• The venture capital sector in the Eastern European region has great potential for expansion
• The use of risk capital in Central and Eastern Europe will increase the competitiveness of industry and increase the export of modern products

Risk capital and investments in scientific and technological development, often collectively referred to as venture capital, are becoming an increasingly important economic tool in the post-socialist countries of Central and Eastern Europe (CEE). Venture capital is used mainly to finance the activities of rapidly growing firms and therefore plays an important role in ensuring the competitiveness of the industry as a whole. It is no coincidence that countries with a developed venture financing market (USA, Japan, Germany, Great Britain, the Netherlands) act as the largest exporters of high-tech products.

Types of venture financing

There is no single definition of venture capital yet. In general terms, it can be described as an economic instrument used to finance the commissioning of a company, its development, takeover or buyout by an investor during a property restructuring. The investor provides the firm with the required funds by investing them in the authorized capital and (or) issuing a tied loan. For this, he receives an agreed share (not necessarily in the form of a controlling stake) in the authorized capital of the company, which he retains until he sells it and receives the profit due to him.

For risk capital, unlike credit, firm guarantees are not critical. More important for him is the presence of an attractive and real entrepreneurial idea, as well as management capable of implementing it. Long-term investments are made not only in the form of money, but also through the provision of specific assistance to small and medium-sized firms, which contributes to their transformation into large companies.

Due to the increased risk, venture capital is provided at a higher interest rate than a loan, usually at the rate of 25-35% per annum (the exact rate is set when the investment is detailed).

Venture investments can be divided into four groups: start-up, during the development of the company, in the implementation of a certain operation, and others (see table).

n Start-up investments are the most risky form of investment. Sometimes they are divided into two subgroups - pre-launch and start-up financing itself.

Pre-seed financing concerns the very initial stages of entrepreneurial activity. Often it is carried out before the direct formation of the enterprise. An example is the financing of work on the creation of a prototype of a new product and its patent protection, analysis of the sales market or the provision of services, legal support for profitable franchise agreements and sales contracts, as well as the formation of a business plan, the selection of managers and the formation of a company up to the moment, when you can switch to start-up funding.

Seed financing is an investment in order to ensure the start of the company's production activities. It is assumed that products have already been designed, a team of managers has been selected, and the results of market research have been obtained. The risk in this case is high, and investments are unlikely to pay off earlier than in 5-10 years.

n Development finance is generally divided into upstream and downstream funding.

The start-up funding is designed to help small businesses with significant growth potential. As a rule, they cannot provide development financing through loans due to the inability to guarantee its return. Given the relatively high degree of predictability of investment results, the risk of investment in this case is somewhat less than with start-up financing, but still significant. Often, firms that have been in existence for less than three years and are not yet making a profit are financed in this way.

Financing at a later stage provides for the allocation of funds to enterprises with existing production, with great potential for expansion, for example through the introduction of a new production line or the creation of a distribution network in new territories. The risk of such investments is much less than in previous cases, and their payback period is much shorter (approximately 2 - 5 years). At the same time, venture capital is an alternative to classical lending.

n Financing of a certain operation is carried out as a one-time act. As a rule, funds are allocated for a very short period of time (for example, two years). In this way, for example, the purchase of enterprises for a certain client is financed, intermediate (“mezzanine”) financing is carried out that ensures the activity of the company in the period between other types of financing, and funds are also provided (and this is of paramount importance) for the acquisition of the enterprise by its management personnel.

Basic character 

Historics of types of venture capital investments

Type of venture financing

Investment term (years)

Investment size,
million kroons

Expected income, % per year

Share of companies offering this type of financing, %

7 - 12

0.2 - 4.0

up to 100


5 - 10

4 - 20 (but can go up to 200)

35 - 50


Early stage development

10 - 40



directly development

20 - 80



Purchase of an enterprise by management personnel

200 - 1,000 (but can go up to 20,000)

20 - 25

almost 100

nThere are varieties of venture capital that do not fall into any of the above groups. These include: rescue financing, which provides for the allocation of funds for the implementation of measures to ensure the revival of an enterprise - a potential bankrupt; replacement financing, designed to replace part of the firm's external resources with equity; financing of operations related to the company's entry into the securities market.

A typical structure of the venture capital market is shown in fig. one.

Venture investment is made through specially created funds managed by management companies. They may be independent or owned by financial institutions but act as independents.

World and European market
venture capital

There are three main venture capital markets - the US and Canada, Southeast Asia, and Europe. Usually, the European market means the market of Western Europe, but more and more often the attention of investors is attracted by the CEE countries. The markets of Israel, India and Australia are also considered promising. Regarding the potential of China, the opinions of experts differ and its capabilities are the subject of discussion. The remaining regions (Middle East, except Israel, South America, Africa, etc.) are considered relatively unattractive for venture capital.

There is no exact accounting of venture investments in the regional context. According to available information, their total annual volume in 1997 was estimated at 20-25 billion dollars, while the US venture capital market accounted for 12.7 billion dollars, Europe - 10 billion ecu (excluding investments in CEE countries).

In recent years, the interest of investors in investing in venture funds has been increasing, as can be seen from the graph (Fig. 2), which reflects the increase in the volume of venture capital in certain regions (according to the data on the amounts of proceeds planned in the corresponding period).

n Investments of venture capital can be analyzed taking into account the stage of development of companies - objects of investment according to the sectoral principle, as well as depending on the volume of capital investments.

The USA and Canada traditionally focus on financing new and very young innovative projects. Serious changes in their investment policy took place in the 1980s, when, under the influence of excess money supply, which appeared in connection with the entry into the venture capital market of powerful pension funds with a rather small number of high-quality projects, a number of investments were made, which subsequently led to large losses.

As a result, some investors have stopped financing the early stages of firm development and have moved to less risky financing of later stages. A number of firms began to finance individual transactions, others expanded the boundaries of their investment strategy and began to search for profitable projects in new areas of activity (for example, in biotechnology). In the 1990s, this policy led to an industrial revival and a surge in venture capital.

In Western Europe, venture capital is used mainly for development purposes. However, as individual transaction financing expanded, in most cases bringing lower returns but associated with much less risk, venture capital in continental Europe began to focus on this area of ​​​​investment in the 1990s. In a number of countries, the growth of venture capital entrepreneurship is largely due to the increased interest of management personnel in acquiring the enterprises in which they are employed during the 1980s. Such a structure of venture capital is typical today primarily for Great Britain and France. The exception for Europe is the Netherlands, where venture capital funding is widespread and organized in much the same way as in North America. In Germany, the structure of venture capital is a cross between its structure in the Netherlands and France. Country differences in the directions of use of venture capital are illustrated by the graph of the structure of its investments in the USA, the Netherlands, Great Britain, France and Germany (Fig. 3, according to 1995 data).

The United States is dominated by investments in high technology. In recent years, firms based on innovative technologies have made up about 60% of all companies to which venture capital has been sent. As for Western Europe, here venture investments are distributed fairly evenly between industries, and the process of 

financing of development programs covers a wide range of companies, not limited to firms using high technology (Fig. 4, according to 1997).

The dynamics of venture capital investments in the Western European market indicates a long-term growth trend, which has accelerated sharply in recent years (Fig. 5). In 1997, compared with the previous year, venture investments in this region increased by 42%.

The potential of venture capital markets in Central and Eastern Europe

The CEE countries are still far behind the Western European countries in terms of the level of development of the venture capital market. Risky investments made possible by the liquidation of the Iron Curtain were often undertaken in conjunction with mass privatization. At the initial stages of the transformation of the economy, there were no institutions with the capital and know-how necessary for the implementation of venture capital investments by methods standard for Western countries.

While the first investment was made, it was mostly done in the traditional form of credit, often without proper prior analysis. Many of the problems that banks in the Czech Republic and other economies in transition face today have resulted from the use of inefficient financial instruments for venture capital investments. However, most experts agree that the venture capital market in the CEE countries has great potential for further growth. This is primarily due to the need to create a developed information and distribution infrastructure.

In general, the penetration of foreign venture capital investors into the CEE market is caused by both external reasons (the departure of investors from problem regions, for example, from Southeast Asia, diversification of the investment portfolio), and internal reasons related to the attractiveness of this region for venture financing. In the latter case, we are talking about the following factors:

1. The transition of the CEE states to a new stage of economic transformation. The process of restructuring enterprises has begun. After formally carried out privatization to some extent, real owners begin to appear. In parallel with this, unviable economic conglomerates are disintegrating, new structures are emerging. Venture capital investments are required to develop and expand the scale of newly created companies.

2. Improvement of legal norms and rules of trade. Gradually, with varying intensity, the process of improving the capital market and legal support is gaining momentum. It seems that in the near future the necessary legal norms and trade rules comparable to those adopted in developed countries can be put into effect.

3. The emergence of a new generation of managers. Since 1989, millions of entrepreneurs have sprung up in the CEE countries, most of whom have limited their activities to small, local enterprises or eventually ceased their activities. Nevertheless, a significant part of the representatives of this group survived. Over the past 10 years, these people have learned to act in a changed environment and formed a new entrepreneurial elite, which has become a positive factor in attracting foreign investors.

Over the next 20 years, with a stable political climate in the CEE countries, the venture capital market will develop at an accelerated pace.

At present, it is not possible to obtain aggregate data on venture capital investment in the CEE countries. On the basis of information that has appeared in the press, it can be assumed that in the recent period the volume of such investments on average per year is 160-200 million ecu (with the exception of countries that were formerly part of the USSR). Given the growth of venture investments in Western Europe over the past three years, it should be expected that a wide field of activity for such investments will open up in the future in the CEE countries.

Potential opportunities for investing venture capital in this region can be indirectly judged from the available data on the territorial distribution of US venture investments outside the American continent in 1997 (Fig. 6). They indicate that 61.2% of all investments were directed to Western European countries, and only 0.9% to Eastern European countries, while actual investments in CEE were significantly lower than contractual indicators. This indicates, on the one hand, the absence of a sufficient number of objects in the region that are attractive for foreign investment, and, on the other hand, the great potential for venture financing.


Based on the foregoing, we can conclude that the scope of venture financing in the CEE countries will gradually increase. The expansion of this area of ​​activity is inextricably linked with the increase in the export of goods. Upon completion of the initial stages of development, implemented within the domestic market, enterprises producing modern and attractive products for customers, all will be more export oriented. This opens up favorable prospects for foreign trade firms, which, through cooperation with venture capital funds, can achieve a cumulative effect that brings profit to all participants.