Green capital and a new fund-of-funds – A program theory study
Two new financial policy instruments, a “green fund” and a holding fund (fund of funds) have been launched with funding from the European Regional Development Fund (ERDF) during the current programme period(2014–20). No investments had yet been made when the study began and we therefore chose to focus on the measures’ programme logic (logic modelling). The fundamental questions are therefore what problems the measures are intended to solve and what their goals are. How clearly are they formulated? Is there a description of how the problems are to be solved?
The study is part of the Growth Analysis framework project Which conclusions can be drawn from the government’s venture capital initiatives within the European Regional Development Fund?
General goal formulations and supplementary tools
An initial observation is that the goals of the two new instruments, the green fund and the holding fund, are only described in general terms in the steering documents. On the one hand, this gives those implementing the measures great freedom, but on the other it creates uncertainty regarding expectations and methods. Dissemination of knowledge is identified as an important aim of both instruments, but it is unclear if such activities have been planned, and if so, how they are to be designed. Other uncertainties concern how to weigh greenhouse gas-reducing effects against financial revenue when potential investments are discussed in the green fund. One of the holding fund’s purposes is to supplement the private venture capital by creating new VC teams to fill gaps in the market. It will be important to follow that aspect over time.
Incomplete capital markets can motivate government initiatives
The chance for investment-ready companies to find financing for their operations is an important goal in growth policy The Swedish Government has also in numerous contexts emphasised the importance of well-functioning capital supply.¹ However, the financial market can occasionally fail in this regard. There are several reasons for this, including insecurity, information asymmetries and agent issues. The insecurity is generally most prominent in early stages, where the companies have no history for investors to base their assessment on. Thin markets with associated problems (time and cost) for actors to find each other and sign contracts can be another reason. Government funding initiatives can therefore in some cases be justified by growth policy reasons. We also see many examples of such policy initiatives, internationally as well as domestically.
16 per cent of ERDF funds are spent on venture capital measures
When it comes to ERDF venture capital initiatives during this programme period specifically (2014–20), Sweden has chosen to continue the 2009 regional co-investment funds initiative, as well as adding a holding fund solution and a green fund, funded by the new, national regional funds programme. Through these three initiatives, Sweden doubles its use of venture capital instruments within the ERDF framework, from 8 per cent in the previous programme period to 16 per cent in the current period. It should be noted that while venture capital is a powerful instrument, it is also a narrow instrument used by less than one per cent of Swedish companies.
The two new tools
The green investment fund is to invest in unlisted small and medium-sized companies at an early stage. The companies should have major growth potential and work in innovative goods or services with a direct or indirect greenhouse gas-reducing effect. The fund is managed by Almi Invest and has a total of SEK 650 million at its disposal, financed in equal share by the ERDF and national public funds. The fund shall always co-invest with private investors, who shall provide at least 50 per cent of the capital. This means that the total investment sum is expected to exceed SEK 1 billion.
The fund’s steering documents highlight a need for market-supplementing initiatives within the environmental sector as the basis for investment in the green fund. Reasons mentioned include long lead times in environmental technology, lack of industry expertise among investors, and uncertain future demand, as this is affected by policy instruments in the area of environment and climate. The initiative is intended to both increase business investments that contribute to climate-related goals and increase the competence among companies in the target group.
The holding fund can also be referred to as a fund of funds, i.e. it provides funds for other VC funds (three in this case) which in turn invest in small and medium-sized growth companies (primarily) in Sweden.² This constitutes an additional step between the central government and the portfolio companies, compared to the direct investment method used in the green fund and the regional co-investment funds. The holding fund is managed by the European Investment Fund (EIF). The public funding is split equally between the ERDF, the Swedish Agency for Economic and Regional Growth and the EIF, with each party contributing almost SEK 200 million. With private co-financing of at least 50 per cent on a fund level, the total investment funds will thus equal at least SEK 1 billion.
The steering documents state that the aim of the initiative is both to increase the number of private venture capital actors and to increase the supply of venture capital in the early stages.
Observations regarding programme logic
The steering documents of both initiatives are vague with regards to which problems are to be solved and how this is to be done. The goals are also defined using fairly general formulations. Vagueness can have positive aspects, as it gives the fund managers greater flexibility and freedom, but can also cause uncertainty regarding both expectations and methods. It also makes it hard to know what the intended outcomes of the initiatives are in more concrete terms, which makes it hard to know what an assessment shall compare the actual outcome with in order to evaluate the goal attainment. Interviews and document analyses also indicate that the programme idea has changed somewhat, moving from originator to implementer.
Dissemination of knowledge (supply of expertise and experience) to the portfolio companies has a prominent place in the original planning, but seems to become more of a by-product when the respective funds are realised. It is not apparent that any concrete measures are being planned.
The steering documents’ focus is on the supply of capital, while paying less attention to the demand side. This is partially to be expected when studying the programme logic for new capital supply initiatives, but there may also be reason to consider the need for supplementary non-financial measures aimed at investment-seeking companies. Such measures are preferably implemented externally to the fund, by other actors close to the market.
With regards to the green fund, there is an intrinsic risk of conflicting objectives. It is not clear how return on invested capital shall be valued in relation to the environmental utility, i.e. the development of innovative green, greenhouse gas-reducing products and services. Interviews indicate that the environmental utility seems to be somewhat downgraded in the choice of investment objects. It is unclear how well this matches the Government’s original intention behind the initiative. A clearer goal discussion ex ante would most likely have clarified this and allowed for steering of the implementation in the desired direction.
For the holding fund, one of the purposes is to supplement the private venture capital which, according to the steering documents, has decreased in recent years. The creation of more private VC teams, through the sub-funds, is expected to make the system more dynamic and diverse, and can therefore be seen as a results indicator. But such numbers require interpretation. For example, a base line for the private presence where such an increase takes place should be of interest. Based on this, the choice of three VC teams active in ICT in Stockholm is somewhat surprising. It is on Sweden’s hottest VC market that the Government initiative aims to create additionality with three new teams.
Proposals and recommendations
Clarifying the expectations of an initiative is beneficial to both the implementer and evaluator. A main recommendation is for the initiatives’ stakeholders (commissioners and implementing actors) to develop the funds’ programme logic together. Clear goal formulations, transparent discussions about possible conflicting goals or prioritisations, and identification of mechanisms (processes of cause and effect) in the chain of effect which are critical to goal attainment can be concrete examples of such work.
How should the funds address the goal of contributing to increased expertise among companies and disseminating knowledge? Should special activities be carried out or are there hopes that the effect will still arise, as a by-product of the investment itself? It would be good to be clearer about how this would happen and what the expected results are.
From an additionality perspective, it is important to follow up on the holding fund’s three sub-funds and compare their investment patterns to what is exhibited by existing private actors. For example, it remains to be seen if the three new VC teams are more keen than existing actors to invest in early stages.
The central government is now involved in four policy initiatives in the area: regional VC funds, the green fund, the holding fund, and Saminvest AB. The last two are based on a fund of funds methodology. Here, it could be good to create a dialogue and an exchange of knowledge, and in the longer term, consider possible coordination benefits and the ability to better integrate the government initiatives into a single whole.
It is also important to ensure the supply of investment data in the future, in order to create the best possible conditions for evaluating and learning from the various initiatives.
 See, e.g., the Government Offices of Sweden, (2015), “Sweden’s National Strategy for Sustainable Regional Growth and Attractiveness 2015–2020”.
 A maximum 15 per cent of the capital per sub-fund may be invested in companies outside of Sweden, if it is done within the EU
Green capital and a new fund-of-funds – A program theory study
Serial number: PM 2018:08
Reference number: 2017/028