Archive for March, 2011

Earlier today, Taneli Tikka and Lasse Männistö published a proposal to renew startup financing in Finland. Please find below my quick comments on this proposal.

First, I fully agree on creating “market-driven” incentives for angel and seed funding and simplifying the public system.

Regarding incentives for private investments, I would prefer a model where early-stage private (angel, seed and even corporate) investments in growth companies are matched by public money with a certain multiplier (e.g. 3-5x as in many of the countries you mentioned), and the private parties could later buy the public shares with e.g. the original purchase price + a good interest, generating a good ROI for public money.

The advantages of this model would be as follows:

  • Private investors could make significant returns from successful early-stage investments and the government would make a decent profit from them as well, as opposed to e.g. a grant that is “money lost”.
  • Public money wouldn’t skew the valuations of the startups or prefer any investors, assuming that this vehicle would be open for all the domestic and foreign investors.
  • If the company is sold or goes bankrupt, investors don’t get any returns unless the government gets them as well (it would have the same shares and associated preferences as private investors).
  • Managing this system wouldn’t require that much public resources, because the private investor could represent the government in “monthly decision making” and their incentives would be quite nicely aligned.

I’m intentionally limiting this mechanism to early-stage investments to growth companies, because I think the market works well in later-stage deals. In addition, matching later-stage investments would require much more capital. Seed and especially angel investments, on the other hand, are relatively local and, unfortunately, it will take time – as it did e.g. in Israel and even in the Valley (DARPA projects etc) – before the ecosystem matures and the government can selectively withdraw its support. I believe the biggest problem with this approach is defining an “early-stage growth company”, but this is still easier than trying to allocate public subsidies to the best companies. (We all know how hard it is to forecast which startup is going to succeed.)

Regarding R&D-related tax breaks, I’m not sure whether they would be very helpful. True growth companies are rarely profitable at the time the tax breaks would make a difference and, at a later stage, one shouldn’t encourage them to invest in unnecessary R&D activities, compared to investing in, let’s say, customer acquisition.

Although the discussion around the public financing system is important, it’s way too often used as an easy excuse for us having too few growth companies. In fact, I think most of the people focused on bashing the current public system are missing the key point:

We don’t need to renew startup financing in order to create more growth companies: instead, we need to found and fund more growth companies.

Good entrepreneurs don’t depend on public financing. If it is available, they naturally use it as their advantage, but in the end it is just a bonus that doesn’t make or break a startup. In addition, currently, all the decent (in terms of the team and business idea) growth companies can get at least a Tekes R&D loan/grant by filling a few forms, which should enable most companies to prove themselves in order to attract private investments. Actually, despite of its obvious weaknesses, our public financing system performs relatively well. It’s true that it should be improved, and Taneli and Lasse summarize well the discussion within the startup community, but it’s not the core problem we need to work on.

What we need to do is to create a culture that encourages founding ambitious, born global startups: we need public discussion on the importance of growth companies and the joys of being an entrepreneur or working at the startup; we need experienced entrepreneurs to mentor the younger ones; we need to “expose” students to startups, like the AaltoES Enternship program is doing; we need, and we will have(!), an increasing number of success cases similar to MySQL, F-Secure or Rovio; we need more angel and seed investors; and, most importantly, we need a huge number of new startups to reach a critical mass that attracts VCs, international media and partners to Finland.

So, if you want to improve the Finnish growth company ecosystem (and save the welfare state as a by-product), found a startup, apply to work for one or invest in one. It’s that simple, really.