Summary 1
Introduction 4
Chapter 1 The Yozma Programme, or How to Create a Venture 6 Capital Industry from Scratch
1.1 The Yozma Programme - Definition Process and its 6 Final Structure
1.2 Validation of the Yozma Programme 8
1.2.1 Economic Impact - Output Indicators 9
1.2.2 Economic Impact - Outcome Indicators 11
1.3 The Israeli VC Evolution - Main Features 13
1.4 Success Factors, Lessons and Issues from the Yozma 14 Programme and the Evolution of the Israeli VC Industry
1.5 Conclusions 19
Chapter 2 The Technological Incubators Programme and the Provision 20 of Seed Capital to Research-Intensive New Firms
2.1 Programme Background and Operation 20
2.2 Validation of the Technological Incubators Programme 22
2.2.1 Economic impact - Output indicators 22
2.2.2 Economic impact - Outcome indicators 27
2.3 Evolution of the Technological Incubators Programme 29 Over Time
2.4 Success Factors, Lessons and Planning Issues from the 31 Technological Incubators Programme and its Evolution
Chapter 3 The Italian Innovation System and its Potential for High-tech 38 Start-ups
3.1 General Characteristics of the Italian Innovation System 38
3.2 High-tech Activity per Sector and Geographical Region 40
3.3 The Electronics and Telecommunication Sector 45
3.4 The Biotech Sector 47
3.5 The Supply of Private Seed and Venture Capital Sources 49
3.6 Public Incentives to Innovative Firms in Italy 53
3.6.1 The EU regulations 53
I
3.6.2 Law 297/99 and the incentives to research 54 operated by new firms
3.6.3 Regional programmes 54
3.6.4 European programmes 54
3.6.5 The Startech programme 55
3.6.6 Laws 95/95 for the incentive of juvenile 56 entrepreneurship
Chapter 4 A Proposal for Seed and Venture Capital Schemes in Italy: 58 Four Projects
4.1 General Planning Orientations 58
4.2 Project 1. Rotational Seed Capital Funds for New 62 High-tech Companies in Regions with High Potential
4.2.1 Motivations behind the project 62
4.2.2 Project outline 63
4.2.3 Requirements for seed funds’ management companies 65
4.2.4 Additional criteria for the selection of the 65 management company
4.2.5 Fund of funds’ role and monitoring 66
4.2.6 Qualified supporting institutions 67
4.3 Project 2. Biotech-Pharmaceuticals Incubators 68
4.3.1 Motivations behind the project 68
4.3.2 Basic facts and guidelines used for planning 68
4.3.3 Programme definition and incentives 69
4.3.4 Investment rules 70
4.3.5 Qualified management companies 70
4.3.6 Selection criteria for management companies 71
4.3.7 Role of the central agency and monitoring 71
4.3.8 Possible launching institutions 72
4.4 Project 3. VC Funds for Depressed Regions 73
4.4.1 Motivations behind the project 73
4.4.2 Description of the proposed project 73
4.4.3 Qualified management companies 75
4.4.4 Rules of investment 75
II
4.4.5 Monitoring 75
4.4.6 Possible launching institutions 75
4.5 Project 4. A Coordinating Institution for High-tech 76 Industries’ Incentive Policies
4.6 Recommendations for Future Research and for the 77 Definition of Innovation Policies
Acknowledgements 78
Bibliography 79
LIST OF TABLES
Table 1.1 - Original Yozma Funds and their Evolution 9
Table 1.2 - Growth Rate of Yozma-Affiliated Companies vs. a Sample 12 of Non-Yozma-Affiliated Companies
Table 1.3 - Sales of Yozma-Affiliated Companies vs. a Sample of Non-Yozma- 13 Affiliated Companies
Table 2.1 - Graduating Projects that Succeeded in Securing Financial 23 Support, by Location
Table 2.2 - Sectorial Distribution of Incubated Projects as Opposed to a 25 Representative Sample of High-tech Firms in Israel
Table 2.3 - Project Initiators’ Level of Satisfaction from Services Provided 26 vs. Level of Importance Attached to these Services
Table 2.4 - Incubator Managers’ Level of Satisfaction 27
Table 2.5 - Previous Occupation of the Founders - “Incubator” Companies 28 vs. Generic Sample Companies
Table 2.6 - The Working Environment for the Genesis of the New Idea 29
Table 2.7 - Sales Revenues (2000) of Incubator-Graduate Companies 29 Vs. Non-Incubator Sample Companies
Table 2.8 - Average Source of Funding of Incubators, by Location 32
Table 2.9 - Project Selection Process in the 21 Israeli Incubators, by Location 33
Table 3.1 - Major R&D Indicators per Geographical Region 42
Table 3.2 - R&D Indicators per Main High-tech Sector and Local System 44
Table 3.3 - Electronic Components, Computer Hardware and 45 Telecommunication Equipment - National Basic Indicators
Table 3.4 - R&D Investments and Personnel in the Biotech-Pharmaceutical 47 Sector in Italy and in the Major Industrialized Countries
III
Table 3.5 - Number of Investments and of Early Stage Investments in the 49 Biotech and Pharmaceuticals Sector - year 2001
Table 3.6 - Seed and Start-up Investments of VC Funds in Italy - year 2000 52
LIST OF FIGURES
Figure 2.1 - Project Selection Process - General Flow Chart and Percentage 21 Approved
Figure 2.2 - Government Investment vs. Private Investments in Incubator 31 Graduate Projects
Figure 3.1 - Main Innovation Indicators, Italy vs. Europe 38
Figure 3.2 - Enterprises in the Biotech Sector in Main European Countries 48 per Country
Figure 3.3 - Internal VC Investments as a Percentage of GDP 50
Figure 3.4 - Early Stage Investment by Italian VC Funds by Region 51 (2000 - 2001)
Figure 3.5A - Major Objective 1 (depressed) Areas 57
Figure 3.5B - Concentrations of Inventors 57
Figure 4.1 - Scheme for Public Incentives to Seed Funds 64
Figure 4.2 - Public Incentive Scheme for Investment Funds in Economically 74 Depressed Areas
LIST OF ACRONYMS EC -European Commission
EU - European Union
GDP - Gross Domestic Product
IPO - Initial Public Offering
ICT - Information and Communications Technology
IRR - Internal Rate of Return
IT - Information Technology
IVA - Israel Venture Capital Association
M&A - Mergers & Acquisitions
OCS - Office of the Chief Scientist at the Ministry of Industry and Trade in Israel
R&D - Research and Development
VC - Venture Capital, Venture Capital Management Company
IV
EXECUTIVE SUMMARY
This document represents the final results of the project IFISE (Israeli Financing
Innovation Schemes for Europe), which was supported by the European
Commission under the Innovation and SMEs programme of the Fifth Framework
Programme. Aims of this project were: (1) The validation of two Israeli
programmes: Yozma and the Technological Incubators Programme; (2) The
extrapolation of principles useful for the efficient creation of seed and venture
capital schemes in Europe; and (3) The proposal of public schemes for the efficient
creation of seed and venture capital sources in Italy.
All papers presented by partners in this project are available on the website
http://ifise.unipv.it.
Results of the project indicate that the Yozma programme, launched in Israel in the
early 1990s, was an outstanding success. All indicators are consistent with this
affirmation and indeed suggest that this simple and relatively small programme has
created the current venture capital industry in Israel. It has thereby become a very
strong contributor towards the incredible blossoming of the Israeli high-tech
industry in the second half of the nineties.
The Technological Incubators Programme (T.I.P.) can also be described as
successful, having given opportunities to inexperienced entrepreneurs or to
initiatives in sectors that are uncommon in Israel. However, not all success
indicators are consistent and some improvements should be made to the
programme.
Some of the most important lessons derived from these two programmes are the
following:
1. Public intervention for the establishment of seed and venture capital funds is
usually necessary and desirable. While for seed funds (€0.1-1 million) this has
to be continuous, in the case of start-up capital (€1-5 million) it should be time-
limited.
2. Venture capital for the high-tech industry is an instrument suitable only for
mature situations, i.e. for regions that already feature a strong potential for
high-tech spin-offs and some demand for private equity.
1
3. The state should play a passive role in venture capital schemes. Any decisions
about investments should be made by professional and private entities.
4. If there are no special reasons to employ incentives aimed at specific sectors,
neutral instruments, i.e. instruments that are not reserved to firms in any one
sector, should be used.
5. Any targeted programme must be inserted into a context of innovation policy
which is integrated and interdisciplinary. For this purpose it is advisable to set
up an ad hoc agency able to manage policy for the high-tech industry.
The Italian Innovation System was analysed by means of various surveys and data
elaboration. The main results used as a basis for planning are the following:
1. Distinction between generally innovative firms and research-intensive firms is
crucial in Italy, where there is an abundance of the former, but very few of the
latter.
2. Italy lacks seed capital for the high-tech industry, especially in the regions that
have the strongest potential for high-tech start-ups.
3. Hardly any new biotech-pharmaceutical firms are found in Italy, despite large
markets and significant academic research.
4. Economically depressed areas in Italy lack venture capital activity in all
industrial sectors.
5. Existing public programmes for the support of new high-tech firms seem
inadequate.
Planning for investment schemes in Italy has led to the suggestion of four
proposals to the Italian authorities:
1. The creation of rotational seed capital funds for new research intensive firms in
the regions with the highest potential. The public incentive will be by way of
participation in the funds, with private investors given the option to buy the
public shares under privileged conditions. The programmes shall be repeated
every four years.
2. The establishment of biotech incubators in the areas with the highest potential
for this sector. These shall be linked to the best local university research
centres and will give financial, consulting and infrastructure support. Given
2
that initiatives in this field have strong needs in terms of time and finance,
public support shall be particularly generous.
3. The creation of venture capital funds for depressed areas dedicated to all
industrial sectors. In this case, venture capital funds will be entitled to invest in
any industrial sector. Private investors will have the option to buy public shares
under favourable conditions. This program is meant to be a trigger for the
venture capital and private equity industry which is considered self-sustainable;
therefore, after a certain number of funds are established in each region this
programme will terminate.
4. The establishment of a National Institution for the coordination of all
incentives for the high-tech industry. This shall have a large budget, broad
capabilities and the power to launch, modify or stop any programmes for the
high-tech industry in Italy.
3
INTRODUCTION
In an attempt to follow the American example and create their own pool of New
Technology-based firms, several European countries and the European
Commission have directed much effort towards the creation of innovation policy,
so as to encourage employment, innovation and economic growth.
Among the many aspects of innovation, the availability of venture capital and
private equity is crucial. Various forms of venture capital schemes for the creation
or strengthening of an industry have been adopted since the second half of the
nineties. However, since most of these instruments are less than five years old, it
has been quite difficult to validate their performance and analyse their operation
over time [Dimov and Murray, 2001]. This makes the Israeli schemes particularly
interesting: not only have they contributed to the spectacular growth of the high-
tech industry in that country, but they can also point to a relatively long track
record.
The aims of the IFISE (Israeli Financing Innovation Schemes for Europe) included
the validation of the Yozma and Technological Incubators Programme, the
extrapolation of lessons to be used by policy makers for planning financial tools,
and the actual proposal of practical plans to be implemented in Italy. In order to
reach its conclusions, the project underwent the following phases:
1.
2.
3.
4.
The thorough analysis of the Yozma and Technological Incubators Programme
in Israel by means of literature and field surveys, including interviews with
venture capital and incubator managers, entrepreneurs, and policy makers, and
a review of similar projects in Europe.
The extrapolation of success factors and various planning issues from the two
programmes, and from the review of similar European programmes, which
could prove useful for policy makers.
An analysis of the characteristics and potential of the Italian reality through
available data and targeted field surveys.
An analysis of public schemes for venture capital which currently exist in Italy,
plus an assessment of the availability of private venture capital by region and
industrial sector.
4
5.
6.
The planning of adequate programmes for Italy by applying the lessons
gathered from Israel, and the consultation of senior experts in the Italian reality
as analysed in all its relevant aspects.
The involvement of Italian policy makers in the planning process and their
suggestions taken into account for the various proposed programmes.
It is important to mention that although academic papers will result from this
project, it is primarily meant to help policy makers define their instruments at
various levels. Therefore, a variety of planning issues are proposed, be these the
results of the surveys conducted in Italy and Israel, the interviews conducted with
various market actors, or the brainstorming that was done by IFISE partners at
various stages of the project. This document was written by Vittorio Modena who
has originated and coordinated the IFISE project. Whenever a result was obtained
by a different partner, the source is cited.
Results of this project have been made public by means of two workshops, in
Pavia, Italy, and Amsterdam, Holland, which were held in May, 2002. Many Italian
and other European policy-makers participated. Project results are also available on
the site: http://ifise.unipv.it/downloads.html.
Chapter 1 deals with the validation of the Yozma programme and the resulting
planning issues. Chapter 2 examines the validation of the Technological Incubators
Programme and its issues. Chapter 3 looks at the Italian Innovation System, with
some insights into the provision of private venture capital and the existing public
schemes for the support of VCs and new innovative firms, and Chapter 4 outlines
the proposals that were made to Italian policy makers.
The participants in this project wish to especially thank the European Commission,
which made the project financially possible under its Fifth Framework Programme.
5
CHAPTER 1 THE YOZMA PROGRAMME, OR HOW TO CREATE A
VENTURE CAPITAL INDUSTRY FROM SCRATCH
This chapter is aimed at presenting the results of the IFISE project associated with
the validation and analysis of the Yozma programme. The evolution of the Israeli
VC industry was also taken into account, as we have proceeded with extracting
lessons, rules of thumb, and stimulating thoughts with the goal of creating VC
industries in other regions. This part of the project has been carried out mostly by
Prof. Morris Teubal and Mr. Gil Avnimelech of the Jerusalem Institute for Israel
Studies [Teubal and Avnimelech, 2002]; when other research is employed, the
source is cited.
1.1 - The Yozma Programme - Definition Process and its Final Structure
The situation in Israel at the end of the 1980’s showed clearly that background
conditions existed for the creation of venture capital funds, but the venture and
seed capital funds themselves were lacking. Indeed, only one VC fund, Athena,
existed, with $12 million in available funds.
At that time, the policy of government subsidies to industrial R&D had begun to be
questioned by the Chief Scientist1 in charge, Mr.Yigal Erlich. He reasoned that
despite the good work carried out by professional evaluators before giving money
to private firms, the state could not be as effective as private investors. After
several visits to countries with strong venture capital programmes, he was
convinced that the future of Israel's high-tech industry was rooted in venture
capital, and that the state must make an effort to trigger its creation. Erlich and his
team also sought the advice of world experts, and of key figures both from Israel’s
high-tech industry and from Israel's Capital Market. They also assessed alternative
courses of action. This process of search, analysis and research led to the shaping
1 The Office of the Chief Scientist at the Ministry of Industry and Trade is Israel's most powerful R&D policy institution, commanding around $400 million annually.
6
of their mission: to put in place a mechanism that would stimulate the creation of
venture capital funds in Israel. This plan can be summarized in the following
points:
-
-
-
-
in order to create a serious venture capital industry in Israel, it would be
necessary to invest at least $200 million;
foreign organizations (venture capital funds, investment banks, etc.) will not
invest in Israel without significant incentives. Lacking such incentives, these
investors will turn to other countries with which they have experience and
whose markets they know well;
it is important to ensure that there would be no monopoly in a new market;
it is important to promote learning within the industry, such that when
support for the program ends, the VC industry would continue to operate and
develop; to ensure a minimum of government intervention in the fund's
management; and last but not least, to ensure that the proposed program
would in fact be implemented.
It was clear to Yozma promoters that the existence of background conditions was
not in itself sufficient to assure success; it was crucial also to assure the positive
involvement of the various government bodies in order to implement real change.
In order to assure the Treasury’s support, some of that body's members became
part of the program team and participated in the discussions at the planning stage.
Two instruments were considered: (1) the creation of a large $200m fund with
government investment, and (2) the creation of a large number of smaller VC funds
with a total sum of $200m.
The first option was supported both by the Ministry of Treasury, and by a large
international investment company which tried to achieve a monopoly of the
government incentives. However, Erlich was committed to the principle of
avoiding monopolies; therefore the second option was finally adopted.
Another interesting issue was the decision of the size of government investment.
Some proposed that the government invest up to 80% of the fund's equity, but this
proposal was objected to, even by the private sector consultants. The 50-50 option
had also been discussed, and finally it was decided that government investment be
limited to 40%. The final assets of the Yozma programme were as follows:
7
-
-
-
-
-
-
-
Yozma would be organized as an independent entity under contract to the
Office of the Chief Scientist;
the government would allocate $120 million to the fund of funds Yozma,
which would participate in VC funds, with up to 40% and up to $8 million
(whichever the lower of the two figures). A small part of that sum would be
used for one venture capital fund to be run by Yozma itself.
the new funds would be managed by private management companies;
investors in the new funds would have the option to buy government shares at
their original cost +7% annual interest;
the state will withdraw from the programme after 7 years;
the investors' team must include a foreign partner with expertise in VC
investments;
the investors' team must include a local financial partner.
It should be mentioned that parallel to Yozma, in 1992, the "Inbal" Program was
implemented. Its central idea was to stimulate VC funds by guaranteeing the
downside of their investments. The mechanism used was the creation of a
Government Insurance Company (“Inbal”) that provided a 70% guarantee to VC
funds which are traded in the stock market (calculated as 70% of the value of their
public issue). The program imposed certain restrictions to the investments of the
‘protected’ funds.
"Inbal" was not a great success. Four funds were established - Mofet, Marathon,
Teuza, and Sdot Mop. Their valuations in the stock market were like those of
Holding Companies (low valuations). The funds encountered bureaucratic
problems and had to go to great lengths to prepare regular period reports.
Eventually, all of the funds attempted to leave the program, i.e., they renounced
their guarantees in order to free themselves from the bureaucratic restrictions,
which they eventually succeeded in doing.
1.2 - Validation of the Yozma Programme
Validation of the Yozma programme has been carried out by a series of indicators.
We have divided these into Output Indicators, i.e., what has been the direct result
of the operation of the Yozma programme; and Outcome Indicators, i.e., what is
8
believed to have been the long term indirect result of the programme. It should be
mentioned that while the first set of indicators very accurately depicts the
programme's operation, the second can only be regarded as a general picture of the
VC industry. Indeed, many factors may have affected the incredibly fast evolution
of the Israeli VC industry in the 1990's. Unless otherwise mentioned, these
indicators have been measured by Prof. Teubal and Mr. Avnimelech of the
Jerusalem Institute for Israel Studies [Teubal and Avnimelech, 2002].
1.2.1 - Economic Impact - Output Indicators
The output indicators which have been measured are as follows:
1 - Number of new funds launched. Yozma has directly created 10 funds. The
funds’ names, their present size and principal foreign investors are shown in Table
1.1.
Table 1.1 - Original Yozma Funds and their Evolution
Original Foreign Investor Fund’s Name Original State
Contribution (M$)
Present Capital under Management (M$)-
year 2000 (*)
Daimler-Benz (DEG) Eurofund 8 72
Advent (USA) Gemini 8 350
Van Leer Group (NL) Inventech 8 100
Oxton (USA/Far East) Jerusalem Ventures Partners 8 255
MVP (USA) Medica 8 70
AVX, Kyocera (JP) Nitzanim-Concord 8 270
CMS (USA) Polaris 8 700
TVM (DEG) & Singapore Tech Star 8 600
Vertex International VERTEX 8 150
Walden (USA) Walden 8 120
Yozma Yozma 20 180
Total 100 2870
Source: Sadovski, 2001a (*) – Size of the first fund raised was around $ 20m
9
2 - Number of management companies created. Ten management companies were
created. In the beginning, each management company was directing only one fund.
The creation of ten specialized management teams was of huge importance.
2A - Number of employees in the management teams. The management teams
created by Yozma had more than 30 new partners and approximately 100 new
employees.
3 - Amount of money allocated from private sources to investment in new high-tech
industries. Yozma has directly caused the allocation of $150m from private funds
to high tech start-ups.
4 - Number of highly reputable VC organizations that entered the market as a
result of the project. Having required the participation of international partners of
prime importance, Yozma caused 5 high-reputation entities (Advent, Daimler-
Benz, Walden, Vertex and TVM) to enter the Israeli market, thereby creating a
positive reputation for Israel even before the first successful exits occurred (see
table 1.1).
4A - Variety of reputable investors that entered the market as a result of the
project, by type of investor. In order to achieve an optimal mix in the market, the
program aimed at attracting reputable investors in the following different
categories: investment banks, strategic partners, private equity funds, U.S. business
angels and U.S. pension funds.
5 - Number of high-tech companies that have received venture capital from a newly
created fund. The 10 Yozma funds have supported 256 high-tech firms during their
existence.
6 - Internal Rate of Return (IRR) of the funds. Although IRR could not be measured
precisely, it is known that Yozma funds were very successful.
At least 4 Yozma funds (40% of the funds) had an IRR of more than 100%.
7 - Number (percentage) of exits out of total investments of Yozma funds. Yozma
funds succeeded in exiting in 70 cases (27.3% of their investments); out of these 38
(14.8%) were IPO’s (Initial Public Offering) and 32 (12.5%) were M&A (Mergers
and Acquisitions).
10
8 - Opinion of venture capital funds' managers about the importance of the impact
of the Yozma programme. All of the VC managers that were interviewed (a total of
15 both from Yozma and other funds) believed Yozma to be one of the major
triggers of the growth of the Israeli VC industry.
9 - Contribution to initial critical mass: size of the total allocation to high-tech
start-ups as initiated by the programme, as a percentage of the total capital
available for start-ups in the first years. A government contribution of $100m to
the Israeli VC industry in 1993 was leveraged by $150m from private entities. In
general, out of the $440m managed until 1994, $250m originated from Yozma
funds.
10 - Number of funds as a percentage of total funds available in 1993-4. Yozma
has created 9 (the tenth was created in 1997), or 53% of the 17 funds existing at the
time.
1.2.2 - Economic Impact - Outcome Indicators
The outcome indicators, i.e. impact indicators that were measured several years
after the programme was completed, were measured as follows:
1 - Total number of funds created by the management companies that were started
under the original programme. All of the 10 management companies that were
created as a result of the Yozma programme have created additional, subsequent
funds, although the Yozma programme no longer supported those funds. Thirty
nine funds have been created from the inception of Yozma until the end of 2001.
2 - Total capital under management of all subsequent funds. Total funds raised by
Yozma management companies add up to $3.2 billion (+$250m managed by
Yozma funds), as opposed to the total capital under management of all other 118
Israeli and foreign investment organizations active in Israel ($6.8b after eight
years). Fifty percent of all total funds can be related to the Yozma programme.
3 - Survival percentage of the management companies that were formed as a result
of the original programme. Eight years after Yozma's establishment, 100% of the
companies are still operational.
4 - Percentage of the Yozma funds that have used the option to buy government
shares. Of the management companies that were formed as a result of the original
11
programme, 80% used their option to buy government shares in the funds after five
years (before the fund was closed), at a price of the initial investment plus 7%
interest.
5 - Size of the total allocation to high-tech start-ups initiated by the programme as
a percentage of the total capital available for start-ups several years later. A
government contribution of $100m to the Israeli VC industry in 1993 was a major
trigger to a total allocation of almost $10b during the years 1993-2001. This would
make the government contribution only 1% of the final result.
6 - Reputable investors. Out of fourteen strategic investors involved in Israeli VC
until 1997, seven strategic investors were involved in Yozma management
companies. Six out of twelve reputable investment bank investors previously
involved in Israeli VC until 1997 were involved in Yozma management companies.
Reputable investors were found to correlate positively with good performance of
the fund.
7 - Growth of start-up enterprises financed by Yozma funds. Table 1.2 compares a
sample of 24 firms that have been financed by the ten Yozma funds, as opposed to
a sample of 105 high-tech enterprises (a representative sample) in Israel. It is
evident that the first group outperforms the second [Sadovski, 2001].
Table 1.2 - Growth Rate of Yozma-Affiliated Companies vs. a Sample of Non-Yozma-Affiliated Companies
Years 1998 1999 2000
Yozma affiliation
Yozma affiliated
Non Yozma
affiliated
Yozma affiliated
Non Yozma
affiliated
Yozma affiliated
Non Yozma
Affiliated Number of respondents 13 48 15 55 17 63
Growth % Companies (% of total)
No Growth 46 64 47 51 24 41
1-40% 8 15 13 29 35 33
>41% 46 21 40 20 41 26
Source: Sadovski, 2001
12
8 - Sales of Yozma-affiliated companies as opposed to the average high-tech
companies. Table 3 shows how the group of enterprises that were financed by one
of the ten Yozma funds clearly outperforms the compared sample of companies.
For instance, while 41.5% of the Yozma-affiliated enterprises sold for more than
$1 million in year 2000, only 18% of the sample companies did so [Sadovski,
2001].
Table 1.3 - Sales of Yozma-Affiliated Companies vs. a Sample of Non-Yozma-Affiliated Companies (*)
Responding companies (% of total)
Sales Yozma-affiliated Non-Yozma-affiliated
No sales 46 55
100k$-1m$ 12.5 27
>1m$ 41.5 18 Source Sadovski, 2001 *24 Yozma-affiliated companies were compared to 105 non-affiliated companies
9 - Rate of enterprises that went IPO. While 4.9% of Israeli high-tech firms
managed to raise money on the stock exchange, enterprises that were financed by
one of the ten Yozma funds reached a rate of 17.9% [Sadovski, 2001].
10 - Average number of employees in an enterprise. Yozma-affiliated enterprises
have 88 employees on average, while the average Israeli high-tech enterprise has
22 employees [Sadovski, 2001].
1.3 - The Israeli VC Evolution - Main Features
The evolution of the Israeli VC industry can roughly be divided into three phases:
the Yozma phase, 1993-1996; the expansion phase, 1996-1999; and the maturity
phase, 1999-2000.
The beginning of the VC industry in Israel (1993) is characterized by an excess of
demand and little competition, which made it easy for the first Yozma funds to spot
the right firms and to be successful in their resale. The typical size of these funds
was around $20 million, there was no specialization, and both investment and
13
divestment sizes were relatively small ($1-2 million of investment per deal, $10-70
million of sales for the successful exits). There was very little experience among
Israeli managers.
In phase two (1996-1999), funds grew larger - $100 million - and more
experienced. Pension funds and a larger number of strategic partners invested in
Israeli funds. Many efforts were made during this period to develop links with U.S.
financial institutions. A trend to specialize both in specific sectors and financial
stages was also seen. Some funds even specialized into links with financial
institutions rather than industrial partners, and vice-versa.
Between 1999 and 2000, funds’ size continued to grow and reached $200 million
on average. In this period we saw the most important exits, like Chromatis, which
sold for $4.5 billion. There was a trend to link more directly with big strategic
partners such as Nortel, Cisco, AOL, Yahoo, etc. Israeli VCs had by now acquired
some good experience and they were not very different from their American
colleagues. Competition was fierce, as there was (probably) more money than good
ideas. Therefore, funds looked more into seed investment and started, for example,
taking equities in technological incubators. They also started investing in non-
Israeli companies.
In general, we can certainly see a learning process which led the Israeli managers
to acquire skills and links until they became experts. Their reputation grew
steadily, until the recession came (at the end of year 2000) and took the sector into
a deep crisis. At the time this report is being written, a hard recession has caught
the telecom sector, which is the most important industrial sector in Israel.
Competition is fierce and the sector is shrinking, with many management
companies going out of business.
1.4 - Success Factors, Lessons and Issues from the Yozma Programme and the
Evolution of the Israeli VC Industry
After analysing the history of the Yozma programme and the emergence of the
Israeli VC industry, the IFISE team led by Vittorio Modena has extrapolated the
success factors, the lessons, and the issues to be kept in mind when planning for the
14
creation of a venture capital industry in another region. These have been discussed
at various occasions at IFISE meetings. A brief presentation of them follows.
1. Background conditions and the existing demand for VC
Venture capital can be used as a means of economic development in mature
situations, i.e. when background conditions already exist. Necessary background
conditions can be roughly divided into two categories: (1) The investment of
substantial funds into applied research both by the public and the private sector,
and the consequent presence of skilled personnel. (2) The existence of a few at
least partially successful ventures before the start of the programme.
While the first factor leads to potentialities and capabilities on the technological
side, the second factor is more linked to cultural attitudes and the motivation to
create new companies.
It is extremely important to check for background conditions before starting a
public scheme aimed at the creation of a VC industry. In this respect one should
not confuse the need to develop a high tech industry with the need to develop the
economies of disadvantaged regions, which, more often than not, have little
potential for high-tech.
2. The problem of timing and flexibility in R&D policy and how the Israeli system
copes with it
Timing has proven to be of the essence for the extraordinary success of the Yozma
programme. This factor was made up of components both cyclical and unique, the
former including the positive trend of the high-tech industry in general (e.g., as
measured by the U.S. NASDAQ index), and the latter, one-time events such as the
massive immigration from the former USSR and the concomitant lay-off of
scientific personnel in the 1980s. At the inception of Yozma, all these factors were
present.
At first sight, finding the right timing for policy-making may appear as much a
gamble as any other; but deeper insight is gained from the analysis of the
operations of the Office of the Chief Scientist (OCS) at the Ministry of Industry
and Trade in Israel, the institution that shapes Israeli high-tech policy. The OCS
commands around $400m per year under the framework of the 1984 law for the
encouragement of industrial R&D. It is entitled to launch and stop R&D incentive
15
programmes or to modify their rules, as well as to select projects for funding.
Decision making at the OCS takes no longer than a few weeks.
Uncertainty is a natural characteristic of high-tech markets, and the Israeli Office
of the Chief Scientist is an ad-hoc institution able to either take advantage of
opportunities or to stop useless public spending. Therefore it is recommended that
any region with high-tech potential should establish an institution such as Israel's
OCS, which is able to cope with sudden changes.
3. Capabilities creation, reputation and disclosure - initial involvement of an
international partner, as most of these firms are “global” oriented
One of the rules of the Yozma programme stated that, in order to be eligible for
incentives, a fund must have the participation of an experienced foreign partner.
This simple demand caused some of the most important VCs from around the
world to participate in the Yozma funds. The “social” importance of their
participation, in terms of image, and the crucial opportunity to learn from their
specific experience and international networking, has been thoroughly analysed.
This appears to be particularly important in the wake of increased market
globalisation.
4. Importance of the Israeli (local) body involved
Another condition for eligibility of a fund for the Yozma incentives was the
participation of a known Israeli financial body. This was the base for the necessary
local commitment and financial monitoring.
5. Public intervention as a trigger to the creation of the venture capital industry in
Israel
The Yozma programme was initiated in 1993 and privatisation was completed in
1998. Indeed, unlike seed capital provision, the start-up capital is supplied from
around the world, from well-established private funds. The role of public support is
therefore to trigger the emergence of the industry by generous incentives for a few
years, but it must not be intended as a permanent intervention.
The simple awareness that the state is involved only for a limited period of time
has led to more confidence on the part of private investors.
16
6. The state as a passive investor
In spite of its significant share in the first Yozma funds, the state has never
interfered with decisions made by the funds’ managers. This has allowed for
market-oriented decisions.
A representative of the public sector was part of the Board only to make sure that
the VC fund was acting according to regulations, but he was not involved in the
process of decisions concerning investment [Erlich, 2002].
It appears that it is always important to decide at the outset under which rules the
state will withdraw from the programme. The reason for the state's withdrawal is
not only to allow the opportunity to increase the fund’s profit (in case this
possibility is given by the programme), but also in order to free the fund from the
bureaucracy involved with working with public representatives. Similar
conclusions were reached by Nijkamp, et al. [2001] who studied the case of the
Twinning Programme in the Netherlands.
7. A team with a strong technology background (both educational and working) is a
critical factor to success
Management company teams with strong technological backgrounds have been
shown to be more successful than average.
8. Upside vs. downside incentives
As has been shown in other cases [Murray, 2002], upside incentives (incentives
that cause funds to be more profitable in case of success) appear to be more
appropriate than downside incentives (incentives that limit the investors’ losses in
case of bad investments). The IFISE team reasoned that if guarantee schemes are to
be used, it is important to make sure that they apply only to passive investors such
as pension funds, and not to management companies or strategic investors who
actually influence the investments’ choice and support.
9. Avoid giving monopoly to any one fund
In the process of building the venture capital industry, Mr. Erlich, manager of the
programme on behalf of the Israeli government, took particular care that all public
funds were not controlled by the same management company.
17
10. A variety of instruments for the market must be considered. It is important to
pilot and to be ready for failures or amendments
It was shown that the Inbal programme, which had been launched at the same
(convenient) moment as the Yozma programme, was much less successful. While
the reasons could be different (downside incentive, much bureaucracy), it is clear
that there is a need for flexibility; that is, the ability to launch different
programmes, or to amend existing ones continuously, so as to be able to cope with
any misjudgements from the beginning.
On the other hand, it is important to stress that any initiative should be at least
partially successful from the beginning. Indeed, programme failures cause poor
reputations both for the public institution involved and for the whole industry,
thereby inhibiting its development for the foreseeable future.
11. Fund size
Following the evolution of the funds over time it is clear that they have grown
considerably in size. Indeed, from an average of $20 million at the start of the
Yozma programme, the funds reached more than $500 million in 2000.
The implication for policy concerning this evolution may not be clear-cut, as there
always is a limit to the extent of governmental participation in private ventures.
Moreover, we reason that venture capital schemes are only needed where the VC
industry does not exist or is still in its infancy. Therefore, public participation in the
range of $8 million (which was the case in the Yozma programme) may provide
the right order of magnitude of public participation.
12. Funds and sectoral specialization
All Yozma funds but one (Medica, which specialized in medical devices and
biotech) had no restrictions for investments in any sector, provided that the
investee firm was high-tech.
With time, many funds tended to specialize in one or more fields, most notably
telecommunication and software, as this was where the strongest potential was
found. The two planning approaches most discussed were the following: (1) the
state should be absolutely neutral with respect to sectoral investment and limit
itself to checking that the investee firm are high-tech, and (2) the public sector
18
should invest in those sectors that have a strong and unexploited potential in their
region.
While both approaches are interesting and each has its rationale, the IFISE team
reasoned that it is quite difficult to identify the strong and unexploited sectors, and
that adding constraints to the fund managers is usually very badly perceived;
therefore neutrality seems to be the best alternative. An exception should be
envisaged for sectors that need particular infrastructure, such as the biotech-
pharmaceutical sector.
1.5 - Conclusions
Since the Yozma programme has been validated as an extremely successful one, it
comes as no surprise that various countries such as New Zealand, Australia,
Denmark, Korea, the former Czechoslovakia, Taiwan, and South Africa adopted
the same or similar schemes [Erlich, 2002a]. Many good lessons can be learnt and
different issues raised from the analysis of this programme.
In the framework of the IFISE project, analysis of the programme and the Israeli
VC industry has been used for extrapolating new lessons to be transferred to other
countries, and has then been applied to the Italian reality. Details on the analysis of
the Yozma programme and part of the extrapolated lessons are found in [Teubal
and Avnimelech, 2002], those on the comparison of Yozma-affiliated enterprises
and other Israeli companies are found in [Sadovski, 2002], additional extrapolated
principles and the application of the extracted lessons to the Italian reality are
found in [Modena, 2002].
19
CHAPTER 2 THE TECHNOLOGICAL INCUBATORS PROGRAMME
AND THE PROVISION OF SEED CAPITAL TO RESEARCH-
INTENSIVE NEW FIRMS
2.1 - Programme Background and Operation
In the wake of massive immigration of skilled personnel from the former U.S.S.R.,
the Israeli government decided in 1990 to establish the Technological Incubators
Programme (T.I.P), with the aim of both helping the immigrant scientists and
engineers find employment in their own fields of expertise, and of creating new
high-tech and export-oriented companies.
Between 1991 and 1993, 28 incubators were established around the country on the
initiative of large firms, universities, and local authorities, or a combination
thereof. An incubator is a not-for-profit organization providing financial support,
office space and professional consulting to each incubated project. It usually hosts
eight projects, which have the right to remain for a maximum period of two years.
The Office of the Chief Scientist at the Ministry of Industry and Trade grants
incentives to both the incubator management and the incubated projects: the
incubator is given up to $180,000 annually and up to 100% of its annual budget.
The projects are individually given up to 85% of their approved budget, plus up to
$150,000 annually, for a maximum of two years. Incentives are only directed to
individual entrepreneurs, as existing firms are not eligible subjects. As of the end
of year 2001, the T.I.P. featured:
-
-
-
-
23 technological incubators which have remained operational (5 have merged
with larger incubators);
200 projects currently operating;
8 projects on average in each of the incubators;
735 projects already have “graduated” from the incubators.In addition, the
T.I.P. has launched a framework programme for two bio-technological incubators
which are currently being set up.
20
It should be mentioned that the T.I.P. only accepts projects that are both rooted in
research and development and have a high level of innovation and uniqueness.
Other selection criteria are that the projects have significant market potential, and
are feasible with the available resources.
The selection process follows various steps. First, the incubator’s manager, with
the help of a group of professional advisors, selects the most promising projects
from a multitude of inquiries. Then, together with the project’s entrepreneur and an
advisor, they prepare a “project folder” for submission to the incubator’s steering
committee (normally composed of academics, industrialists, and community
leaders), which gives its preliminary approval or denial to the funding. The final
decision is determined by the Central Incubators Administration in the Office of
the Chief Scientist, who may request the advice of additional experts. The
incubator manager’s opinion is the most influential. Approved projects are
evaluated anew after one year, and the decision is made as to whether to give them
a second year of support. Figure 2.1 gives an idea of the “deal flow” in the average
incubators.
Figure 2.1: Project Selection Process - General Flow Chart and Percentage Approved
Step 1: Initiator inquiries (100%)
Step 2: Submission of project portfolios (56%)
Step 3: Incubator manager’s selection (37%)
Step 4: Incubator expert committee’s selection (11%)
Step 5: Chief scientist’s selection committee (6%)
Step 6: Approved project admitted into the program (5%)
Source: Shefer and Frenkel (2002) – See also Modena and Shefer (1998)
21
In general, we might say that the T.I.P. is built in such a way that any entrepreneur,
regardless of his/her place of residence (incubators are almost everywhere), his/her
field of expertise (there is no sectoral restriction), financial situation (the state
provides most of the needed funds) or lack of experience (consulting is provided by
the incubator itself) has the chance to set up his/her own company. It also worth
noting that 84% of the entrepreneurs hold either a Master’s or a Ph.D. degree,
clearly testifying to the high-tech, research-oriented nature of their ventures.
2.2 - Validation of the Technological Incubators Programme
In order to validate the Technological Incubators Programme, we have again made
use of two sets of indicators: output indicators aimed at checking for the direct
impact of the programme, and outcome indicators used to evaluate the indirect
impact of the programme; that is, to measure figures that may also have been
influenced by other factors.
2.2.1. Economic Impact – Output Indicators
The output indicators that were measured for the Technological Incubators
Programme are as follows:
1. Number of incubators established since the programme’s inception
Between 1991 and 2000, 28 incubators have been established.
2. Incubator’s survival rate
After 11 years of operation, out of 28 incubators, 23 (82%) are still operational.
3. Number of incubated projects since inception and per year
Since its inception, 735 new enterprises have entered the incubators’ programme.
In 2001 there were 200 projects in all the incubators (an average of eight per
incubator). The average number of projects per incubator was the same as in 1996
[Modena and Shefer, 1998].
4. Graduation from the programme
In the years 1999-2000-2001, 235 (86.4%) of the 272 incubated projects have
graduated, that is, they have completed the two year period in their incubator
[Shefer and Frenkel, 2002].
22
5. Percentage of enterprises which succeeded in securing financial support at the
end of the incubation period
According to Shefer and Frenkel [2002], 77.9% of the graduated projects have
succeeded in securing financial support (in addition to that granted by the
incubators) at the end of the programme. It should be mentioned that the year 2000,
in which the survey took place, is considered to have been exceptional in terms of
the large amount of venture capital offered in Israel.
6. Financial support securement by location
One of the objectives of the programme was to create industrial development in
economically depressed areas. Validation of the programme in this respect shows
that projects incubated in peripheral, non-metropolitan regions showed a lower rate
of success (67.9%). The metropolitan areas show a success rate (78.6%) close to
the average, and the intermediate region resulted in the highest (84.3%).
Table 2.1 - Graduating Projects that Succeeded in Securing Financial Support, by Location
Location
Metropolitan region
Intermediate region
Peripheral region Field
Number % of Total Number % of
Total Number % of Total
1. Pharmaceutical (Drugs) 5 100.0% 4 100.0% 0 -
2. Medical equipment 16 69.6% 9 81.8% 9 75.0%
3. Chemicals and raw materials 18 90.0% 8 72.7% 6 60.0%
4. Mechanical engineering 13 65.0% 3 60.0% 4 57.1%
5. Hardware, communication, and electronic components 9 69.2% 4 66.7% 2 100.0%
6. Optical and precision equipment 10 71.4% 1 100.0% 2 50.0%
7. Biotechnology 1 100.0% 17 100.0% 8 80.0%
8. Energy and ecology 4 100.0% 1 100.0% 4 66.7%
9. Software 12 100.0% 12 85.7% 1 50.0%
Total 88 78.6% 59 84.3% 36 67.9% Source: Shefer and Frenkel (2002)
23
7. Financial support securement by industrial sector
Table 2.1 shows financial securement by industrial sector. As can be seen, the most
successful projects are those in the fields of pharmaceuticals (drugs),
biotechnology and software. In general, Table 2.1 shows how the structure of the
Technological Incubator may be suitable for a wide variety of sectors.
8. Contribution to the variety of the economy
Variety has always been considered an important feature of any economy. This has
been seen very clearly in the last two years (2001-2002), where regions whose
industry was too strongly focused on the telecommunication sectors (like Israel and
California) suffered strong recession. The T.I.P. appears to contribute to variety
within the Israeli industrial structure by giving opportunities to entrepreneurs
operating in sectors that are not part of the strongest in the country. Indeed, as
shown by Table 2.2, the distribution of incubated projects among various sectors is
considerably different than that of a general sample of the Israeli high-tech start-
ups. It appears that firms operating in the major sectors of Israeli industry
(telecommunications, software, etc) did not need the support of the incubators as,
in all probability, private venture capitalists/investors were able to evaluate those
firms’ potential and invest in them. On the other hand, initiatives that were not part
of the “mainstream” sectors could find start-up opportunities in the incubators,
thereby contributing to crucial variety within the national industrial production.
24
Table 2.2 – Sectorial Distribution of Incubated Projects as Opposed to a Representative Sample of High-tech Firms in Israel
Incubators General Field
Number % Number %
1. Drugs 19 9.1% 1 0.7%
2. Medical equipment 44 21.2% 15 10.7%
3. Chemicals and new materials 26 12.5% 4 2.9%
4. Mechanical engineering and industrial automation 24 11.5% 5 3.6%
5. Hardware, communication, and electronic components 17 8.2% 36 25.7%
6. Optical and precision equipment 18 8.7% 10 7.1%
7. Biotechnology (excluding drugs) 26 12.5% 10 7.1%
8. Energy and ecology 21 10.1% 0 0%
9. Software 13 6.3% 59 42.1%
Total 208 100% 140 99.9% Source: Data on incubated projects are taken from Shefer and Frenkel (2002), whereas data on the sample of Israeli start-ups are due to Sadovski (2001). The surveys were made consistent (and compared in Modena, 2002) as they were both carried out in the framework of the IFISE project.
9. Incubated projects initiator’s level of satisfaction of the incubators’ services
Table 2.3 provides for a subjective evaluation of the incubator’s services made by a
project’s initiator. In order to evaluate which features really matter in a technology
incubator, both the effectiveness of each service provided by the incubator (column
A in the table) and its actual importance for the setting up of a new firm incubator
(column B) were evaluated. To verify the importance of the incubator services
more strongly, a sample of Israeli high-tech entrepreneurs who were not linked to
the incubators were asked to evaluate the importance of each of the aspects in an
incubator (column C). Moreover, they were asked to state whether they would
expect government incentives to help for each of the incubator items (column D).
From the comparison of the responses we can spot those functions (services) that
are perceived as most important, and to which functions the T.I.P. does not give
serious enough response. These main services are: help in marketing and in links
with international collaborators, networking with strategic partners, and links to
financial sources. From this brief analysis we come to the conclusion that the T.I.P.
25
programme cannot be validated with respect to these functions. The importance of
public financial support is also easily inferred from this table.
Table 2.3 - Project Initiators’ Level of Satisfaction from Services Provided vs. Level of Importance Attached to these Services
A - Inc. Initiators –
Satisfaction of incubator
service
B - Inc. Initiators - Importance attached to
services
C – Generic sample- of initiators -
Importance attached to
services
D - Consider government intervention appropriate Service (function)
Score (5 most satisfied
– 1 least satisfied)
Score (5 most satisfied
– 1 least satisfied)
Score (5 most satisfied
– 1 least satisfied)
Percentage of interviewees answering positively
Available suitable space 3.72 2.31 1.8 13.2%
Legal counselling 3.46 3.35 2.1 9.1%
IPR Protection 3.43 3.32 2.8 22.4%
Management support 3.43 2.74 2.2 11.9%
Financial support 3.36 4.68 4.2 40.6%
Strategic counselling 3.11 3.47 2.5 11.2%
Access to labor pool/ recruiting 3.06 2.63 3.2 13.3%
Links to financial sources 3.04 4.42 2.9 30.7%
Connections with suppliers 3.04 2.27 1.9 4.9%
Networking with strategic partners 2.98 4.08 3.5 25.9%
Professional network 2.90 2.82 2.4 4.9%
Market information 2.81 3.31 2.4 16.8%
International collaborators 2.80 4.15 3.3 34.3%
Marketing 2.74 4.17 3.8 31.5%
Source of technological information 2.56 2.78 2.0 15.4%
Advanced studies and re-training 2.46 2.52 1.8 18.2%
Number of projects 109 109 143 100% (143)
Source: Data on incubated projects are taken from Shefer and Frenkel (2002), whereas data on the sample of Israeli start-ups are due to Sadovski (2001). The surveys were made consistent as they were both carried out in the framework of the IFISE project.
26
10. Incubator managers’ level of satisfaction
Incubator managers’ level of satisfaction of the program varies according to the
different proposed functions made available by the incubators. On a scale of 1 to 5,
with 5 showing the highest satisfaction, the average score given by 21 out of the 23
incubators’ managers for each service is shown in table no. 2.4. [Shefer and
Frenkel, 2002].
Table 2.4 – Incubator Managers’ Level of Satisfaction
Variable Score Std. Deviation Available suitable space 3.81 0.98 Legal counselling 3.81 1.17 IPR protection 3.67 1.20 Management support 3.67 0.97 Strategic counselling 3.52 1.17 Market information 3.48 1.03 Connections with suppliers 3.33 1.24 Access to inputs 3.29 0.90 International collaborators 3.24 1.22 Professional networks 3.19 0.81 Networking of plants 3.19 0.98 Sources of technological information 3.14 1.20 Networking with strategic partners 3.10 1.00 Financial support 3.00 1.26 Marketing 2.81 1.12 Links to financial sources 2.76 1.30 Access to labor pool 2.67 1.11 Advanced studies and re-training 2.52 0.87
Number of incubators’ managers: 21 Source: Shefer and Frenkel, 2002
When asked to point out the major barriers in running projects in the incubator, the
managers mentioned budget limitations and the lack of management knowledge
[Shefer and Frenkel, 2002].
2.2.2. Economic Impact - Outcome Indicators
This section presents the indicators of validity as measured 11 years after the T.I.P.
inception and which relate to the larger impact produced by the programme. Some
27
of these indicators may well be influenced by factors other than the programme
itself.
1. Percentage of incubated firms as a share of total high-tech firms in Israel
Sadovski [2001] has shown that 14.7% of the existing high-tech companies in
Israel in 2001 were supported by the Technological Incubators Programme. This
percentage is quite significant when one takes into account that Israel has a huge
number of high-tech start-ups (according to some, it has the largest absolute
number in the world after the U.S.).
2. Percentage of entrepreneurs coming from academia (helping technology
transfer from academia to industry)
Table 2.5 and 2.6 are concerned with the (at least partial) validation of the T.I.P. as
a means of technology transfer from academia to industry. It is easily noted that
many founders of firms that pass through an incubator are much more likely to
come from the world of academia than founders of the rest of Israeli firms.
Table 2.5 - Previous Occupation of the Founders - “Incubator” Companies vs. Generic Sample Companies
Previous occupation (% of total)
Industry Academic and
research institution
Other occupations
Total Number of
Companies (100%)
Incubators Graduates 41% 36% 23% 22
Sample companies 78% 12% 10% 98
Source: Sadovski, 2001
3. Percentage of firms whose ideas came from academia (helping technology
transfer from academia to industry)
A second indicator was aimed at checking the contribution of the T.I.P. towards the
transfer of technology from academia to industry. Sadovski [2002] has checked the
environment in which the basic idea of the new product was conceived. Table 2.6
shows clearly that an incubator graduate’s new technologies are much more likely
to have stemmed from university research than from other high tech companies.
28
Table 2.6 - The Working Environment for the Genesis of the New Idea
Companies (% of total)
Environment High-tech industry
Traditional industries
Academic institutions
High-tech & academic institutions
Total
Incubator graduates 28% 11% 50% 11% 100%
Sample companies 63.5% 20% 15% 1.5% 100% Source: Sadovski, 2001
4. Total private investment in incubated or formerly incubated firms as opposed to
total public expenditures
As of the end of 2001, a total of $627m had been invested by private entities into
incubator projects, versus a total governmental investment of $254.1m; a ratio of
247% [Pridor, 2002a].
5. Sales revenues of incubator-graduate companies as opposed to sample
companies
Table 2.7 shows the sales revenues of a sample of incubated companies as opposed
to a sample of high-tech companies in Israel. Incubator graduates seem to perform
more poorly than average.
Table 2.7 - Sales Revenues (2000) of Incubator-Graduate Companies vs. Non-Incubator Sample Companies
Respondents (% of total)
Sales Incubator Graduate Non Incubator Graduate
No sales 63% 52%
100k$-1m$ 37% 22%
>1m$ 0% 26%
Total 100% 100% Source: Sadovski, 2002
2.3 - Evolution of the Technological Incubators Programme Over Time
In the course of its 11 years of existence, a few changes have occurred in the
regulation and organization of the T.I.P., as follows:
29
1. The initial effort of the public sector has proven to be successful in attracting
private investors. Figure 2.2 shows the cumulative investment of the private vs.
the public sectors. The latter reached the “break even point” (a situation where
the private investors endow as much money as the public) in 1998, and the gap
seems to be widening [Pridor, 2002a].
2. The number of incubators has diminished from 28 to 23, with 5 incubators
having merged with others.
3. Rules for the acceptance and management of projects, which are revised every
few years, have become slightly more flexible. In particular, the previous rule
by which at least 50% of the entrepreneurs had to be new immigrants has been
lifted. In addition, rules that posed limits to the wages of the workers have been
softened.
4. The rule that prevented the sale of intellectual property to foreign entities or
transfer of the company abroad is being substituted with a rule whereby if the
shareholders pay back to the state twice as much as their company was granted,
they are freed from such restrictions. This rule will apply to all governmental
high-tech programmes.
5. In spite of the success of the biotech and pharmaceutical (drug) related projects
within the existing incubators, the T.I.P. has found that the existing potential in
the country was not exploited, and that in order to do so it would be necessary
to create a new ad hoc programme. As a result, a tender for three biotech
incubators has been launched with some important new features: (1) Incubators
will include research equipment to be used by the projects. (2) Projects will be
permitted to receive the loan for three years (as opposed to only 2 years in
regular incubators). (3) The maximum governmental loan will be $1.8 million
for these projects. This is done by means of convertible bonds, i.e. if the
incubator is not able to refund the debt, the state will have the option to turn it
into shares of the relevant companies. (4) Contribution to management
companies is only for the acquisition of new equipment, up to 50% of the
approved budget [Web-Site Technological Incubators, 2002].
6. A pilot project for partial privatisation is being tested parallel to the T.I.P.
programme [Web-Site Technological Incubators, 2002]. According to this new
30
proposal, incubators will be for-profit entities which will not receive any
budget for management. They will be entitled to state loans for projects, the
loans will become equity, in case the incubator is not able to refund it
(convertible bonds). The state loan is under condition to a series of rules,
including that the equity held by the incubators should range between 30-70%.
The new framework is being proposed first to the existing incubators [Web-
Site Technological Incubators, 2002].
Figure 2.2 - Government Investment vs. Private Investments in Incubator Graduate Projects
0
100000
200000
300000
400000
500000
600000
700000
1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
- - - Government investment Private investment
Source: Pridor, 2002
2.4 - Success Factors, Lessons and Planning Issues from the Technological
Incubators Programme and its Evolution
1 - Importance of strong public support for seed finance
In spite of the enhanced involvement of the private sector, state contributions still
account for 64.4% of the incubated firms’ budgets. Venture capital funds, which
are supposed to be the most natural source of co-financing, entered in only 2.4% of
projects as they started and in 14% of projects after incubation. This data is
especially significant in Israel, where 52% of high-tech firms are VC invested. It
31
also worth noting that in spite of very generous state contributions (up to 85% of
the budget; up to $350,000), both project initiators and incubators’ managers agree
that the provision of seed capital is the most important and necessary function for
setting up new high-tech start-ups. This finding is in line with extensive
international literature dealing with market failure in early stage financing of high-
tech ventures (Hall, 1989; Murray and Marriott, 1998; Oakey, 1995).
As we have seen in Chapter 1, public intervention for the creation of start-up
capital sources ($1-2 million) does not have to be continuous, as it only needs to
trigger the establishment of private sources that would become self-sustainable
after some time. The provision of seed capital has to be strongly supported by the
public sector, although private sources participate in the investments.
2 - Private funding to the incubator management team increases over time, which
means public intervention may be reduced over time (although not stopped)
Table 2.8 shows incubator budgets according to the nature of the sources (private
or public). Keeping in mind that state contributions accounted for 100% of the
budget at the beginning, these data show how the state's contribution has
diminished over time in relative terms. This can be explained by the fact that
private sources would not be interested in joining a new programme before they
have at least an initial record of it. On these grounds, we came to the preliminary
conclusion that when a new public programme is launched, there might be a point
in planning for a strong incentive at the beginning, which may then be reduced
with time.
Table 2.8 - Average Source of Funding of Incubators, by Location
Location of incubators Sources of funding Total
Metropolitan region
Intermediate region
Peripheral region
Total budget per average incubator (in $) $565,381 $602,111 $498,000 $566,286
Government funding (%) 38.0% 30.4% 36.9% 49.1%
Other sources of funding (%) 62.0% 69.6% 63.0% 50.9%
Number of incubators 21 9 5 7
Source: Shefer and Frenkel, 2002
32
3 - Locational factors and the need for background conditions
The question of location is of extreme importance when we consider the problem
of where to locate facilities such as incubators or seed capital funds. Indeed,
economic policy oriented to the development of the high-tech sectors is often
confused (or wrongly combined) with policy aimed at the development of
depressed areas. It was pointed out (see section 2.2, point 6) that the T.I.P.’s
peripheral incubators performed less successfully than others. This could have been
linked to the lower number of proposals submitted to this kind of incubator, or to
the less stringent selection process (see table 2.9). The real issue turns out to be
that, in order to launch successful programmes, it is necessary to check the
existence of background conditions. It is imperative that there be a critical mass of
potential entrepreneurs (deal flow) and that subsequent sources of financing exist,
usually private venture capital funds.
Table 2.9 - Project Selection Process in the 21 Israeli Incubators, by Location
Total Location Metropolitan region Intermediate region Peripheral region
Filtering Process
(per average incubator)
Number % Number % Number % Number %
Number of inquiries 345 100% 397 100% 372 100% 259 100%
Number of proposals submitted
194 56% 232 59% 252 68% 104 40%
Incubator manager’s selection
126 37% 145 37% 152 41% 84 33%
Expert committee’s selection
38 11% 40 10% 30 8% 40 15%
Chief Scientist’s approval
21 6% 24 6% 17 5% 20 8%
Projects admitted into program
18 5% 18 5% 17 5% 20 8%
Number of incubators 21 9 5 7
Source: Shefer and Frenkel, 2002
33
If background conditions exist, it appears that there is quite a good probability of
graduate projects remaining in the vicinity of the incubator, thereby contributing to
industrial development at the local level. This, at least, has been found to be the
case in Israel [Shefer and Frenkel, 2002; see also Modena and Shefer, 1998].
4 - Neutrality vs. sectoral specialization
The dilemma of whether to encourage sectoral or neutral incubators can be phrased
as follows. On the one hand, an incubator (or seed fund) focused on a particular
sector seems to be more efficient than one which accepts initiatives from any
sector. Indeed, the management team of a sectoral incubator/seed fund would come
from that same sector, and would be more competent both in the evaluation of the
proposals and in helping entrepreneurs network with partners to better define their
own product. On the other hand, a sectoral incubator automatically rules out the
opportunity for a wide range of initiatives, among which valuable ones may be
found. In other words, the deal flow of the sectoral investor is strongly limited.
From a public point of view, a sectoral incubator appears not to respond to the
criteria by which the opportunity to set up a new company must be given to any
valuable entrepreneur.
The question becomes even more difficult when the region for which the
incubators are planned is a small one, and only a few funds can be set up. Shall one
concentrate efforts into the one or few sectors that have the potential to grow and to
create the necessary critical mass, or just be neutral and let the market drive the
incubators’ deal flow and choices?
In the framework of the IFISE project, Shefer and Frenkel [2002] have shown that
in spite of the trend of most incubators’ managers to support specialization, and in
spite of a slight trend of existing incubators to actually specialize in two or three
sectors, no major differences were found between the performance of the more
specialized versus the neutral incubators.
The conclusion we reached is that there should be no restriction by the state as to
whether the incubator/seed fund should focus on one or more sectors, or be totally
neutral. However, extreme care should be taken in checking that the proposal is
consistent, i.e. the proposers should show why they decided to focus on particular
34
sectors (e.g., what is the potential of the area in that sector? How is the
management team track record consistent with that choice?).
An exception should be made for sectors that need specific infrastructure, as in the
biotech/pharmaceutical sector, which should be dedicated through an ad hoc
programme.
5 - Integrative approach vs. division of functions
Generally the T.I.P. provides for a one-stop shop for high-tech entrepreneurs. It
includes all necessary functions such as seed money supply, professional
consulting and office space. According to Rina Pridor, T.I.P. Director [Pridor,
2002], this is of particular importance as it creates the necessary trust atmosphere,
involvement, and discipline necessary for the inexperienced entrepreneur. Also
according to Pridor [Pridor, 2002a], these are also essential factors in light of the
finding that 70% of project failures are attributed to the personality of the
entrepreneurs (20% to misunderstanding of the market, and only 10% to technical
failure).
6. - Evaluation by an expert network
The Technological Incubators Programme has set up a national database of experts
in almost all fields of science and technology. This is of crucial importance, as the
incubators are submitted for evaluation along with ideas that come from widely
varied fields, and it is often difficult to find an expert able to evaluate them,
especially at the local level. It is strongly recommended that incubators be
networked, and that they share the opportunity to get professional advice from a
large national database of experts.
7. - Transferring the firm abroad or selling the intellectual property
In general, the public authority that launches a support programme to high-tech
start-ups is usually interested in developing the economy of its area of jurisdiction.
Consequently, some authorities such as the Office of the Chief Scientist in Israel
have historically imposed various limits on the companies that received grants
from the government. These limits have caused considerable distress among
entrepreneurs, as the sale of either a company to foreign entities, or the sale of
intellectual property for a certain product, is common practice in the high-tech
sector. Israeli authorities have coped with this problem by introducing the rule by
35
which a company is completely free to do as it wishes concerning the matter,
provided it refunds back to the state a sum which is the double of its financial
grant.
8 - The importance of the entrepreneur’s share
One of the most important rules of the newly incubated projects is that the
entrepreneur team owns at least 30% of the shares after the first round of
investment (entrance into the incubator). Indeed, according to Rina Pridor [Pridor,
2002], it is very important to keep the inventor, who has the necessary know-how
on the new technology used by the firm, motivated. By the same token, he should
be working as much as possible on the project, up to the ideal of his full time
employment.
9 - Enterprise governance and entrance of new investors
If the entrepreneur is crucial in the first stages of the venture, he can become a
burden after some time, when the firm should insert new investors, and by doing
so, make the entrepreneur less influential. Indeed, it has been shown that many
entrepreneurs are reluctant to relinquish control of their firms, thereby limiting its
growth. In order to cope with this, some incubators have been authorized to act as
trustees, and keep 20% of the shares in their hands with the power to sell them to
an external investor, without the prior acceptance of the other shareholders [Pridor,
2002].
10 - Importance of the incubator’s manager
Shefer and Frenkel (2002) have shown that the capability and motivation of the
incubators’ managers is crucial. "Growing" a new initiative is no easier than
running an existent and established one; therefore the manager and his team are to
be carefully chosen and adequately remunerated and motivated.
11 - University incubators and seed funds
Proximity to a university research centre has been shown to be a significant factor
for entrepreneurs in the field of biotechnology, pharmaceuticals and medical
devices [Shefer and Frenkel, 2002]. This can also be linked to the higher academic
level that is usually held by such entrepreneurs.
Moreover, when establishing a university incubator or a seed fund, one should take
into account a few problems that are likely to arise:
36
11 A - Conflict of interest. It may happen that due to research aspirations of the
university, researchers are tempted to use seed capital for funding their research
even though it is not market-oriented. For this reason, it is sensible to avoid a
university’s control over a seed fund, although it may participate in that fund. Also,
to avoid conflicts of interest, it is important to avoid either the incubator’s
management or the seed fund’s dependency on university management [Pridor,
2002].
11B - Professors as entrepreneurs. It is quite common that university researchers do
not have the managerial skills needed to set up and run the new company. There
are two ways to deal with this problem: (A) a professional manager coming from
the industry (possibly the same sector as the entrepreneur) is put in tandem with the
researcher, and becomes the firm’s manager. The researcher invests the necessary
time (typically one or two days per week) to provide needed technical advice, but
is still able to keep his position within the university; or (B) ad hoc business
courses are established for the inexperienced entrepreneur, and he has the
possibility to refine his business plan within their framework [Pridor, 2002].
37
CHAPTER 3 THE ITALIAN INNOVATION SYSTEM AND ITS
POTENTIAL FOR HIGH-TECH START-UPS
This chapter summarizes figures and characteristics of the Italian Innovation
System through the analysis of general indicators for high-tech activity, the
available start-up capital and seed capital sources, and the identification of
concentrations of high-tech activity. Findings on the Italian Innovation System
have been used as basic facts and data for planning the proposed projects which
will be presented in Chapter 4.
3.1 - General Characteristics of the Italian Innovation System
Figure 3.1 presents the major innovation and R&S indicators for Italy as opposed
to the EU average. It is easy to mark the sharp contrast between the first five
indicators (representing the Italian position in the high-tech industry), all
significantly below the EU average, and the last one (new-to-market products)
which is significantly higher than the EU average. In order to correctly interpret
this data, it is necessary to distinguish between two different and often misused
concepts: innovative as opposed to research-intensive firms.
Figure 3.1 - Main Innovation Indicators, Italy vs. Europe
-16%-27%
-53%
-28%
-73%
108%
-100%-80%-60%-40%-20%
0%20%40%60%80%
100%120%
Employment in high-tech Public R&D expense/GDP Business R&D expense/GDP High-tech sectors value added EPO high-tech patent applications New-to-market products
Source: University of Pavia elaboration on Eurostat and OECD data
38
An innovative firm often changes its products, services, or its production processes.
It often (but not always) uses new technologies, but does not necessarily produce
them. When such a firm is founded, its time-to-market is usually not longer than
six months. Extremely common in Italy, this kind of firm usually deals with
incremental innovation or with the diffusion of existing technologies and their
adaptation to different kinds of customers. This has been the case for a large
number of Internet companies that were newly created in Italy in the 1990's. One of
them, Tiscali, has become one of the largest Internet service providers in Europe. It
is worth mentioning that even if the Internet can be regarded as a special case,
Northern Italy would still be well known for its many small and medium
enterprises in a variety of low and medium-tech sectors, from fashion to
mechanics.
On the other hand, a research-intensive firm is one that actually creates new
technologies or new products by means of scientific and technological research. It
has a large percentage of highly skilled personnel and a high R&S to turnover ratio,
and its innovation is often radical. With the creation of such a firm, a significant
financial effort is needed even before the first prototype is produced, and time-to-
market is no less than two years. 2
It is important to stress that, unlike “simply innovative” companies, research-
intensive firms are very rare in any part of Italy. Orsi (2001), for example, remarks
that while 80% of R&S industrial expenditures are sustained by firms with over
500 employees, only 2% are sustained by firms with less than 50 employees.
Given the different financial needs of innovative firms as opposed to the research-
intensive ones, and having established that the former are very common in Italy
while the latter hardly exist, policy orientation must distinguish between these two
kinds of activity. For this purpose a uniform policy for both innovative firms and
generic New Technology-Based Firms would be inadequate. For additional studies
on the Italian Innovation System please refer to Malerba, 1993; Malerba and
Gavetti, 1996 and Modena et al., 2001.
2 More on the importance of this distinction can be found in Oakey, 1995 or, in the Italian case, in Calderini, 2000.
39
3.2 - High-tech Activity per Sector and Geographical Region
Since the Italian territory is large and non-uniform, it was found necessary to map
the potential for high-tech spin-offs according to various geographical areas. This
was especially important because, as was explained in section 1.4 (paragraph 1), it
is imperative that venture capital funds for the high-tech industry are launched in
areas where conducive background conditions already exist, and where there is
significant potential for high-tech start-ups.
Various data have been processed, such as R&S expenses, production units and
skilled personnel per region, as well as inventors3 per local systems4, and sector.
This part of the IFISE project, which was conducted by Modena et al, (2001), has
come to the following conclusions:
1. The region in Italy with the highest potential for high-tech start-ups is
Lombardia. Activity in this region is distributed among different sectors;
mainly electronics, biotech, fine chemistry, and industrial automation.
2. Italy does not have a comparative advantage in any of the high-tech sectors
except for industrial automation (to the extent that this can be considered a
high-tech sector).
3. The central and northern regions of the country have significantly larger
potential in the high-tech sector than the southern regions. This is especially
true for industrial research, but academic research is also stronger and more
efficient in these areas (see also Balconi et al, 2002; Murst, 1999).
4. Lazio, and Rome in particular, have a high concentration of academic research
activity.
5. Few significant local systems exist in Italy in terms of high-tech activity. These
include electronics in the Milan and Turin areas, biotech (pharmaceuticals) in
Milan and Rome, industrial automation in Milan, Turin, and Bologna, and, to a
lesser degree, semiconductors in Catania.
3 Inventors were defined as individuals who have filed at least one patent in a high-tech sector. This definition, and the use of inventors as an indicator of high-tech activity, has already been used by Ferrari et al [1999]. For the use of patents as a ST indicator, see OECD, 1994. 4 These are defined as job-intense commuting areas – see also ISTAT, 1998.
40
6. Although the Milan area is by far the most active of the high-tech sectors, its
potential is divided into different sectors such that it cannot be considered a
cluster, at the European level, in any of the high-tech sectors.
These conclusions have been inferred from, among others, tables 3.1 and 3.2.
Keeping in mind that the single most important ingredient for any high-tech
development - and for start-ups in particular - is skilled manpower, much attention
was given to the indicators relating to that factor. To what extent a researcher or an
“inventor” (an individual that has filed a patent pertaining to a high-tech sector)
can be considered a potential entrepreneur is a question that could not be addressed
in the framework of this project. Such a task would involve assessing the readiness
of skilled manpower to set up their own company. However, it is our belief that
well-planned public programmes (including VC provision, assistance and
advertising) do in fact affect the readiness of an individual to become an
independent entrepreneur. Therefore the basic empirical indicator to look at
remains the skilled manpower concentrations.
41
Table 3.1 – Major R&D Indicators per Geographical Region
Region
R&D personnel in public and
private enterprise:
% of national
total
R&D personnel in
public institutions:
% of national
total
Total R&D
person-nel: % of national
total
R&D person-nel total
per 1,000
inhabi-tants
Added value: % of
national total
Civilian R&D
expen-diture % of
national total
(1994)
Index of R&D expen-diture (per
popula-tion) 1
Piemonte, Valle d’Aosta 24.5 4.4 13.2 4.3 11.3 15,4 0.33
Lombardia 33.2 11.9 21.2 3.4 27.3 23.6 0.2 Trentino Alto Adige 0.5 0.9 0.7 1.2 1.4 0.8 -0.33
Veneto 4.6 4.6 4.6 1.5 11.1 4.7 -0.24
Friuli Venezia Giulia 2.2 2.1 2.2 2.6 2.2 2.5 0.09
Liguria 3.3 3.7 3.5 3.0 3.0 3.5 0.08
Emilia Romagna 7.6 8.1 7.9 2.9 9.7 7.4 0.03
Toscana 3.9 8.2 6.3 2.5 7.3 5.9 -0.02
Umbria 0.4 1.8 1.2 2.1 1.4 0.9 -0.22
Marche 0.6 1.6 1.2 1.2 2.7 1.0 -0.43
Lazio 9.9 27.4 19.7 5.5 6.6 19.0 0.35 Abruzzo, Molise 2.0 2.0 2.0 1.8 2.1 1.8 -0.22
Campania 4.1 8.8 6.7 1.7 4.1 5.4 -0.29
Puglia 1.5 3.5 2.6 0.9 3.4 2.2 -0.53 Calabria Basilicata 0.4 1.8 1.2 0.6 1.3 1.1 -0.62
Sicily 1.0 6.5 4.1 1.2 3.5 3.5 -0.43
Sardinia 0.3 2.7 1.7 1.4 1.6 1.3 -0.38
Total 100.0 100.0 100.0 2.5 100.0 100.0 0.00
Northwest 61.0 20.0 37.9 3.6 41.6 42.5 0.23
Northeast 14.9 15.7 15.4 2.1 24.4 15.4 -0.09
Centre 14.8 39.0 28.4 3.7 18 26.8 0.17 South and islands 9.3 25.3 18.3 1.3 16 15.3 -0.4
Highest values are shown in bold 1(Regional expenditure divided by national expenditure)/(regional population/national population). The index was normalized as to give results in the interval [-1,1]. National average value corresponds to zero
42
Table 3.2 below was created so as to locate any concentrations of high-tech activity
in a local system in a given sector. A local system is defined as a work-intensive
area, the extent of which is defined by commuting distance. Looking at a local
system rather than looking at a whole region permits us to spot smaller realities that
would fade within a regional context. Moreover, this analysis gives some insight
into the various sectors, thereby permitting identification of local advantage within
local systems. For example, we have found that Catania, which is part of the
underdeveloped region of Sicily, has significant activity in the field of
semiconductors. The analysis also shows how the high-tech activity in Milan is
distributed among different sectors. The last column in Table 3.2 gives a measure
of the ratio of inventors to employees in a given sector and a given local system as
opposed to the same ratio as calculated at national level. This gives a comparison
of innovative trends between areas that are active in the same sector. For instance
while the area of Milan shows a higher level of employees and production units in
the field of fine chemistry, employees in the areas of Novara and Cairo Montenotte
(Savona) show a stronger trend to patenting and therefore to product or processes
innovation. A deeper analysis of the interpretation of these indicators can be found
in Modena [2002].
43
Table 3.2 - R&D Indicators per Main High-tech Sector and Local System
Sector Region Labour local system (LLS) 1
Inventors per LLS and % of total investors in the period
1995-99 2
Weighted inventors per LLS
and % of total number of patents
- 1995-99 2
Production units per
LLS and % of sector
total - 1996 3
Employees per LLS and % of sector total –
1996 3
Index of inventors Intensity
4
Lombardia Milano 224 (31.8%) 108 (32.2%) 281 (30.1%) 27,420 (40.9%) -0.13 Lazio Rome 85 (12.1%) 58 (17.3%) 125 (13.4%) 6,864 (10.2%) 0.08
Pharmaceutical
Sector (national) total 705 (100%) 335 (100%) 933 (100%) 67,032 (100%) Lombardia Milano 186 (28.4%) 228 (35.4%) 260 (13. 4%) 12,966 (25. 9%) 0.05 Sicilia Catania 39 (11.2%) 50 (7.8%) 13 (0.7%) 1,969 (3.9%) 0.08
Computer hardware, semiconductors and electronics components Sector (national) total
655 (100%) 644 (100%) 1,943 (100%) 49,984 (100%)
Lombardia Milano 145 (25.3%) 104 (28.0%) 331 (15.1%) 14˙253 (26.1%) -0.02Piemonte
Torino 62 30 103 1,872 0.52Ivrea (TO) 15 6 8 129 0.83Total 77 (13.4%) 36 (9.7%) 111 (5.1%) 2,001 (3.7%) 0.57
Lazio Roma 48 (8.4%) 35 (9.4%) 173 (7.9%) 5,802 (10.6%) -0.12
Consumer electronics and telecommunication hardware
Sector (national) total 573 (100%) 371 (100%) 2,198 (100%) 54,618 (100%) Lombardia Milano 121 (21.7%) 65 (18.6%) 355 (21.8%) 5,839 (21.2%) 0.01 Piemonte
Torino 38 (6.8%) 19 (5.4%) 90 (5.5%) 1,422 (5.2%) 0.14 Emilia Romagna Bologna 27 (4.8%) 20 (5.7%) 41 (2.5%) 1,110 (4.0%) 0.09
Precision instruments
Sector (national) total
557 (100%) 349 (100%) 1,631 (100%) 27,581 (100%) Lombardia Milano 67 37 400 7,794 -0.07
Bergamo 7 15 58 1,198 -0.26Como 12 11 30 941 0.12Total 86 (25.7%) 63 (30.7%) 488 (21.3%) 9,933 (29.5%) -0.07
Liguria Cairo Montenotte (SV) 55 (16.5%) 35 (17.1%) 1 (0.0%) 1,499 (4.5%) 0.57 Piemonte Novara 26 (7.8%) 13 (6.3%) 17 (0.7%) 788 (2.3%) 0.54
Fine chemistry
Sector (national) total 334 (100%) 205 (100%) 2,228 (100%) 33,656 (100%) Piemonte Torino 39 (16.6%) 34 (15.7%) 62 (7.2%) 722 (4.9%) 0.54Lombardia Milano 21 (8.9%) 19 (8.8%) 156 (18.1%) 3,406 (23.1%) -0.44 Emilia Romagna Bologna 11 (4.7%) 17 (7.8%) 33 (3.8%) 886 (6.0%) -0.12
44
Industrial Automation
Sector (national) total 235 (100%) 217 (100%) 862 (100%) 14,772 (100%)
1 Source: ISTAT, 1997, Local Labour Systems 2 Source: University of Pavia elaboration on EPO data 3 Source: ISTAT, 1996 4 Intensity of inventors is defined as the ratio of inventors to personnel in a specific sector and local system. The index was normalized as to give results in the interval [-1,1]. The average value for a sector at national level corresponds to zero
44
In order to get further insights on high-tech activity by sector, it was decided to
look into more details of the biotech, electronics, and telecommunication sectors. A
short outline follows in the next two sections.
3.3 - The Electronics and Telecommunication Sector
Although Italy is a large market for electronics and telecom businesses (it is the
largest European market for mobile phones), the country creates little production -
and innovation - as testified by the negative trade balance shown in table 3.3. The
relatively strong VC investment in 2000-2001 can be easily explained by industry
deregulation, which led to a large number of small carrier providers.
Table 3.3 - Electronic Components, Computer Hardware and Telecommunication Equipment - National Basic Indicators
Electronics components 1998 1999 2000 99/98 00/99 Turnover 2,117 2,159 2,319 2.0% 7.4% Export 1,020 1,137 1,198 11.4% 5.4% Import 1,539 1,562 1,647 1.4% 5.5% Trade balance -519 -425 -449 18.1% -5.6% Computer hardware 1998 1999 2000 99/98 00/99 Turnover 3,712 3,935 4,328 6.0% 10.0% Export 1,978 2,012 2,133 1.7% 6.0% Import 2,999 3,285 3,739 9.4% 13.9% Trade balance -1,021 -1,273 -1,606 -24.7% -26.1% Telecommunications equipment 1998 1999 2000 99/98 00/99 Turnover 10,716 11,290 12,627 5.3% 11.8% Export 2,789 2,846 2,918 2.0% 2.5% Import 3,202 3,424 3,951 6.9% 15.4% Trade balance -413 -578 -1,033 -39.9% -78.7%
Source: Website ANIE, 2002
To the extent that the Internet can be considered part of the telecommunications
sector, it is worth recalling that the tide of new Internet companies that swept
through Europe in the late 1990's also touched Italy. However, in addition to some
Internet providers like the aforementioned Tiscali, most of the resulting firms were
“dotcoms”, i.e., websites aimed at the commercialisation of various products or
services. No significant radical innovation appears to have been developed in Italy.
45
The computer sector has been heavily affected by the closing of the Olivetti
computer production company, which was one of largest manufacturers in Europe
in the 1980's. Currently, no computer producer is active in the country.
In the field of electronics, the only large firm with significant operations in Italy is
STMicroelectronics, which holds its major R&D centres in Milan and Catania
(Sicily). Other significant R&D firms are Alcatel, Siemens, Bull, Ericsson and
Telecom Italia; however, none of these has more than 1,000 R&D personnel in
Italy [Modena et al, 2001].
The activity in Milan and Catania for this sector has been studied further in order to
check the spin-off potential in both areas. As clearly emerges from table 3.1 and
3.2, the greater Milan area (including Pavia, Bergamo, Brescia and Varese) has the
highest activity for the electronics sectors. The technical schools of Milan and
Pavia together count some 500 researchers in electronics-related fields. The R&D
centres of large multinationals, including Alcatel, Bull, Ericsson, Siemes, Pirelli
and STMicroelectronics, as well as smaller centres of Agilent, Lucent and Phillips,
account together for some 5,300 R&D personnel (Gattoni, et al, 2001).
Private venture capital is available in Milan, as most VC management companies
are located in the area, but no significant public support grants are obtainable as the
area is not considered a priority development area.
The IFISE team reasoned that given these conditions, the provision of seed capital
for the high-tech industry could bring more research-intensive firms to the level at
which they could be of interest to venture capital funds (which mostly provide
subsequent funding), thereby enhancing their success probability. Project One in
Chapter 4 is also aimed at answering this need.
As far as the area of Catania (Sicily) is concerned, it was found that approximately
1,200 engineers and scientists are present in the area. A little less than 1,000 of
these are currently working for STMicroelectronics, which dominates the industry
in the region. Between 10 to 20 start-ups (according to definition) were found in
the area at various levels of research intensity; at least five of them are STM spin-
offs and related to the semiconductor sector. No venture capital fund is established
in the area and only one VC investment has been reported. Torrisi [2002], who has
studied the Catania area, defines this set of conditions as a “pre-cluster” situation.
46
We reasoned that the existing conditions in Catania are not sufficient to justify the
creation of venture capital funds dedicated to the high-tech sectors. In other words,
a critical mass of activity and skilled personnel is not present in the region
[Modena, 2002]. Therefore the desirable policy for this area would be to continue
attracting R&D departments of large multinational firms, as was done in the past,
until a critical mass of activity is achieved. This can be done by means of the
generous funds available under the EU structural funds, since Catania (Sicily) is an
“Objective 1 area” (see also section 3.6.6).
3.4 - The Biotech Sector
In the last ten years the biotech sector has created interest among investors,
especially due to the scientific revolution which has occurred mainly in the field of
genetics. Despite being the fifth-largest world market for pharmaceuticals, Italy has
largely remained out of the industrial blossoming that has swept the sector. Table
3.4 shows how both investments and human resources in industrial R&S are lower
in Italy than in the major developed countries.
Table 3.4 – R&D Investments and Personnel in the Biotech-Pharmaceutical Sector in Italy and in the Major Industrialized Countries
Investments in R&D
Italy France Germany UK U.S.A. Japan
Investments R&S/turnover (%) 6.02 12.33 10.72 19.97 15.91 20.04
R&D Personnel
Italy France Germany UK U.S.A. Japan
R&D Personnel (number)
5,024 15,200 15,000 20,90
0 51,000 34,437
R&D personnel/total personnel (%) 7.18 16.87 12.99 28.25 19.62 28.24
Source: Farmindustria, 2000
47
However, Italy boasts strong academic research in this sector. It was found that as
many as 10,000 researchers (or about half of all researchers in S&T) are active in
related fields (genetics, medicine, biotech or pharmaceuticals). These are relatively
evenly distributed throughout the country [Modena, 2002]. It is also worth noting
that the number of physicians per capita in Italy is twice as large as the average in
other European countries. Although doctors as such may not be considered
potential entrepreneurs, they certainly make up a reservoir of skilled manpower in
the biotech-pharmaceutical field.
The most active centres in Italy are the greater Milan and Rome metropolitan areas,
although only Milan can count on significant industrial R&D. Other significant
concentrations of academic activity exist throughout the country (such as Turin,
Padova, Bologna, Pavia and Naples).
In spite of a large market and the significant potential found in the academic sector,
biotech spin-offs hardly exist. Figure 3.2 shows that Italy has one of the lowest
number of enterprises in the biotech sector in Europe (around 50). This number is
even lower than that of countries like Finland and Denmark, whose population is
less than a tenth of Italy’s and which have no exceptional life science industry.
Figure 3.2 - Enterprises in the Biotech Sector in Major European Countries per Country
0 50 100 150 200 250 300 350 400
Other countries
Ireland
Belgium
Finland
Switzerland
Sweden
U.K.
Source: Ernst & Young, 2003
48
The identification of such a market failure is of great importance, as it helps to
show that a generous public programme dedicated to the biotech sector would be in
the common interest of Italy and Europe, in that it would help use unexploited
potential. In order to strengthen our case, we should mention that private VC fund
investments in the biotech-related field also hardly exist (see table 3.5). Moreover,
as compared to their colleagues in the U.S., U.K., Germany and France, large firms
in Italy are very reluctant to invest in the acquisition of licenses for new products if
these have not reached phase three of development [Farmindustria, 2000]. Fiorilli
[2002] has validated these results by interviewing a number of market actors in
Italy. These interviews also pointed out that a programme for targeting early stage
investments would be most useful for bringing research results from academic
laboratories to a point where they could be of interest for private investors.
Table 3.5 - Number of Investments and of Early Stage Investments in the Biotech and Pharmaceuticals Sectors - year 2001
Sector Number of investments Number of early stage investments
Biotech 6 1
Pharmaceuticals 5 3
Total 11 4
Source: Gervasoni, 2002
It is our belief that the above arguments could be used by any public authority
wishing to launch a programme dedicated to the biotech sector as partial
demonstration that the programme does not “adversely affect trading conditions to
an extent contrary to the common interest”, in compliance with article 87 of the EU
regulations concerning state investment (see also section 3.6.1.).
3.5 - The Supply of Private Seed and Venture Capital Sources
Venture capital in Italy has remained largely underdeveloped; a conclusion that
clearly emerges from figure 3.3, which shows that Italy’s VC investment as a
percentage of GDP is among the lowest in the industrial economies. However, in
recent years, and especially between 1999 and 2000, a positive growth trend was
49
detected. In particular, seed and start-up investments have increased from 153 in
1999 to 339 in 2000, corresponding to 130 and 244 firms respectively. This was
probably due to the explosion of the Internet sector and to the privatisation of the
telecommunication sector. The crisis of these two sectors in 2001 has caused a
restriction of activity for both.
Figure 3.3 - Internal VC Investments as a Percentage of GDP
Isra
elU
.S.
Can
ada
Uni
ted
Kin
gdom
Fran
ceTh
e N
ethe
rland
sSo
uth
Afr
ica
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and
Nor
way
Ger
man
ySw
eden
Finl
and
Spai
nB
elgi
umA
ustra
liaPo
rtuga
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dia
Italy
New
Zea
land
Den
mar
kPo
land
Hun
gary
Japa
n
Sing
apor
e
Sout
h K
orea
0
0,2
0,4
0,6
0,8
1
1,2
1,4
2000 1999 Source: GEM – Copyright © 2001, Paul D. Reynolds, S. Michael Camp, William D. Bygrave, Erkko Autio, Michael Hay and Kauffman Centre for Entrepreneurial Leadership at the Ewing Marion Kauffman Foundation. All rights reserved. In Murray, 2002 Figure 3.4 shows the investments of venture capital funds in early stages, by region
of investment. It is quite clear that there is a strong bias for investment in the
region of Lombardia. We reasoned that although it was shown that Lombardia has
the strongest potential for innovative new firms, the concentration of VC
investments there is also biased by the strong concentration of VC headquarters,
which in turn is likely to be the result of most of the financial institutions in Italy
being located in that area.
50
Figure 3.4 - Early Stage Investment by Italian VC Funds by Region (2000- 2001)
114
3529
2418
12 8 8 6 5 4 3 3 2 2 2 1
25
10 6 4 5 28
28
0 3 0 3 0 0 1 3 1 1
73
0
20
40
60
80
100
120
Lom
bard
iaEm
ilia R
omag
naVe
neto
Lazio
Piem
onte
Cam
pani
aFr
iuli
Sard
egna
Tosc
ana
Sicil
iaM
arch
eBa
silica
taCa
labria
Mol
isePu
glia
Umbr
iaAb
ruzz
oLi
guria
Tren
tino
n/a
2000 2001
Source: Gervasoni, 2002 Table 3.6 shows the distribution of VC investments in seed and start-up capital by
sector (year 2000). It emerges that investments in research-intense sectors such as
biotech and telecomm hardware are quite rare. They are more frequent in the
Internet and telecomm carrier sectors which, as we have already mentioned, should
often be considered non-high-tech in Italy. It is also worth mentioning that data
relating to year 2001 and first half of year 2002 show that investments in the
telecommunication and internet sectors are strongly decreasing due to the “end of
the internet bubble”. Most interestingly, industrial products, a sector in which Italy
is supposed to have an advantage over other countries, appears to attract very little
money. The industrial automation sector, in particular, which was shown to be the
only high-tech sector in which Italy outperforms the European average [Modena et
al, 2001], has attracted only 1% of all investment (by number) in year 2001
[Gervasoni, 2002].
51
Table 3.6 - Seed and Start-up Investments of VC Funds in Italy – year 2000
Sector Amount (€ m) Number
Agriculture 1.5 4
Financial services 29.7 20
Other services 69.6 37
Manufacturing 0.28 2
Construction 0.52 1
Industrial products 0.66 3
Consumer products 37.7 10
Internet 108.1 73
Chemistry 2.1 3
Computers 67.7 61
Telecommunications 138.0 76
Energy 2.6 1
Telecom hardware 31.7 12
Medical devices 15.4 11
Biotech 11.1 5
Other 23.1 20
Total 539.7 339
Source: AIFI, 2001
A study by AIFI5 (2001a) aimed at assessing the perceived difficulties of Italian
venture capitalists has come to the following conclusions:
(1) Only 19% of the managers surveyed were satisfied with the institutional
framework for venture capital in Italy. The most common reasons for this
dissatisfaction were: bureaucratic barriers, lack of specific incentives for VC and
the high-tech sectors, and the tax environment.
(2) Only 5% were satisfied with the financial environment associated with the
high-tech sectors. The most common reasons for this low level of satisfaction were:
the lack of communication between the financial and industrial (high-tech) world,
the lack of incentives aimed at lowering the risks associated with investment, and
the lack of an efficient public incubators programme.
5 The Italian Private Equity and Venture Capital Association
52
(3) All VC operatives feel the need for a change in the legal framework,
particularly in the Board of Directors’ responsibilities concerning bankruptcy law.
These issues are thoroughly explained in the Manifesto [AIFI, 2000].
3.6 - Public Incentives to Innovative Firms in Italy
Before any new project is proposed, it is important to show that the existing ones
are insufficient or inadequate to explore Italy’s potential. Since not much data was
available on the performance of these programmes, the discussion of their
inadequacy for Italy’s needs is based on their structure and the available
information. Prior to this discussion, the EU regulations that affect the planning
and implementation of any public support programme in Europe are briefly
presented.
3.6.1 - The EU regulations
Article 87 of the European Treaty (which regulates the state incentive to risk
capital) mandates that state subsidies in general not be permitted in the EU except
for some specific forms of help, including: “aid to facilitate the development of
certain economic activities or of certain economic areas, where such aid does not
adversely affect trading conditions to an extent contrary to the common interest”.
Competition regulations heavily affect programmes throughout Europe including
those that were launched in Italy; these will be briefly described in the following
sections. It is important to note that a regulatory article such as the above does not
rule out public support for seed and venture capital funds for grants given to SMEs.
The European Commission simply requires that the authority promoting the
incentive programme demonstrate that there are no negative effects on market
actors who could be affected by the proposed programme. Interestingly, the
Commission has issued a clarification document [Official Journal of the European
Communities, 2001] in which it explains that certain situations are recognized as
“market failures” (see paragraph 4.1.3 points 1 and 5), although this does not mean
that they are the only conditions that may be considered to constitute a market
failure.
53
3.6.2 - Law 297/99 and the incentives to research operated by new firms
Law 297, enacted in 1999 [law 297/99], is the main law for R&D in Italy, and it
includes a special programme for new firms. The programme is dedicated to
university and public researchers who decide to set up a new firm exploiting the
results of their research. New initiatives are generally granted up to €516,000, plus
up to 50% of the eligible R&D budget and 25% of the eligible budget for pre-
competitive activities. This programme started in April, 2001. After approximately
one year of operation, it had only supported 12 start-ups in all of Italy.
The youth of the program makes it difficult to analyse its efficiency. However, we
can point to some basic weak points: (1) The state is still in charge of the projects’
evaluation, something which is strongly not recommended for for-profit ventures
(see also section 1.4. point 6). (2) Only public spin-offs are eligible beneficiaries,
which excludes private industry spin-offs, the most important source of
entrepreneurship. (3) The programme requires that the intellectual property rights
division between the researcher and his institution be made clear before the
inception of the new venture. In most Italian universities this is impossible, as such
patent regulation is still in its legal - and cultural - infancy.
3.6.3 - Regional programmes
In addition to programmes regarding Objective 1 areas (see section 3.6.6.), some
regions have launched programmes for fostering new enterprises. Among them are
Law 35/96 in Lombardy and Law 27/93 in Tuscany. Without entering into the
details of such programmes, we believe that they are not suitable to research-
intensive start-ups. The main reason for that is they all grant a maximum of
€100,000 over three years, which in itself is not a suitable sum to set up a new
high-tech company (Israeli incubators, for example, grant as much as $350,000 for
two years). This sum of €100,000 is defined by EC regulations as the limit below
which there is no need to ask permission of the DG Competition for programme
implementation.
3.6.4 - European programmes
The European Investment Fund (EIF), which represents the European Central Bank
for risk capital, has recently launched various incentives for the risk of capital on
54
enterprises which are already operational in Italy [Gazzetta Ufficiale, 2002]. Apart
from minor guarantee schemes for small enterprises, the fund participates in
regional funds dedicated to SMEs. The EIF invests under the same conditions as
the private investors, with shares between 10 - 25% and a maximum of €10 million
per fund [Website EIF, 2002]. We argue that investments at the “private
conditions” level provide very little incentive to other private investors to
participate in the proposed fund. Indeed, the participation of a public entity in a
fund is not per se an incentive, and does not help in convincing the private investor
to enter high risk ventures such as those in depressed areas or seed investments for
high-tech initiatives.
Another programme concerns the contribution towards the hiring of qualified
managers for venture capital funds. Contributions in this case reach €100,000 per
manager, up to a maximum of €300,000; in any case for not more than 5% of the
fund’s budget and no more than 50% of the management company's expenses.
Although interesting, this programme appears too weak to convince investors to
direct their funds into high-risk firms.
Obviously, new high-tech enterprises are also eligible for the EU framework
programmes from which they can obtain R&D grants. However, it is known that
delays in EC approval of proposals and payments can easily stretch to several
months, and new companies are often required to renounce the advance payment.
Such adverse conditions can be fatal to small companies dealing with severe cash
constraints and the need to produce their product ahead of competitors. Another
drawback of new firms’ participation in the framework programmes is that the
public sector still acts as the decision-maker for investment.
3.6.5 - The Startech programme
Startech is a national Italian programme which gives both consulting services and
seed capital to new technology-based firms. It operates through the temporary
acquisition of equity in the investees’ firms, up to 49% (and not more than
€516,000) of the budget, which shall not exceed €2.5 million. Divestment shall
happen within three to five years. Startech activities are implemented through the
collaboration of universities, research centers, and large firms, and with the
participation of the Sviluppo Italia territorial system.
55
Since September 2001, the experimental programme has generated significant
interest, with over 150 proposals received in the first six months. However, it was
suspended in February 2002 due to agency reorganization. The programme is
supposed to start again soon, with the vision that private banks will be allowed to
take part in the Startech Capital Agency (which makes the investment), thereby
allowing private sources to be involved from the beginning in the project. At the
time this document is written, September 2002, the amended programme has not
started yet. While it is impossible to judge a programme that has not yet begun, it is
worth noting that once again, in this case the state becomes an active investor.
3.6.6 - Laws 95/95 for the incentive of juvenile entrepreneurship
This law supports the creation of new enterprises, provided that the founders are
young and that the firm is set up in one of the areas designated as economically
depressed. Contributions are very generous; they can reach €2.5m and up to 90%
of the budget in Objective 1 areas (basically, the south of the country). Firms
operating in the fields of industry, agriculture and services are eligible for the
benefits, although innovative firms are preferred.
In this case we find a generous programme, able to insert large amounts of money
into the new ventures and dedicated to regions where the potential for high-tech
start-ups is the country’s weakest. This picture clearly emerges from Figure 3.5,
which shows the map of the main Objective 1 regions on the one side, and the
concentrations of inventors (individuals who have filed at least one patent in a
high-tech sector), on the other.
The IFISE team reasoned that while it is highly desirable that private equity funds
be found in depressed areas, high-tech sectors can only blossom in those regions
where specific background conditions exist. Special programmes should be
dedicated to the latter, which take their particular needs into account (such as
Projects 1 and 2 in sections 4.2 and 4.3). Depressed areas should be helped in
attracting private capital for whatever sector has the potential (or the local
advantage) to blossom within their boundaries. This consideration has lead to
proposing Project 3 (section 4.4).
56
57
Figure 3.5A - Main Objective 1 (depressed) Areas Figure 3.5B - Concentration of Inventors
Main Objective 1 (depressed) Areas Source: University of Pavia Elaboration on EPO data
57
1 – 6
7 – 21
22 – 44
45 – 84
85 – 229
230 – 826
Numeber of Inventors
Torino
Cairo Montenotte
Catania
Milan
Bologna
Rome
CHAPTER 4 A PROPOSAL FOR SEED AND VENTURE CAPITAL
SCHEMES IN ITALY: FOUR PROJECTS
4.1 - General Planning Orientations
This chapter presents the four projects which have been proposed to Italian policy
makers for the establishment of seed and venture capital sources in Italy.
After defining the principles and guidelines necessary for planning, and having
analysed the potential of the high-tech sector in Italy, the IFISE team planned for
efficient seed and venture capital sources by means of the following courses of
action: (1) The principles extrapolated from the Israeli and European practises were
recombined and applied to the Italian reality. (2) Proposed programmes were
discussed by means of intensive brainstorming with the participation of experts
such as Dr. Rina Pridor, director of the Technological Incubators Programme, and
Mr. Yigal Erlich, initiator and director of the Yozma Programme. (3) Finally,
programmes were submitted to Italian policy makers and modified, taking their
comments into account.
In each project presentation, the reasons for choosing the specific tool are first
presented, after which the programme and the main rules for its proper functioning
are explained. Before presenting our proposals, we shall summarize some general
guidelines that have been used in the planning process. The planning process has
been directed and its conclusions drawn by Mr. Vittorio Modena, IFISE project
coordinator (see also Modena [2002]).
1. Locational aspects
As was shown in section 3.2, most of the potential for research-intensive
companies is found in the north and centre of the country. In some of the central
and northern regions like Lombardia, there is more venture capital activity, in
others less (Tuscany); all of them suffer from a lack of seed capital for research-
intensive firms. In the southern regions, potential for high-tech firms is
considerably lower, although the presence of possibly excellent research groups is
not excluded. In these southern regions there is on the one hand very scarce venture
58
capital activity, and on the other, great availability of public funds. This has
brought us to suggest that the high-potential regions should be strongly considered
for dedicated programmes for the creation of venture capital funds dealing with
research-intensive firms, whereas Objective 1 areas should be granted incentives
for funds working in all industrial sectors. This reasoning led to the formulation of
Project 1 for high-potential regions and Project 3 for depressed regions
(sections 4.2 and 4.4). It should be mentioned that the disadvantage of depressed
areas was taken into account, as both the constraints regarding investment in
research-intensive firms and those regarding seed investment do not apply for
Project 3.
2. Sectorial aspects
As was shown in section 2.4.-4, if there is no specific reason to encourage
specialized funds, it is better to allow the market to shape the formation of the new
VC funds. This is the case for Projects 1 and 3 (section 4.2 and 4.4). An exception
was made for the biotech and pharmaceutical sectors, which were dedicated a
specific project. It is worth noting that other sectors such as industrial automation
seem to have attracted very little investment in spite of their considerable presence
in Italy. However, this was not considered a sufficient reason to dedicate a special
programme for them.
3. Conformity with EC regulations
Projects 1 and 3 presented here would certainly be subject to article 87 of the
European Treaty (see section 3.6.1). In this respect, if any of these programmes are
to be adopted, it will be necessary to demonstrate that these incentives are in fact
responding to a common interest and that they do not harm any market actors. This
“market failure” demonstration may vary according to the sector and the
geographical area for which it is aimed. Some of the facts and data that were
gathered in the framework of the IFISE project may be useful for this purpose. In
particular:
1. Investment in early stages (seed capital) of the high-tech start-ups is widely
considered in literature as a segment where public intervention is needed. It is
worth noting that the EC accepts that economic phenomena are at the base of the
frequent market failures found in innovative enterprises: e.g., imperfect or
59
asymmetric information, or transaction costs. The former is related to the
difficulty encountered in finding reliable information on sophisticated high-tech
markets, the second to the high costs associated to the evaluation of innovative
and small firms [Official Journal of the European Communities (2001)].
2. In some regions there is a marked lack of venture capital investments (see section
3.5).
3. In some regions the potential for new high-tech firms seems to be higher than the
available VC resources would suggest.
4. In the case of biotech there is a clear gap between the potential of the sector and
investments being made (see section 3.4). Furthermore, it appears that private
investors are particularly reluctant to enter the initial phases of biotech-
pharmaceutical product development.
5. Generally, the European Commission considers in a positive light many of the
scheme characteristics adopted when developing our projects: (a) that schemes
be aimed at certain regions and certain enterprises; (b) that beneficiaries be small
or micro-enterprises; (c) that decision making regarding funds be done by profit-
oriented teams; (e) that beneficiaries be more than one fund or firm, and that the
scheme be launched by means of a public call for tender; (f) that the private
investors be represented in the decision making body and that there be quality
and timing objectives; and (g) that a monitoring facility of the whole scheme be
set up [Official Journal of the European Communities (2001)].
4. The Italian legal framework and institutional aspects
The IFISE team has detected both a lack of coordination between the various
support systems for innovation, and the current institutional framework’s difficulty
in setting flexible and complementary programmes which form the basic
characteristics of an efficient innovation policy (see section 1.4 - 2). The necessity
for coordination of the relevant measures has brought to the formulation of Project
4.
As for the legal framework relating to risk capital and start-ups, the IFISE team
shares the concerns expressed by the AIFI’s Manifesto [AIFI, 2000] regarding the
responsibility of the Board of Directors in cases of bankruptcy. The reader is
advised to consult that document for further details.
60
The next section will present the four projects that are being proposed to Italian
policy makers:
1. Rotational seed capital funds for new high-tech companies in regions with high
potential.
2. Biotech-pharmaceuticals incubators.
3. VC funds for depressed regions.
4. A coordinating institution for high-tech industries incentive policies.
61
4.2 - Project 1. Rotational Seed Capital Funds for New High-tech Companies
in Regions with High Potential
4.2.1 Motivations behind the project
1. A clear distinction was made between the general concept of “innovative
companies” and the more specific one of "high-tech firms". High-tech firms can be
distinguished by very intense research activity and by the very steep expenses they
face in order to realize prototypes of their products. Despite hosting a very large
number of innovative companies, Italy falls short in regard to research-intensive
ones (see section 3.1). The aim of this project is to encourage the creation of new
research-intensive firms.
2. Seed capital must be available in a generous and continuous manner (see section
2.4-1). Indeed, it was in shown that even in countries where a large amount of
venture capital is present, companies face both the lack of seed capital and the need
for governmental action. Therefore, it was decided that the best way to guarantee a
continuous income of funding is with rotational funds, in which governmental
support must be renewed every four years.
3. It was noticed that in Israel, both seed capital funds and technological incubators
provide support to many different sectors, and that specialized incubators perform
as well as the non-specialized ones (see section 2.4-4). In addition, it was
mentioned that Italian industry does not specialize in high technology sectors (see
section 3.1). For these reasons it was decided that all industry fields should be
dedicated the same instrument, with the exception of the biotech industry, for
which a special project was developed.
4. In Italy some incubators exist, but very few of them disburse grants to the high-
tech industry. They do provide some consulting and physical space to new
companies that specialize in research, but this in itself is not enough to overcome a
number of the major obstacles to fully establishing a new firm. Space availability is
not a crucial element for start-up support; instead, what matters most is the
availability of funds. Therefore, existing Italian incubators shall be allowed to
request government funds, so as to be able to offer seed capital to their firms as
well as current incubator opportunities.
5. Despite the above considerations concerning space availability, physical
62
proximity between the investing fund’s management and its entrepreneur is of
great importance, as it is the key to communication between the two parties.
6. It was noticed that most of the venture capital funds in Italy are concentrated in
the Milan area, even though other regions have significant potential.
7. A different plan was created for the economically depressed areas (see Project 3,
section 4.4). Given their lack of high-tech resources, the above requirements would
not be adequate for these regions.
4.2.2 - Project outline
The Project has the following objectives:
1. To create efficient funds of risk capital for the high-tech industry in high
potential regions.
2. To give the opportunity to interested entrepreneurs to develop companies with
intense research activity in any high potential region.
3. To strengthen the deal flow of high-tech initiatives for venture capital funds
which currently exist in Italy.
It will be necessary to create an autonomous fund of funds of investments dedicated
to the new high-tech companies (research intensive firms). This fund of funds will
invest up to 40% of the new seed funds’ budget and give private investors the
option to buy back its shares, at the original price plus the inflation rate, for a
period of six years from the creation of the fund. The general scheme is depicted in
figure 4.1.
In addition, management companies working at the seed funds will be entitled to a
grant of €200,000 and to up to 50% of their budget for the first four years of work,
plus up to 25% of their budget for the following two years. The program is
repeated every four years, so that seed capital funds can always be available for
new ventures.
A fund of funds of this type should be set up in any Italian region that shows
potential for the high-tech industry. The dimension and number of such funds
would vary according to the potential of each region. To give an example, in
Lombardia, the Italian region with the highest potential, eight to twelve seed funds
could be created. The typical dimension of each seed fund would oscillate between
€20-40 million, and the investment of the fund of funds would not exceed €10
63
million per individual fund and 40% of its budget (whichever figure is lower).
Regional authorities would monitor the program and the funds’ operation.
Figure 4.1 – Scheme for Public Incentives to Seed Funds
Up 40%
NEWNEW FIRM
60% of budget Private Investors SEED FUN
FUND OF FUNDS (PUBLIC)
In order for the management co
above, their investments will be s
1. Investments shall be made in
decided by the fund of funds’ ma
“microenterprise” which, accord
with annual revenues of less th
million, and less than ten employ
2. Investments in a single compa
availability (for example, 20%).
3. The seed fund should invest
twenty.
4. The seed fund should invest
within four years, and all of the a
5. The seed fund should invest in
to
SEED FUND SEED FUND
NEW FIRMFIRM
D
mpanies to have access to incentives as charted
ubject to specific rules:
new firms. The definition of a new firm will be
nagement. A possible definition could be that of a
ing to the European Commission, is a company
an €7 million, or a balance sheet with less €5
ees [Web-Site Definition of SMEs, 2002].
ny should not exceed some percentage of the fund
in more than five companies and in less than
at least half of the available capital (first round)
vailable capital within eight years.
companies that reside and are developed in Italy
64
(or in the region from which the funds originate). This rule can be overcome by
payment of a penalty (for example, a sum equal to 200% of the government share
invested in the project).
6. Investments must be made in research-intensive firms. A special commission
will set the criteria to distinguish high-research companies from non-high-research
ones. An example of a high-research company is one in which at least 50% of the
expenses are dedicated to research and development. For R&D expenses’
definition, precise terms should be used. An example of such terminology could be
the definitions included in the Frascati Manual [Website Frascati handbook, 2002].
7. The entrepreneur’s share has to be large enough to keep him interested and
motivated for the success of the project. For example, a minimum of 20% of the
new company’s shares should belong to the founder or group of founders, until the
company has attracted investments for €1 million.
4.2.3 - Requirements for seed funds’ management companies
1. Existing incubators are qualified for investments and encouraged to participate.
2. The seed fund’s manager should have experience in research as well as in high-
tech industry. He or she will be employed full-time.
3. There will be a second member of the management company, namely
someone with experience in corporate finance.
4. Sectoral funds are eligible entities. They will have to prove that they have
experience and connections in the field.
5. The seed fund should prove that it has at least one foreign investor (which must
be an expert in the high-tech industry).
6. The seed fund should prove that it has at least one investor with experience in
industry or finance.
7. University funds are encouraged to participate. However, their decision making
process shall be independent from that of the university's administration.
4.2.4 - Additional criteria for the selection of the management company
In addition to the above-mentioned requirements, management companies will be
selected according to the following criteria:
1. If a company requests government aid for a second fund, a commission will
65
analyse the accomplishments reached by the company in the framework of its first
fund.
2. Experience and skills of the management company.
3. Networking skills with the high-tech industry, technical universities and VC
funds associated with the management company and/or the private investors in the
fund.
4. VC participation in the seed funds will be seen as a figure of merit.
4.2.5 – Fund of funds’ role and monitoring
1. The supporting region will provide 2% of the program’s funds for the
monitoring of the program and for the study and revision of the rules on which
the program is based. The program will be reviewed every four years.
2. The fund of funds will not participate in any decision regarding investments,
nor the investments’ administration.
3. The government will monitor the program so as to ensure that investments are
made solely in new research-intensive firms and not in new companies with
little research activity.
4. Monitoring of the investments’ legality will take place in two ways: (a) a
representative of the fund of funds will participate in funds’ meetings to make
sure that the investments’ requirements are complied with. However, the
representative, who should have a strong background in technology, won’t be
influential on any business decision for the fund; (b) after four years from the
initial investment, he or she will check that the funds were actually invested in
the high tech industry. To do so, they will follow specific pre-defined criteria.
The program’s success will be evaluated by benchmarking the success of the
companies in which the investments were made. Such a process will take place
after four years from the beginning of the program and every four years from
then on.
5. Private funds will be able to free themselves from governmental monitoring
by: (a) buying all of the government’s shares and transforming the entire fund
into a regular private one; or (b) paying the government twice the money it had
previously invested in a single project, hence freeing that specific project from
government monitoring.
66
4.2.6 - Qualified supporting institutions
Institutions qualified to support these programmes may be banks foundations,
Sviluppo Italia (the Italian development agency), the European Investment Fund or
any combination of them.
67
4.3 - Project 2. Biotech-Pharmaceuticals Incubators
4.3.1 - Motivations behind the project
The IFISE project is recommending the Biotech-pharmaceuticals incubators for the
following reasons:
1. The biotech industry is growing very rapidly, creating room for new initiatives.
2. In Italy there is unexploited potential, especially in terms of academic spin-offs.
3. Biotech initiatives need special infrastructures and have special requirements in
order to succeed. For this reason physical support will be needed along with
financial support.
4. Compared to other companies, biotech companies need larger public funds and
more time before they are able to attract substantial private investments [see also
Kaufmann and Levin, 2001].
4.3.2 - Basic facts and guidelines used for planning
1. Entrepreneurs in the biotech and pharmaceutical industry usually have an
academic background, and therefore prefer to be close to universities.
2. In Italy there is low potential for spin-offs originating from the industry (since
very little research is conducted within the industry itself); on the other hand,
there is potential for spin-offs from the public research.
3. Researchers working in the industry are linked to their companies in terms of
copyrights for new discoveries. It is therefore improbable that many new
industrial spin-offs will be created.
4. For the three reasons cited above the biotech incubator should be in proximity
to a university and have a collaboration contract with it. However, the decision
making body of the incubator won’t depend on that of the university.
5. Biotech projects will have the right to receive a larger amount of support from
the government and to stay longer in the incubators than other high-tech
projects. However, a limit shall be fixed for their stay.
6. Three types of equipment are generally utilized by the biotech companies: (1)
equipment employed daily, which single companies will buy; (2) occasionally
employed equipment, usually purchased by the incubator, and (3) expensive
and exclusive equipment, which companies will rent from larger facilities
68
(such as universities or research centres). The incubator will also be used to
reach a critical mass for the purchase of occasionally employed equipment. It
should host a laboratory provided with such equipment (as explained in 2.2) to
be used for projects inside the incubator.
7. Large corporations will be encouraged to participate in acquiring part of the
incubator’s property. However, they won’t be allowed to hold a majority of
shares nor decisional power, in order to avoid the temptation/danger of their
taking control or advantage of the ideas promoted by the incubator.
8. This programme shall be conducted at the national level, since few centres of
excellence are present within all of Italy.
4.3.3 - Programme definition and incentives
Biotech incubators have the objective of creating integrative and effective
development tools able to provide the new entrepreneur with the essential funds,
space, consulting and equipment necessary for setting up a new company in this
field. Each incubator will be managed by a private management company. Both the
new firm and the incubator’s management company will be granted financial aid.
The programme will be established as follows:
1. A total of six incubators should be created in Italy. Selection of candidate
incubators and their monitoring will be done by a public agency constituted ad
hoc.
2. Projects should be chosen according to their quality and success (in terms of
profit) potential.
3. The budget for infrastructures (buildings excluded) should exceed €2 million.
The public grant will amount to up to 50% of the approved budget and to up to
€2 million.
4. The grant per project will amount to up to 50% and to up to €1.5 million for
the first four years. Two years after the project begins, a special study will
determine whether support for the project should continue or should be
dropped.
5. Management companies of the incubators will be entitled to a grant of
€150,000 per year and to up to 50% of their budget for their first six years of
operation.
69
4.3.4 - Investment rules
1. The incubator will accept projects from any source (be it an adjacent university
or not).
2. Investments should be made in new projects. Projects must have the specific
objective of producing new products; they cannot be intended for the production or
marketing of existing ones.
3. Investments in a single project should not exceed 25% of the incubator’s budget.
Four years after its creation, the incubator will be handling more than three
projects, but less than fifteen.
4. The incubator must invest in projects that are located in Italy, and the projects
will remain within Italian territory. However, if the incubator will pay the
government double the amount that it had originally received for the project, it will
be free to sell the project and/or the scientific knowledge to the foreign market.
5. The inventor of the product must dedicate at least one full day per week to the
new firm.
6. The project leader (be he the inventor or a professional manager) will have to
dedicate at least 50% of his time to the project (the closer to 100%, the better).
7. Incubators shall be networked, and share functions such as publicity and a
database of expert evaluators.
4.3.5 - Qualified management companies
1. The incubator should be placed in one of the cities that will be judged as having
a critical mass of potential entrepreneurs. For this purpose both the academic
researcher present in the adjacent university and local industrial activity will be
taken into consideration (see Modena, 2002; for data on R&S activity).
2. The management company will be owned by a group of private investors who
will hold the majority of the shares. This management company will have to show
that it has the necessary funds to complete the public funding, both for the
incubator’s operations and project financing.
3. The management company will provide physical space for the technological
incubator (an area of no less that 800 square meters).
4. The incubator’s project will include the purchase of equipment for projects
70
within the incubator.
5. The incubator should be located in the vicinity of one of the universities that was
considered to have potential within the biotech sector (according to precise and
empirical indicators; see for example Modena, 2002), and should create
cooperative agreements with that university.
6. The incubator should prove that the infrastructures necessary for the projects are
found in its vicinity (aside from the incubator’s own equipment).
7. Should the university own or manage part of the incubator, its shares should not
exceed 30%, and should remain as a minority share.
8. The incubator must respect bioethical laws.
4.3.6 - Selection criteria for management companies
1. The nature of the contract (described by a letter of readiness) with the university.
2. The experience and skills of the management team.
3. The ability of the management team to network with the pharmaceutical industry
and the realm of finance at a national and international level.
4.3.7 - Role of the central agency and monitoring
Once the incubator is established, it will submit to the central agency the proposed
initiatives as they become available. The agency will check the conformity of the
proposals and will give its approval within sixty days. Moreover:
1. A representative of the public administration will be a member of the Board of
Directors of each incubator. He or she will not have any influence in the
business decisions of the incubator, but will simply verify that all of the
programme investment requirements are met.
2. Two percent of the budget for the biotech incubators’ program will be utilized
to monitor the initiative. The monitoring will take place in two distinct stages:
a. Each incubator’s work will be checked by an external expert every four
years.
b. Every four years, by means of an independent research study, the program
will be subject to analysis, and eventually modified.
The agency will also be responsible for publicizing the programme throughout the
large national and international corporate community.
71
4.3.8 - Possible launching institutions
The program should be carried out on a national level. This is because university
research centres are widely spread around the country. A national program for the
creation of biotech incubators could be supported by one or more of the following
institutions: the Office of Higher Education, the Office of Industry, Sviluppo Italia
(the Italian Development Agency), and/or the Office of Innovation, Development
and Technology.
72
4.4 - Project 3. VC Funds for Depressed Regions
4.4.1 - Motivations behind the project
The discussion of how to develop an economically depressed region brought up the
following points:
1. In poor regions, and particularly in Objective 1 regions, large amounts of public
funds are available for any entrepreneurial project. Most of these funds are
provided by the European Commission.
2. Venture capital funds in Italy do not serve Objective 1 regions. Indeed, in 2001
only 7% of investments (representing 2% of the capital invested) were made in the
southern and island regions. Some regions have seen no investment at all.
3. In general, there is little potential for research-intensive spin-offs in these
regions.
4. Most often, an entrepreneur prefers to use public funds instead of seeking private
ones, since in the latter case he/she would have to give up part of his/her company
shares. It is hard for the private investors to compete against the public sector;
therefore they become reluctant to invest in such areas. It is our belief that, in the
long run, the public sector should decrease its funds, so as to give space to the
private investors.
4.4.2 - Description of the proposed project
The project aims at creating venture capital to be invested in any (low tech and
high-tech) industrial sector. Once the initial difficulties are overcome, hopefully
there will be more and more private investments, so that in the long run the funds
will remain active without needing further public support. The general scheme will
be the same as that used for seed capital funds, as shown in figure 4.2.
73
Figure 4.2 - Public Incentive Scheme for Investment Funds in Economically Depressed Areas
Up to 40%
FFIRM
60% Private Sources VC FUND
FUND OF FUNDS (PUBLIC)
Regional funds of funds sho
managed VC funds up to 40%
private investor to buy back p
conform to the following rules:
1. VC funds for economically
sectors, since potential in thes
invested in any sphere of indus
2. Funds will be managed by pr
3. Investments won’t be reserv
currently existing ones, in o
companies shall be small and p
4. Up to €5 million can be inv
have to invest in at least four, b
5. The programme operation w
be announced by the supervisin
the programme fails in creating
considered. Nonetheless, it is
traditional spheres of the indust
VC VC FUNDFIRM IRM
uld be created. They should invest in
of their capital and up to €20 million, al
ublic shares at their original price. VC
depressed regions shouldn’t be limited to
e regions is limited. For this reason, fun
try, including the more traditional ones.
ivate companies.
ed for new companies only, but will be a
rder to foster their rapid improvemen
otentially high-growth.
ested in each firm by the VC fund. The
ut not more than fifteen, companies.
ill be limited in time. A competition for fu
g institution and will remain open for 5-
venture capital, then a second competit
important to point out that VC funds
ry are economic activities that do not nee
74
FUNDprivately
lowing the
funds will
high-tech
ds will be
vailable to
t. Investee
fund will
nding will
6 years. If
ion will be
for more
d incentive
on a continuous basis. The program should therefore be completed within 5-10
years from its beginning date.
6. The number of funds will depend on the size of each region and its demand for
equity capital.
4.4.3 - Qualified management companies
Qualified management companies with a management team expert in the industry
will be able to participate.
4.4.4. - Rules of investment
1. Investments must be made exclusively in companies located in Objective 1
regions.
2. Investments in any field of industry are encouraged. Investments in real estate,
however, are excluded.
4.4.5 - Monitoring
A representative of the fund of funds will participate in Board of Trustees meetings
in order to verify that the nature of the investments conforms to guidelines, but
he/she won’t be allowed to influence any commercial decision. His approval will
be essential to the investment decision.
4.4.6 - Possible launching institutions
It was concluded that this project would be more successful if managed on a
regional level. The regions with depressed economies would have easy access to
financial support from European funds (from Structural Funds, for example). The
regional fund of funds should be managed by a special regional agency.
75
4.5 - Project 4. A Coordinating Institution for High-tech Industries' Incentive
Policies
This research has shown that in a field as demanding and as fluid as that of high-
tech, it is important that a competent and powerful institution take control of the
situation (see section 1.4.2.). In Israel that institution is called the Office of the
Chief Scientist. It is a governmental agency with approximately 20 full-time and
over 50 part-time workers, all with high-tech or financial backgrounds. The agency
has the power to create, stop or modify any public program for the high-tech
industry.
In Italy, a similar agency should be created. The agency should be able to:
1. Disburse governmental funds to the high-tech industry without the need for any
additional governmental permission, even with a budget as large as €200-300
million.
2. Conduct national and international studies to understand market trends.
3. Be updated on national and international market trends by means of internal or
external expert surveys and studies.
76
4.6. - Recommendations for Future Research and for the Definition of
Innovation Policies
For a better definition of innovation policies, it is recommended that researchers
and policy makers consider the following actions:
-
-
-
-
Identify both the success factors and the failure points of the many European VC
and incubator programs so as to comprehend the vast field of possible situations.
Be aware of a region’s potential when planning for it.
Set different goals for projects in depressed regions than those for projects in
regions with high potential for high-tech, unless they coincide.
Identify and research market failures in the high-tech industry, so effective
programmes can be set up without repeating mistakes. In line with this
recommendation, it is important to develop more and better innovation indicators
(for example, those regarding scientific publications are not sufficiently
disaggregated for sector and geographical area).
77
ACKNOWLEDGEMENTS
Apart from thanking all IFISE partners for their work and the European
Commission for its financial support, this project owes thanks to: Ugo Besso,
Alessandro Carlizzi, Luciano Chiappalone, Lina D’Amato, Francesca Negri,
Alberto Pagliarini and Rina Pridor.
Participants also would like to thank all interviewees in Italy, Israel and elsewhere.
78
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Il mercato del seed e venture capital in Italia
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