SME fund: Big money for small firms
BUSINESS has made progress with setting up a fund to invest in smaller enterprises that have a high impact on job creation. This amounts to a new asset class for investors and should stimulate the venture capital industry.
Last month Discovery CEO Adrian Gore announced plans for this fund, which will also provide an incentive to invest in black-owned firms. Now a public company is being set up to house the fund, and a board of directors is being recruited.
The private sector will supply about R1.6bn for the fund and deputy president Cyril Ramaphosa said last month that government would match its contribution.
The initiative is part of the joint effort by business and government to avert a credit downgrade for SA.
Gore says he, together with Bidvest founder Brian Joffe and national treasury, consulted widely with top JSE-listed companies, venture capitalists and organisations that support entrepreneurs, such as Endeavor SA and Edge Growth.
“We put it out to CEOs and the response was unanimous, I think,” says Gore, who is also chairman of Endeavor SA.
He says some details are still being worked out, but the idea is that the public company overseeing the fund will accredit fund managers of venture capital companies and other funding vehicles to accept funds.
Fund managers will then be able to use the capital injections together with their own contributions to invest in high-impact SMEs.
The idea is both to generate good returns for shareholders who invest in the public company — important for sustainability — and to support the venture capital sector.
In addition, a core of mentors will be set up to assist entrepreneurs.
Gore and his team arrived at the figure of R1.6bn by applying a formula to the top 50 JSE-listed firms. He adds that the initial target was R1bn, but this was achieved fairly quickly.
Based on the formula, he says, the highest contribution by any one company would be about R75m. But the investment bands are recommended and not prescriptive.
The idea is also to approach unlisted companies. Gore suggests contributions are likely to be calculated using a percentage of net profit.
Companies might be able to score BEE points through making contributions to the vehicle, though Gore says points should not dictate how much a company contributes.
One challenge is that there are few black African entrepreneurs who are involved in high-growth companies — most such companies are started by Indian and white males.
Also, Black Business Council CEO Mohale Ralebitso has raised concern about the level of black participation in the management of the fund.
Gore says the fund will forgo part of its share of the fund management fees and pass this on to fund managers as an incentive for them to finance black entrepreneurs.
Though SA has a sophisticated private equity sector, Gore says, the local venture capital sector remains fairly undeveloped. The idea of the new fund is to improve the “ecosystem” for more participants, he says.
He says the fund is modelled on the US Small Business Administration (SBA) and its Small Business Investment Company (SBIC) programme, which was set up in 1958.
It helped create the US venture capital industry, as many early venture capital firms started as SBIC beneficiaries before opting out. SBICs are licensed by the SBA and can then use their own private capital plus funds borrowed with an SBA guarantee to make investments in qualifying small businesses.
A 2014 report by the SBA revealed that the programme had since its launch made over 166,000 investments — in, among others, big names like FedEx, Intel and Apple — through 2,100 funds it has licensed.
SA’s government’s one foray into venture capital co-investing was in the early 2000s, when the Industrial Development Corp (IDC) took stakes of between 40% and 50% in foreign funders, pension funds and corporates, which then made investments in various companies. This came to an end in 2007, when the IDC decided to make investments directly in companies instead, mainly, it argued, to ensure that it had more control over what it invested in.
Gore says he does not have further details yet on how government plans to source its contribution, but the fund will be going ahead regardless of what government can put in. “The initiative was really private-sector led, it wasn’t done on the basis that the private sector would co-invest,” he says.
National treasury director-general Lungisa Fuzile says that as the initiative is private-sector led, business will set it up and make the first contribution. Government’s contribution will be determined as part of the budget process and will be revealed in the budget in February next year, he says.
He adds that national treasury is working with relevant departments to determine the contribution. It will likely be based on reprioritising unspent money or on allocations generated from measures already in place to tackle wastage.
While the SA Venture Capital Association and others say it is too early to comment, Keet van Zyl, a partner of venture capital fund Knife Capital, says he believes the new fund will have a “multiplier” effect in funding high-growth SMEs.
“We are very encouraged from a venture capital industry perspective that there is direct engagement to ensure that when the fund is launched, fund managers tap into it and it is not a stillborn initiative,” he says.
The current support for the local venture capital sector is limited, he says, and has come mainly from a few “super angel” investors such as Mark Shuttleworth, Michael Jordaan and the Ruperts.
“When there is a higher probability of available capital, more [potentially] high-impact firms will come out of the woodwork,” he says.
A 2013 report by Endeavor, using 2010 data from the World Bank’s Enterprise Survey, reveals that firms growing at 20% or more a year represent only 13% of SA firms, but created a quarter of the country’s net new jobs during the previous three years.
If the latest Global Entrepreneurship Monitor report for SA is anything to go by, there is no time to waste. It reveals that the percentage of early-stage entrepreneurs in SA who expect to create no jobs at all within the next five years has risen nearly four times since 2013.