REPORT on a communication from the Commission on European capital markets for Small and Medium-sized Enterprises: prospects and potential obstacles to progress (COM(97)0187 - C4-0433/97)
27 May 1998
Committee on Economic and Monetary Affairs and Industrial Policy
Rapporteur: Mr Mark Hendrick
By letter of 6 May 1997 the Commission forwarded its communication on European capital markets for Small and Medium-sized Enterprises: prospects and potential obstacles to progress to Parliament.
At the sitting of 15 September 1997 the President of Parliament announced that he had referred the communication to the Committee on Economic and Monetary Affairs and Industrial Policy as the committee responsible.
The Committee on Economic and Monetary Affairs and Industrial Policy had appointed Mr Mark Hendrick rapporteur at its meeting of 15 July 1997.
The Committee on Economic and Monetary Affairs and Industrial Policy considered the Commission communication and the draft report at its meetings of 2 December 1997, 24 March 1998, 15 April 1998 and 26 May 1998.
At the latter meeting it adopted the motion for a resolution by 39 votes to 1.
The following took part in the vote: von Wogau, chairman; Katiforis and Secchi, vice-chairmen; Hendrick, rapporteur; Areitio Toledo, Carlsson, Cassidy (for de Brémond d'Ars), Caudron, Donnelly, Ferrer (for Ilaskivi, pursuant to Rule 138(2)), Fourçans, Gallagher, Gasòliba i Böhm, Glante, Harrison, Herman, Hoppenstedt, Imbeni, Jarzembowski (for Christodoulou), Kuckelkorn, Langen, Larive, Lukas, Lulling, McCarthy (for Billingham), Malerba (for Arroni), Mann. T (for Friedrich), Metten, Miller, Paasilinna, Peijs, Read, de Rose, Rübig, Scarbonchi, Skinner (for Murphy), Tappin (for Berès), Thyssen, Torres Marques and van Velzen W.G. (for García-Margallo y Marfil).
The report was tabled on 27 May 1998.
The deadline for tabling amendments will be indicated in the draft agenda for the relevant partsession.
A MOTION FOR A RESOLUTION
Resolution on a communication from the Commission on European capital markets for Small and Medium-sized Enterprises: prospects and potential obstacles to progress (COM(97)0187 - C4-0433/97)
The European Parliament,
- having regard to a communication from the Commission on European capital markets for Small and Medium-sized Enterprises: prospects and potential obstacles to progress (COM(97)0187 - C4-0433/97),
- having regard to the communication from the Commission on the feasibility of the creation of a European Capital Market for smaller entrepreneurially managed growing companies (COM(95)0498) and its own resolution of 4 July 1996 on this subject[1],
- having regard to the report from the Commission on the future operation of the information and cooperation networks in the framework enterprise policy (COM(95)0435) and its own resolution of 4 July 1996 on this subject[2]
- having regard to the report of the Committee on Economic and Monetary Affairs and Industrial Policy 1(A4-0202/98),
. whereas SMEs form a crucial part of the EU"s job-creation strategy, with the Delors White Paper on Growth, Competitiveness and Employment placing SMEs at the heart of the Community"s policy for generating employment,
B. whereas it is small and micro enterprises in particular that account for more than 80% of European businesses, create jobs and foster regional development;
C whereas with 18 million currently unemployed in the EU, Heads of Government reasserted this commitment at the 1997 Luxembourg jobs summit,
D. whereas SMEs are particularly valuable in pushing forward new technologies; whereas this reinforces Europe"s competitiveness by creating high-quality, high-tech jobs in fields such as software, telecommunications, biotechnology and microelectronics,
E. whereas an oft-cited barrier to the establishment and expansion of SMEs, especially small and micro enterprises, is the difficulty in obtaining capital for start-ups and investment,
F. whereas it is necessary to boost the formation of associations amongst SMEs, either at the European level or within the individual Member States,
G. whereas a Commission communication in 1995 highlighted the need for action, and led indirectly to the establishment of EASDAQ,
H. whereas the European Parliament responded in a resolution of 4 July 1996[3] by welcoming moves to form EASDAQ , but noted that major barriers remained in the way of effective capital markets in Europe for SMEs,
I. whereas the United States has proved itself far more effective than Europe in supporting new ideas, with companies involved in the IT and internet industries experiencing massive growth rates,
J. whereas part of the reason for America"s success is the size of its domestic market of 250m customers who speak the same language and use the same currency,
K. whereas American investors are much more prepared to accept the risks inherent to investing in small companies; whereas Europe"s big institutional investors are more wary of involvement in SMEs than their American counterparts,
1. Welcomes the Commission's Communication on European capital markets for SMEs, which gives a concise assessment of the progress made in the development of SME capital markets in Europe and the obstacles and barriers to further progress;
2. Notes the huge success of NASDAQ, a stock market for SMEs that enables easy investment in small firms to fund their expansion and development;
3. Notes the simplicity with which American private investors can buy shares, and the new opportunities offered by electronic commerce; employee share ownership in the US is exploring new forms of worker participation in firms, and is opening up share ownership to a new public;
4. Notes the lack of common accounting rules in Europe, which is hindering the exchange of expertise between the Member States;
5. Notes that attitudes to investment in Europe are changing, with massive demand for shares during the privatisation of state utilities such as telecoms companies, but considers that this demand must now be extended to encompass the higher yielding, but also higher risk stocks on SME capital markets;
6. Commends the establishment in the EU of a number of capital markets for growing SMEs which allow these firms direct access to capital; notes that the range of markets which exists allows both innovative firms and more traditional/mature SMEs the possibility of a listing;
7. Notes that there are currently 50 companies listed on Euro-NM and 22 companies listed on EASDAQ, that the total capital raised is over 170m ECU, and that this has contributed to the creation of more than 10,000 jobs in Europe;
8. Urges the Commission to analyse how direct and indirect share ownership by individuals may be encouraged, with the aim also of identifying best practice, as share-owning traditions vary greatly from one Member State to another, and to give consideration to information campaigns to encourage individuals and organisations to invest in SMEs through these capital markets; calls on the Member States to incorporate incentives in their tax systems to encourage individuals to provide venture capital for SMEs;
9. Commends the Commission on aspects of its Green Paper on Pensions which aim to remove restrictions preventing institutions such as pension funds from buying securities issued in member states other than their own, which in turn stands in the way of the expansion of SME markets;
10. Considers that there are still too many barriers to SME start-ups in the EU; re-affirms support for the EIB"s Employment Package, specifically the genuine assumption of risk by the Bank in supporting high-technology and growth-orientated SMEs through loans and venture capital assistance;
11. Urges the adoption of employment-friendly tax policies to make the reduction of the tax burden on labour a priority; considers that lower labour costs will allow rapidly growing SMEs to expand with confidence;
12. Considers that the taxation of capital and assets must not have an adverse effect on the investment of venture capital by individuals;
13. Firmly rejects the ideas for a 'Tobin tax', as such a tax would represent a direct threat to capital markets;
14. Believes Member States should examine whether their bankruptcy laws contain obstacles to the setting-up of new firms which could be removed; points out that the debate on a statute for European companies must also address the subject of bankruptcy;
15. Recalls that the regional dimension in SME start-ups is also hugely important, and that regional successes with Business Links, Euro Info Centres and loan guarantee schemes make a vital contribution to the employment situation;
16. Points out that criteria already exist for listing on European stock markets and that such criteria therefore do not need to be formulated by the Commission or any other institution; SMEs can use those criteria to determine whether they can obtain capital through the stock markets;
17. Notes the shortage of financial skills in smaller firms and is aware of the requirements associated with stock market listing; is therefore of the opinion that training in entrepreneurial skills needs to be developed in the Union;
18. Assumes that the existence of a variety of markets for shares in SMEs is likely to encourage flotation and boost interest in various business sectors, but notes the need for such niche markets to possess sufficient credibility and interest through having enough liquidity and players;
19. Points out that to reduce the requirements for financial information from SMEs would be counter-productive in making potential investors more wary of investing, and believes that a better solution lies in promoting a culture of financial transparency across Europe; observes therefore that sound research into such firms is necessary in the financial sector;
20. Calls upon the Commission to address urgently the lack of a common definition of a public offer in the EU, and to amend the Prospectus Directive (89/298/EEC) to allow for mutual recognition of existing definitions throughout the single market area, applying the definition of the member state in which the stock market is located;
21. Urges rapid completion of the single market which forms the foundations of the new European capital markets for internationally orientated SMEs, the success of these markets depends on the implementation and enforcement of single market legislation; takes the view that with strict implementation and enforcement of single market legislation, many of the problems which are faced by these markets in Europe will be overcome;
22. Notes that currency risk is one of the greatest barriers to cross-border transactions, and considers European capital markets to be one of the areas which have most to gain from introduction of the euro; considers further that the single currency will make capital markets more transparent and improve their liquidity, while strength and stability will attract inward investment;
23. Believes that a mix of appropriate regulation and low costs is another key to the success of these markets; takes the view that the wipe-out of a previous generation of "small cap" markets in the 1987 crash was attributable to lax regulation and a consequent lack of confidence;
24. Urges the Commission, in preparing its Communication for the Cardiff summit in June 1998, to take note of these action points;
25. Instructs its President to forward this resolution to the Commission, the Council, the governments of the member states and the governing bodies of the European Investment Bank, the European Investment Fund and of EASDAQ.
B EXPLANATORY STATEMENT
Employment is at the top of Europe"s agenda, and SMEs form a crucial part of this job-creation strategy. In 1994, the visionary Delors White Paper on Growth, Competitiveness and Employment placed SMEs at the heart of the Community"s policy for generating employment. Heads of Government reasserted this commitment at the 1997 Luxembourg jobs summit.
SMEs are particularly valuable in pushing forward cutting edge research. This is the area where Europe is most competitive: in creating high-quality, high-tech jobs. Software, telecommunications, biotechnology and microelectronics are all areas led by innovative, technology-based small firms.
Europe"s problems
The United States has proved itself far more effective than Europe in backing new ideas with ready cash. Perhaps the clearest example of this is the computer business, which since 1980 has seen the fastest accumulation of wealth in history. Investors are earning returns of over 50% a year for the average firm, and more than 100% for the most successful. Many believe that the internet market will be three times as big.[1]
Why has Europe been unable to match this? It is recognised here that the US has a more entrepreneurial “culture”, but underlying this are three more concrete reasons. Part of the reason for America"s success is the size of its domestic market. If a company is successful in a home market of 250m customers who speak the same language and use the same currency this can finance several years of expansion. More importantly, Americans are much more prepared to accept risk by, for example, investing in small companies. Europe"s big institutional investors are more wary of involvement in SMEs than their American counterparts. And, finally, stemming from this, the US has NASDAQ, a stock market for SMEs that enables easy investment in small firms to fund their expansion and development.
But the EU is fighting back. The European single market now allows companies the run of the whole European marketplace. The single market is approaching completion, and the new Action Plan will ensure more effective implementation and enforcement.[2] This offers an internal market of 380m consumers, the largest project of economic integration ever undertaken. Moreover, final preparations are now being made for the launch of the euro, the logical conclusion to the single market. The single currency will at a stroke let Europe benefit from the advantages that the US enjoys of one market and one currency.
There is some evidence that attitudes to investment in Europe are changing, with massive demand for shares during the privatisation of state utilities such as telecoms companies. The challenge is to extend this demand to the high gain, but higher risk stocks on SME capital markets. A long-term perspective needs to be encouraged among investors; indeed the Commission should consider campaigns to raise awareness of the healthy performance of stock markets over a lengthy period which makes shares a valuable investment. In addition, the restrictions preventing institutions such as pension funds buying many securities stand in the way of the expansion of SME markets. The liquidity that comes with institutional trading is essential to small capital markets. Pension reform is under way in most member states and with the publication of a Commission Green Paper, and this will put funds under greater pressure to invest in equities.[3]
Europe must take note of the lead that the US enjoys in these matters. The simplicity with which American private investors can buy shares, and the new opportunities offered by electronic commerce, are trends that Europe has to follow. The individual is important: private investors, rather than institutions, make nearly half of the transactions on NASDAQ.[4] And employee share ownership in the US is exploring new forms of worker participation in firms, and is opening up share ownership to a new public. Again, information campaigns should be considered in order to raise awareness of the opportunities which exist.
Crucially, Europe now has a number of capital markets for growing SMEs. Lending to small firms is a risky business, and banks tend to be unwilling either to lend large amounts, or to lend at low rates to small firms. Stock markets for SMEs allow small companies direct access to capital. They often focus on firms specialising in innovative, high-tech fields, and catch them at an early stage of development. But more mature SMEs are also suitable for a listing, as well as those in labourintensive sectors. Although the risks for investors are slightly greater, if investments are spread then the potential returns are huge as successful SMEs can reach very high growth rates.
Europe"s small capital markets range from EASDAQ, a pan-European market based in Brussels, through the Euro-NM, comprising an electronic network linking exchanges in Paris, Frankfurt, Brussels and Amsterdam, to national markets in a number of member states. There are currently 50 companies listed on Euro-NM and 22 companies listed on EASDAQ. The total capital raised is over 170m ECU, and this has contributed to the creation of more than 10,000 jobs in Europe. The regional dimension in SME start-ups is also hugely important. Regional successes with Business Links, Euro Info Centres and loan guarantee schemes make a vital contribution to SME start-ups. It is the interaction of European, national and regional policies, together with engagement at a local level that will ensure that strongest SME growth.
However, there is a far broader issue which remains to be tackled by Europe: it"s clear that there are simply not enough small companies being set up. The number of small firms listed on the European markets is paltry compared to the five-and-a-half thousand listed on NASDAQ.
The US has created 8 ½ million jobs since 1992, and practically all of these have been in the small business sector while large firms continue down-sizing and contracting out.[5] This high level of job creation in the US is nothing new, but the quality of those jobs now appears better. This may reflect growth in the telecoms, information technology and biotech sectors: precisely the areas which the new SME capital markets are targeting. The SME failure rate is the same in the US and Europe with about 50% of small firms going under within the first 5 years. But with far more business start-ups in the US - about 1 million per year - the net number of SMEs continues to grow impressively.
Thus, circumstances are changing in Europe. The single market and the euro will fortify prospects for new SMEs, Europeans are becoming more optimistic about investment, and a range of new stock markets for SMEs has emerged. Now a focus is required on information campaigns, and above all on measures to increase SME start-ups in the EU.
The latter part of this report will examine the two main areas covered by the Commission"s communication: firstly, specific barriers which SMEs face in seeking a stock market listing. And secondly, on a broader level, the main difficulties in creating a real pan-European market for share trading.
The obstacles to listing SMEs on stock exchanges
There is a number of major obstacles between SMEs and a stock market listing. Some of the most pressing problems are examined below, and proposals made for further discussion.
The consensus is that Europe is producing enough SMEs to warrant these markets, though, as noted above, this is by no means clear. The US boasts 1500 private biotechnology companies, and 300 which are publicly quoted. Europe comes nowhere near this figure, and cannot match the US in company start-ups, particularly of innovative companies. This requires immediate action.
At the European Summit on Employment in November 1997, the EIB reiterated its plan to establish a loan guarantee scheme for SMEs. The banks will lend ECU 1 billion over three years in the form of start-up and venture capital loans for small firms. This will make a very real difference is strengthening the rate of business start-ups in the EU and, if run effectively, should have a relatively low default rate.
The tax burden on labour must be reduced as a part of the development of employment-friendly tax policies. Given that Europe creates far fewer new firms than the US, we should at least aim to ensure that a higher proportion survives. Lower labour costs would make a major impact in allowing SMEs to grow rapidly. Having a few firms which expand rapidly and take on new staff is a healthier situation than having many small firms just surviving and unable to employ new staff. An overhaul of Europe"s bankruptcy laws is also urgently required, as this is a major disincentive to setting up new firms.
Assuming that enough SMEs do exist, one problem lies in identifying which these suitable companies are. Another problem is in persuading the owners that they have to be prepared to lose some control after flotation. When the other options are to take expensive bank loans or to reject expansion altogether, public share offerings may well be the best solution. The development of a "selfassessment pack" to help firms decide whether they should consider a stock market listing would be a valuable aid.
Steps must also be taken to ensure that SMEs have the financial skills for the rigorous requirements of a stock market flotation, particularly in terms of financial information and transparency. Owners need to be made aware of the high initial and ongoing costs of a stock market listing. The key here is to ensure that SMEs can have access to specialist advice and support to prepare for a listing. European, national and regional schemes to provide professional business advice at low cost must be stepped up. Many banks already make the seeking of such advice compulsory for those receiving business loans.
A central European Agency to coordinate efforts to profile companies suitable for a stock market listing would be an important addition in this field. The agency should also compile a database of experts in financial issues and new technologies, and plan programmes to advise SMEs on stock market listings. There must be effective monitoring of the development of new technologies in issues such as share trading on the internet. This will require a regulatory framework which is flexible but which inspires confidence in investors.
The demands on SMEs to supply financial information are tough, but reducing the requirements for SMEs would be counter-productive in making potential investors more wary of investing. The situation could be helped by promoting a culture of financial transparency across Europe, but we are also facing a potential lack of expert financial advice, especially if the new SME markets attract a lot of companies. Experienced, efficient and enterprising people are in short supply in the financial sector, and this is already a handicap to the growth of the markets.[6]
A further complicating factor which must be urgently addressed is the lack of a common definition of a public offer in the EU. There are three options here. The first is to call for harmonisation throughout Europe. This would oblige every member state to change their legislation for the benefit of the small proportion of companies which are internationally orientated. The second would be to follow the example of the US, which has a sweepingly vague and imprecise definition of a public offer. The third and most attractive option would be to allow for mutual recognition of existing definitions throughout the single market area, applying the definition of the member state in which the stock market is located.
Barriers to cross-border share trading on European SME capital markets
The major obstacles to cross-border share trading are currency risk, plugging the gaps which remain in the single market, and the need for good regulation to ensure confidence and thus liquidity.
Currency risk is one of the greatest barriers to cross-border transactions. It greatly restricts interpenetration between national markets which, in turn reduces the liquidity of markets. The single currency is vital for an integrated European securities market. It will make capital markets more transparent and improve their liquidity, while strength and stability will attract inward investment. European capital markets are one of the areas which have most to gain from the introduction of the euro.
The single market is the foundation for the new European capital markets for internationally orientated SMEs. And so the success of these markets depends on the implementation and enforcement of single market legislation. Many of the problems which are faced by these markets in Europe will be overcome as the single market legislation is implemented and enforced. The drive towards completing the single market under the British presidency of the EU will mark a major step towards helping these markets.
A mix of effective regulation and low costs is another key to the success of these markets. The wipeout of a previous generation of "small cap" markets in the 1987 crash was attributed to lax regulation and consequent lack of confidence. Liquidity is the key to the success of these markets since very small companies are more vulnerable to swings in the economic cycle. Low trading volumes cause high volatility in share prices and investors become afraid of being unable to sell their shares; trading tends to dry up completely in a bear market. Liquidity can only be achieved with a high degree of regulation and transparency.
The next steps
The problems raised here account for the fact that Europe"s SMEs are largely undercapitalised. A Grant Thornton Business Survey in 1996 found that only 10% of European SMEs are financed by external equity, while 49% had long-term loans, and 54% had overdrafts.
Europe has taken a big step towards taking on board the practice of the US in small capital markets, but a number of difficulties remain. Many of these are commercial decisions for the individual stock exchanges, but others require intervention at European or national level, as well as regional commitment to SMEs.
Three of the major obstacles to effective pan-European markets are being broken down. Both the single market and the euro will make cross-border transactions simpler and cheaper. Meanwhile, effective regulation is the key to liquidity on these markets and hence a major prerequisite for their success.
However, more detailed action needs to be taken not simply to ensure the success of SME capital markets, but to promote SME start-ups and hence job-creation in Europe. Firstly, existing and new arrangements to encourage SME start-ups must be buttressed. Second, employment-friendly tax policies should be considered to encourage successful SMEs to expand. Third, a "self-assessment pack" would make identification of firms suitable for a stock market listing. Information campaigns, co-ordinated by the European Commission, should aim to raise awareness among firms, as well as highlighting new opportunities for individuals and organisations to invest in SMEs. The establishment of an agency to coordinate this work is desirable. It should be responsible for profiling and advising suitable SMEs, compiling a database of financial experts, assessing the impact of new technologies on share trading and regulation. Finally, we need to take a long hard look at Europe"s over-strict bankruptcy laws, and to take steps to agree a common definition of a public offer in the EU.
Better access to equity finance will generate a positive chain reaction, allowing SMEs to invest in research and expansion. The reduction in debt-equity ratios will make banks more willing to lend to SMEs, and by making it easier for venture capitalists to exit their investments, it frees up venture capital for investment in new business start-ups. This is needed: only 7% of venture capital goes to start-ups in Europe, compared to 24% in the US.[7]
Meanwhile, the broader advantages include better opportunities for European investors, especially pension funds, more inward investment to Europe, and the further development of financial services in Europe.
We owe it to our SMEs to open up new possibilities for expansion. The success of these new capital markets will mean success for many more small companies, and this will mean jobs and wealth creation for regions across Europe. We have to make sure they succeed.
- [1] () The Economist, 25 January 1997, p 15
- [2] () Action Plan for the Single Market, COM(97) 184; Rapporteur: Karl von Wogau
- [3] () Commission Green Paper Supplementary Pensions in the Single Market COM(97) 283
- [4] () 49% of transactions by number. Source: EASDAQ
- [5] () AFL-CIO figures
- [6] () Report for European Commission by Graham Bannock & Partners and Essor Europe
- [7] () Source: Inc. Magazine, 26 April 1996