ERDF financial instruments for innovation

Caterina Pieretto: Hello and welcome to a new episode of the fi-compass Jam Session podcast. I am Caterina Pieretto from the European Investment Bank, and I'm delighted to have you with us today to dive into the world of ERDF financial instruments for innovation. We will talk about the highlights from our recent fi-compass event in Berlin , where we launched factsheets presenting two new financial instrument models that combine equity and loans with grants. Today, we will explore how these instruments are helping to bridge the innovation gap, strengthen competitiveness and ensure that businesses across the EU have the resources they need to grow and scale, and the importance of mobilising both public and private resources effectively. Whether you're a policymaker, a fund manager or simply passionate about financial instruments for innovation, this episode is for you. So let's get started. I'm pleased to welcome Sara Dagostini, Policy Officer from the Financial Instruments unit of DG REGIO. Hello, Sara.

Sara Dagostini: Good morning Catarina. It's a real pleasure for me to join you today and share with you the key messages that we got in the recent workshop held in Berlin.

Caterina Pieretto: I'm also pleased to welcome Thomas Hüttich, Chief European Affairs Manager at the Investitionsbank Berlin. Hi, Thomas.

Thomas Hüttich: Hi. Thank you very much, Caterina. Hello to everybody. Yes, we were indeed delighted to host the fi-compass workshop in Berlin. It's a city with a great innovation story to tell and the long history of EU supported financial instruments.

Caterina Pieretto: Indeed. So currently the EU is building up its competitiveness and economic resilience and ERDF financial instruments for innovation. They play a key role in mobilising both public and private resources effectively and in fact, closing the innovation gap and supporting our innovative companies is one of EU's key priorities. So that being said, Sara, can you elaborate on the two new models, the equity grant and the loan grant combinations, how do they support the EU's broader innovation and competitiveness agenda?

Sara Dagostini: Yes, sure. So, as you said, EU priorities are very clear. Europe should focus on closing the innovation gap to increase productivity and growth in Europe, and of course, ultimately to gain in competitiveness. So these two new models that we have designed are supposed to support this political agenda. The current political agenda, especially by addressing the funding market gap, especially the one we are encountering the equity market, and also to reinforce the ecosystem for the innovative enterprises. They are supposed to be a source of inspiration for the managing authority to support, encourage them to deploy ERDF funding, providing capital, of course, public capital and at the same time help to attract private capital because public capital alone is not enough for the future priorities. So the Member States should support innovative enterprises and allow them this easy access to finance, especially to develop breakthrough technology and to stay in Europe. This is also in line with the True Europe initiative that we launched this year at the level of the commission, and these are the type of investment in innovation that we want to support. In practice, with this model, we aim really at encouraging, I really stress encouraging Member States and regions to take action to increase capital supply, to create a start-up friendly environment, and also in turn, this will help to develop the equity markets in Europe, which is still underdeveloped, especially in several regions and especially in the less developed regions. So going back to the models, the equity grant combination model aims really to bridge the equity financing gap that we encounter today in Europe and provide additional funding opportunities that are not, at the moment, available in the market. At the same time, the loan and grant combination will allow the managing authority to address the specific market needs. It will offer solutions for managing and deploying financial support, for example including mechanisms like capital rebates. So in Berlin, the workshop has helped us to explore how these models can really be a powerful tool for the Member State and the region, I stress again region, to make equity and loans available, offering combinations of flexible solution, combining financial instruments and different type of grants. Because this model allows the combination with different type of grants, really targeting the specific needs of each region, and this model also works in synergy, one with the other, and are complementary as they are able to target different financial intermediaries and also different enterprises which are facing different phases of the life cycle. They really aim to overcome the lack of sustainable and suitable funding for this very important category for the start-up community overall.

Caterina Pieretto: That's very interesting Sara, and I would like to maybe follow up by asking you, what are the main features and the rationale for including the grant component, which you were stressing a lot before on these two new models?

Sara Dagostini: Sure. So the models have been recently published, and there are all the details that you can find on the fi-compass website. And also you will see that the overall the structure of the operation and the implementation option in the model are nothing really new. So it's very good to focus on the grant component and the rationale behind. So overall, the grants are an incentive for the companies to really focus and prioritise innovation projects, and also grant overall acts as an help to really start the company to develop. It's in the very beginning that grants are really, really important. And when we were talking with different stakeholders, they clearly mentioned that the grant wasn't helping at the very start. So it's good to deploy grant. The primary goal overall of combining grant with financial instrument is especially to provide a comprehensive support. So the grant is important. It's very effective and it combines with the equity, for example, allows to provide a long-term capital support for innovative projects and innovative company, especially in the early phase. As I said, that's where we the grant comes handy and we have held several discussions with the stakeholders, and this is what we got from the market that the combination of grant, integrating the grant with the equity support is really an effective tool for innovation. Specifically for the equity model, we envisage the grant component possibly in two forms. Considering the specificity of the equity instrument, it could be combined with the technical assistance subsidy or with the capital grant as an accelerator. So capital grant as an accelerator is usually for early-stage companies to help them really reach the maturity for further equity investment. While when we talk about the technical support subsidy, this is really a help to prepare the investments, to make them ready to develop and also to make them ready as well for the equity investments. In addition, the grant also allows a fund manager to build a potential list of final recipients and to develop a pipeline on investment ready projects, especially using the grant component. And then it may only provide equity support in a later stage to the projects that are then successful and worth to invest in. Before moving to the loans and grant model, I would like to close with a quote from a founder that we got when we were discussing with the stakeholder, where they clearly said the grant is for the technology, while the equity is for the company to grow. So it's really to demonstrate why is it so important and effective to have involved. If we talk on the loan model, the grant component overall helps to lower the financial risk of the project, so it has the famous de-risking effect. It contributes also to make the investment more bankable, to allow them really to be a more attractive also for private co-investors, and also to be able to be approved from the loan perspective. The model includes loan features combined with grants like for example, capital rebates that I mentioned earlier, or also other type of grants like technical support grants, interest rate subsidy. And these capital grants can also cover a portion of different types of costs related, for example to research costs, technology costs, infrastructure costs. To conclude, in both models, the grant component can really take several forms, is a very flexible blueprint for the managing authority, and it's up to them to choose the one that is actually best fitting for their situation and their specific needs.

Caterina Pieretto: A very comprehensive answer Sara, thanks a lot. So now let's move to IBB's perspective. Because Berlin has successfully deployed four generations of ERDF financial instruments supporting innovation, and Thomas, I would like to hear from you how important is the development and use of equity instruments like your ERDF-backed VC funds, in this context, and maybe you can also share a small anecdote with the listeners on how techno music has also played some role in making Berlin EU’s VC hub, and this was also mentioned at the event, by the way.

Thomas Hüttich: Yes, I very well remember the beginnings. Since then, Berlin has experienced a remarkable growth as a vibrant and rapidly expanding innovation start-up and venture capital hub in Europe, and it's now one of the biggest, if not the biggest, and IBB Ventures, our venture capital arm of the Public Development Bank, IBB (Investitionsbank Berlin), they have played a major role to this development by implementing equity financial instruments in the city over the past decades, which in turn was only possible through ERDF support. But you mentioned that of course, there has been other advantages Berlin had to become such a hub and it certainly is a cultural metropolis. It has a pull factor for many young people from all over Europe and all over the world. It used to have, unfortunately not anymore, it used to have very cheap cost of living. It was easy to get a cheap flat or start-up locations. That has changed a bit. And yes, of course it was actually mentioned that particular to pull lots of young talents the image of Berlin is a metropolis of nightlife and culture and particular techno it did play a big role, I think, to be so interesting for all those young and bright minds to come. But anyway, back to our venture capital instruments, the most important was that this allowed us to cultivate a strong network within this local ecosystem and thereby fostering relationships with private venture funds, with business angels and founders in Berlin. By leveraging all this public investment with all these investments by private co-investors, the total amount of financing for Berlin based start-ups since the 2000-2004 period when we started exceeds €2 billion, and with about €300 million investment by our venture capital funds themselves, we actually have a leverage effect or leverage ratio of 1 to 6. This is quite huge. Also, we had more than 50 exits in the past ten years alone. So if that's not a huge impact of ERDF financial instruments, then what? Anyway, early-stage innovative companies heavily rely on external financing to develop their innovations and breakthrough technologies to bring them to the market and then to grow fast and scale up. But traditional bank financing is often not feasible for these companies because of a lack of collateral and the high risk involved. So venture capital really emerges as the primary option, and not only because it provides the necessary funding, but the companies also receive important business support and expertise by other people running the fund and our huge network. Often the IBB is the first mover, and our commitment is then crucial to attract other investors. With each follow up investment round, additional co-investments then grow significantly. That's why our long-term approach is so important. Our venture capital funds span multiple programming periods since 2004, allowing to recycle capital using those reflows from previous generations of financial instruments for follow on investments in later stages, and therefore we can provide support throughout the entire journey of a company that can be very long.

Caterina Pieretto: Indeed, and Thomas, you also presented during the event the ERDF Pro FIT  loan and grant programme that IBB manages. It would be interesting if you could explain how does this type of combined support, loans and grants, work on the ground, and how is it complementary to the VC instruments?

Thomas Hüttich: Yes, indeed. Our also ERDF co-financed programme for research, Innovation and Technology, in short Pro FIT, is our most important tool for financing innovation projects, either from existing companies or start-ups. But even universities and research institutions can benefit. It does offer both grants and loans depending on the innovation phase. So, for example, the high-risk industrial research phase will be supported with grants up to €400,000. The next phase, the experimental development, will be a mix of grants and loans and finally the much lower risk production set up market preparation and product launch will be supported with loans only up to €1 million. So while the application can cover all innovation phases and instruments, however, the approval will be different with different legal documents. Whereas loans can be paid in advance, grants will still be reimbursements of verified costs. But we actually hope that the new models that Sara, and in Berlin, has just presented of combining financial instruments and grants that they could lead to actually a simplification of the verification process, because we heard from Thorsten Lubinski of DiaMonTech AG, one of the enterprises in Berlin, at this stage that applying for grants, as helpful as they are, is still very old school. I remember him even mentioning a fax machine. Anyway, because of the high technology risk in research, grants are still needed though, and therefore the programme is designed to be complementary to venture capital instruments, and they are focused on then scaling the operations and attracting further private investments. As Seadna Quigley from the amazing company Level Nine Labs, also in the conference on the stage in Berlin, who revolutionised the green chemical industry. How he can tell you it was impossible at the start to convince any investor. But our Pro FIT funding, probably acting as a sort of validation of the viability of the new technology, was indeed a real door opener for venture capital funding that came afterwards. However, there are also already successful companies that already have financing that are already on the market that, for example, want to expand their activities with the new research and development project. And they can, of course, also apply. In the end, it's the right mix of support schemes that fosters a comprehensive innovation ecosystem.

Caterina Pieretto: And how much did we learn from these final recipients that you were just talking about? And indeed, it was one of the most valuable parts of the workshop in Berlin. Hearing directly their experience and sharing their stories, we had three of them in Berlin. We had Thorsten Lubinski from DiaMonTech AG, a start-up in a non-invasive blood glucose measurements who received VC funding. We also heard from Seadna Quigley of Level Nine Labs, a start-up in the green chemical industry that benefited from the Pro FIT programme, as you were saying before. And finally, Gemma Comabella from Cocoli an e-commerce start-up focused on the circular economy supported by the Impact Fund. Sara, I would like to ask you, what were your key takeaways from their journey and why are loans and equity support combined with grants so attractive for start-ups and so important?

Sara Dagostini: Yes, I fully agree with you, Caterina, that having this final recipients in this event was really enriching because they actually represent why we are doing all of this, because we want to support them. So my main takeaway was mainly how much they were really looking for kind of stability in funding sources. They clearly mentioned that there is not only at the beginning that they need to have funding, but it's throughout the life cycle and this model, this financial instrument loans and equity specifically within the model, offers these start-up founders more stability in their funding sources to cover their investment needs that vary to the life cycle. Actually their story really highlighted the need for this availability of continuous pipeline of financing. The grant remains a one off, while the equity itself will help them in the long run to face the different investment need. And I agree actually with Thomas, that I was really impressed because Thorsten really mentioned how the bureaucratic burden is really an obstacle and can be very demotivating for this founder to access public financial resources. He was mentioning 50 pages of application, and indeed he was mentioned the fax as a final step, which is something that no one really uses. So this is really clear how bureaucracy sometimes can become a burden and an obstacle for them. Talking about Seadna, I was really impressed how in a smart way he found access and obtain the public funding he needed, because he was really using the application he did for Pro FIT to go and sell it as a reassurance factor, to go and sell it to private investors. And then when the private investors, thanks to the reassurance that the public resources invested in his business plan, can make, he was using this private investment commitment to go back to the loan approval process to say, you see, as private investors are believing that I trust in my plan, then you should as well. So he was able actually, in this very smart way, to obtain both private and public resources together, which are very, very effective and needed. And when we talk about Gemma, her business plan, I understand that at the beginning she did... I mean, she had of course to find private resources, but it was not really such a struggle. But she's struggling now that she wants to expand from Germany and Austria, where she's actually acting throughout Europe. And she said that this is really a big obstacle for them. And so she actually raised this big scale market gap, which is exactly what is coming also from the Start-up and Scale-up Strategy, a big obstacle... I mean, there is once the start-up grow in Europe, there is actually no funding available. So it was very interesting to see this as a confirmation of what we are seeing from different reports and studies. So it was really interesting to have this founder with us.

Caterina Pieretto: Yes, indeed. And this scaling up factor was another topic that was very much discussed during the event and how challenging it is for the EU to retain these successful start-ups now here. So Thomas, beyond the financing, how do these public backed funds help these companies overcome the challenges of scaling up and especially in a global VC race?

Thomas Hüttich: Yes, it's absolutely right. And it was a major discussion point, as you pointed out in the workshop. So Berlin's success is not just about policy, infrastructure and the funds. Above all, it's about the amazing talent and the innovative companies that choose Berlin to start. And of course, we want them to stay after they have grown. So the implementation of the pari passu principle has enabled to bring in additional investors from the market and allow the expansion of funding from larger and later stage private funds, including those from outside the EU, and the public backing at the beginning is particularly important for deep tech and hardware industry, where venture capital investments have been until recently, I would say very niche because of the long research and development cycles and the higher capital needs in these sectors. But to give you an example Nuventura, one of our companies supported by IBB Ventures offering a greenhouse gas free grid technology. They had IBB Ventures as one of the first credible investors, and so far managed to raise €35 million in the first five investment rounds, and they can now use the funds for further developing its manufacturing capabilities around the world. And another example is the already mentioned DiaMonTech, health tech start-up being with us in Berlin. They collected €25 million so far, also enabling them to set up around 100 patents worldwide and they already could manage to get many international distributors for their blood sugar measurement tool. However, the key challenge we all discussed is the scaling up and retaining their headquarters in Europe for the long term. So the public sector's role is to provide a long term strategic investment as well as a technical strategic support. And that role ensures that the high potential companies stay here and grow here, which is the only way to maintain or expand the EU's global competitiveness. There really is a second valley of death, after the pre-seed and seed phase that is covered very well with public instruments, as we heard today a lot. The second valley of death for later stage finance, maybe beyond 25, up to €50 million. And I do think we need to improve on different levels that could be leveraging more institutional investors and easier bureaucracy and public procurement, facilitating cooperation between start-ups and established companies. Maybe shorten the application for EU funding facilities such as the EIC, and maybe we need to focus more on the strategic technologies such as deep tech, green tech and biotech.

Caterina Pieretto: Thank you Thomas, and Sara, you mentioned earlier the EU Start-up and Scale-up Strategy. And I wanted to ask you, what is the Commission's view on the barriers and challenges facing EU scale-ups. And how can the new model instruments that we are talking about help keep these high potential companies from relocating their headquarters outside of Europe?

Sara Dagostini: Yes, I mentioned the use EU Start-up and Scale-up Strategy, and actually Thomas already went through several barriers and also solutions that are included in the strategy. But first, the main aim of this strategy is to make Europe a great place on the international scale to launch and grow innovative companies. And this strategy actually also includes a transformative element, because it includes the idea of moving towards a more, entrepreneurial, innovative economic model. So to move away from the traditional economic model, because the idea is that a very dynamic and lively start-up ecosystem can really transform Europe economy and can help to increase productivity, create new jobs, and also attract the best talents around the world and also support investments. So the first task of the strategy was to identify the existing barriers and as Thomas mentioned, they expand from the regulatory burden, like Torsten also mentioned, from the different type of regulation that are all crossing and aggregating the regulatory needs and requirements. There is fragmentation. There is the very well-known barrier of access to finance that all the different start-up community mentioned in all over the place there is the access to talent, because today, I mean, we also face especially the start-up, not we as a Commission, but the start-up really face a lack of talent with the new skills because, I mean, the world is changing, so there is new skills that have to be developed and used to launch and grow with a start-up, there is access to infrastructure due to the fragmentation of the market as well, the access to the infrastructure is not always easy for smaller start-ups and not least the access to market. So these were the main challenges that were identified, and then the strategy has helped to develop actually five blocks with 26 actions under these five blocks to offer a solution and to overcome these barriers identified. Just let me mention two of the most wanted actions. So the 28th regime, which is the idea behind, is to provide the start-up community with a single set of rules for companies all across Europe, and the second also most wanted action was the set-up of the scale-up fund as a part of the EIC fund, which is a market based, privately managed and privately co-financed Europe fund focused really on the second valley of death that Thomas was mentioning earlier. Now, going back to our models and the possible link with strategy, we feel that these new models are fully aligned with the whole idea embedded in the strategy to build a start-up friendly ecosystem. We need to have an ecosystem that it's easy for the start-up to launch and grow. Where this ecosystem will also help them to access finance for enterprises. And overall, with this model, we feel that there is the possibility for the Member States to really reinforce the supply side, so offering public capital. At the same time, the Member States in the regions should make also easier for the start-up to launch the business, thanks to this extra offer of capital supply that they will be able, especially if we think of the equity model and the grant component, they really play a strong incentive to support the very early stage of the innovative enterprises. The model will also allow to create a stronger pipeline of companies that will be really better prepared, and that will be ready for larger venture capital funding later on, on the European market. Last but not least, we feel that there are several benefits also for the region, that using the model can really benefit because only with ERDF we have a strong regional dimension. So using our models under ERDF funding can really help to increase cohesion and to address really the regional disparities that they face in Europe.

Caterina Pieretto: So as we wrap up, Sara, if you had to give one recommendation for other Member States and regions looking to develop their ERDF financial instruments supporting innovation, what would it be?

Sara Dagostini: One recommendation. First of all, I would tell the Member States, think strategically and think long term. Equity, also, using our models is the way to go is the way forward, and this message really comes from several reports, from several initiatives at the market level and also at the commission level. We need really to switch the mindset from short term to long term. In fact, I think really this model will really help the managing authority. And also we have an example in Berlin, when they started, the ecosystem was not really very developed, but they had this vision of thinking long term. And now they are at the fourth generation VC fund and they saw really the ecosystem developing strongly and crucially. So taking inspiration also from this successful model like in Berlin, the Member States should dare and start piloting and designing a financial instrument model, also using this flexibility that we offer within the granted financial instrument combined model. So this new financial model are really designed to help the managing authority. And also a second recommendation will be we will have soon the FI Campus event at the end of November in Brussels, so managing authority and Member States should really do not hesitate to go there and talk with the IBB representative and really share their view and ask for their wonderful and successful story.

Caterina Pieretto: Indeed, that's a good point Sara, and Thomas, with Berlin being one of the biggest VC hubs in Europe, where do you see its evolution in the coming years? And another question linked to the future. You touched upon the new ERDF VC fund IBB Ventures is launching. Could you please tell us more about it?

Thomas Hüttich: Yes, of course, we aim to continuously innovate and the long term aim is, of course, to diversify the start-up ecosystem in Berlin, because Berlin is very strong in certain sectors like consumer-oriented business models, fintech, biotech. But given Berlin's numerous universities, research facilities and leading healthcare institutions like Charité, we think there's still a lot of untapped potential for deep tech spin offs. Just last week, actually, we launched a new pre-seed fund using ERDF resources under the Strategic Technologies for Europe programme or for short STEP, and what we want to do is to offer fast track funding actually within four weeks, specifically for deep tech companies in the very early stages. That's because start-ups often hear, hey, great idea, but still too early for us. You're welcome to come back in 12 months when there's more to show for. So what we want to do is we start with €10 million, hopefully more over the years. And we want to provide initial financing at the beginning to up to 50 deep tech start-ups, particularly university spin offs. So the goal is to bring these start-ups to the point where mostly private financing is possible. Within 12 to 18 months, the fund will be part of a new ecosystem. It's called ‘unite’, bringing together science, talents and business. And this actually brings me back to Seadna and his amazing innovation project. I was actually particularly impressed how our initial grant support enabled the collaboration with the Humboldt University, working together with a network of researchers, professors and using the infrastructure and equipment of the university. And this actually enabled the use of breakthroughs, now it gets a bit scientific, in bio-nanotechnology and quantum chemistry to convert biomass into renewable chemicals and therefore replacing fossil fuels. Sounds good?

Caterina Pieretto: Sounds good, Thomas. So thank you both, Sara and Thomas, for this very interesting exchange and for sharing your insights. It's clear now that ERDF financial instruments, particularly with the new models combining equity or loans with grants, are a powerful tool to bridge the innovation gap and hopefully boost Europe's competitiveness. We encourage all our listeners to explore the new fi-compass models on our website, and thank you for tuning in to this episode and see you next time. Goodbye.

Thomas Hüttich: Goodbye.

Sara Dagostini: Goodbye.