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EStIF 2 | 2014 153Comparing Different Promotional Instruments

Comparing Different Promotional Instrumentsin the Ex-ante Assessment and Evaluation

Matthias Kollatz-Ahnen*

In this article a model is presented to compare a wide range of promotional instruments in-cluding Financial Instruments (FI) supported by the European Structural and Investment(ESI) Funds.The model is based on three elements, which are already developed and widely used andbrings the result together in one formula. The model is applicable e.g. to low-interest loans,quasi-equity and equity instruments, their respective grace periods (repayment-free years),extended tenors (maturities), indemnities, as well as to tax exemptions and grants. It alsoincludes the special cases of revolving funds. In addition, the model can depict the admin-istrative costs as well as the re-financing advantages where appropriate. It fulfills the spe-cial requirements for ex-ante assessment for financial instruments co-financed by ESI Fundsin respect to value added, multiplier and leverage as required by the EU regulations for the2014–2020 programming period.The model is robust and easy to implement, and supplies funding recipients, funder andfunding intermediaries such as development banks with the information they need for deci-sion-making purposes.

I. Introduction

The new financial perspective 2014–2020 comes withsome new approaches, such as a stronger emphasison financial instruments (FI) and a more regulatedapproach on how to plan FI support schemes. TheFinancial Regulation (FR) from 2012 and its rules ofapplication (RAP) establish a hierarchy of levels ofsupport addressing thereby market failures or sub-optimal investment situations. The support at re-gional level ranks first and is followed by the supportat the national level. A FI at EU level is justified on-ly, if it addresses the financing needs more

appropriately. Nevertheless, the regional FIs includethose supported by ESI Funds.1

FIs in all sectors supported by EU budget shall beimplemented only if a successful ex-ante evaluationis being carried out prior to their implementation.This evaluation should demonstrate that the choseninstrument is the most efficient to deliver the EU ob-jectives. Thus, a comparison with other FIs or otherpotential FIs approaches is necessary to identify themost efficient way ahead.

This new approach as regards to FIs at the EU lev-el has some general impact on national or regionaldevelopments as well. As part of the State aid mod-ernisation framework Directorate-General for Com-petition (DG Compatition) had introduced an ex-anteor where appropriate ex-post evaluation of risk fi-nance measures.

The new Guidelines on State aid to promote risk fi-nance investments (Guidelines on Risk Finance) makean ex-ante assessment even a requirement for a notifi-cation: “The risk finance measure must be establishedon the basis of an ex ante assessment demonstrating theexistence of a funding gap affecting eligible undertak-ings in the targeteddevelopment stage, geographic areaand, ifapplicable,economicsector.”2Asimilarapproach

* Dr Matthias Kollatz-Ahnen, Senior Expert at PwC since mid-2012,specialising in State and development bank promotion pro-grammes, the expansion of new development banks, ESI Funds,EU regional programmes as well as EU competition law andpublic finances; Vice President of the European Investment Bank(EIB) (2006-2012).

1 In the FR and RAP the ESI Funds are called CSF Funds (Article224 of RAP in combination with Article 140 FR). See: EuropeanCommission, Financial regulation applicable to the general bud-get of the Union and its rules of application (March 2014: synop-tic presentation).

2 Recital 64 of Communication from the Commission – Guidelineson State aid to promote risk finance investments (OJ C 19,22/01/2014).

EStIF 2 | 2014154 Comparing Different Promotional Instruments

is required for fiscal measures such as tax-incentivesfor risk finance. The Guidelines on Risk Finance makefurther a direct link to the ESI Funds, stating that“where the risk finance measure is financed partiallyfrom the European Structural and Investment Funds,the Member State may submit the ex ante assessmentprepared in accordance with Article 37(2) of the Com-mon Provisions Regulation (CPR), which will be consid-ered to meet the requirements set by these Guidelines.”3

What are the concepts and the to-do lists of theex-ante evaluation or assessment? The descriptionof the concept differs a little bit across the differentdocuments and develops with their date ofpublication.

The Common Provisions Regulation (CPR)4 pro-vides the most detailed set of rules. Firstly, the CPRmake a difference betweenex-anteevaluations of pro-grammes (Article 55), a rather high-level exercise,and ex-ante assessments of FIs (Article 37), which ad-dresses a specific instrument of a programme andgoes more into the details including the value addedand the leverage of the FI. A common set of featuresin this regard is the check of the internal coherenceof the envisaged activities, the quantification of im-pact and results as well as the comparison with andthe check of the relationship with other activities inthe same field.

But Article 37 is more specific, stating that theex-ante assessment requires “an assessment of theadded value of the financial instruments that are be-ing considered for support from the ESI Funds, consis-tency with other forms of public intervention address-ing the same market, possible State aid implications,the proportionality of the envisaged intervention andmeasures to minimise market distortion.”

This article presents a model on how to considerand assess the value added of FI in a systematic andquantifiable way. The model presented below isbuilt upon three elements. It is able to describe notonly one single FI, but it also allows a systematiccomparison of different FIs, as well as, within thesame system, a comparison with grants, fiscalschemes, soft loans and guarantees subsidised bygrants, and a combination of all these elements.Such a comparison may be helpful for differentschemes aiming at the same or a similar objective.As such, the model brings all results together in oneformula. The higher the result computed the betterthe performance of the promotional supportscheme.

The formula is composed out of three elementsto be multiplied, the first describing the intensity ofthe promotional support and thus the monetarytransfer in form of a present value, the second themultiplier between volume of the promotion andthe investment volume and the third the targetachievement and thus the accuracy to achieve theobjectives.

The impact of support is described using a linearcombination of business and impact-oriented para-meters. This makes it possible to measure and com-pare the performance of various public sector pro-motion approaches and provides a rational basis fordecisions on selecting the best FI – as required forthe ex-ante assessment (see Figure 1).

II. A Standardised Quantificationand Comparison of the PromotionEfficiency and PromotionPerformance of Different PromotionInstruments: The Formula

In the following, the individual elements of thismodel are being described in detail.In this context, it seems important for analyses torender the various promotion measures, namely– Tax-related measures (tax concessions or

exemptions);– Grants;– Subsidised loans or subsidised guarantees (which

are considered as grants under the EU FinancialRegulation if the rate of subsidy is ex-ante fixedfor the tenor of the instruments); and

– Revolving financial instruments of the differentkinds (loans, guarantees, quasi equity, equity)

as comparable and as much standardised as possibleand to conceptualise them in conjunction with theirfinancial leverage and funding impact. This supports

3 Recital 66 of Guidelines on Risk Finance (see Footnote 2).

4 Regulation (EU) No 1303/2013 laying down common provisionson the European Regional Development Fund, the EuropeanSocial Fund, the Cohesion Fund, the European Agricultural Fundfor Rural Development and the European Maritime and FisheriesFund and laying down general provisions on the European Re-gional Development Fund, the European Social Fund, the Cohe-sion Fund and the European Maritime and Fisheries Fund andrepealing Council Regulation (EC) No 1083/2006 OJ L 347,20/12/2013.


or in some cases actually enables rational decision-making. To achieve this aim, promotion efficiency ispresented in a formula whereby it increases in linewith the investment volume achieved by a givenfunding stimulus (subsidy element).

The value for promotion efficiency identified bythe following equation is standardised anddimensionless. The funding volume (in €) and the(dimensionless) funding multiplier are componentsof the formula. Promotion efficiency (PE) is convert-ed to promotion performance (PP) by introducingperformance against targets (PT), with a value of 1assigned if all targets are met.

One advantage of the method applied here is thatthe individual funding product at micro-level (e.g., apromotional loan) inputs cumulatively into thepromotion programme or group of promotion pro-grammes at macro-level.

If

VolInv = investment volume triggered by thepromotion programme

PVnorm = present value of promotion (with astandardised value between 0 and 1, 1 corresponds togrant)

VolFnom = nominal programme funding volume PT= performance against target (1 all targets met, 0 alltargets missed)

PEnorm = promotion efficiency (standardiseddimensionless value)

M = multiplier (nominal and effective)PPnorm = promotion performance (standardised

dimensionless figure),

it produces the following formulae combining all threeelements resulting in the promotion performance:

Figure 1Source: Adapted from PricewaterhouseCoopers (PwC) (Ed.) Trade & Finance - Winter 2013/2014 (January2014) p. 5.


The second element can be summarised as adimensionless multiplier:

The first and the second element can be sum-marised as a dimensionless value describing thequantitative efficiency of the promotion:

Combined with the third element we come againto the comprehensive formula of (1a) expressed in adifferent form:

Where there are multiple options, promotion ef-ficiency (PE) appears to be the best criterion for se-lecting the most favourable instrument to maximisethe investment achieved. The whole picture comeswhen in addition the performance against a target istaken into account.

Taking the following example (as illustrated inFigure 2):– €2 billion in public funds are provided for an en-

ergy efficiency programme ;– The intermediary funding institution deploys it as

a grant element to reduce the interest rate, gener-ating a total of €10 billion in long-maturity loansof 12 years tenor (credit period), so the present val-ue of promotion (PVnorm) is 0,2;

– Since the loans cover 50 % of the planned invest-ments, €20 billion of investments are triggered(VolInv ) and

– 5 % of investments are not used for energy effi-ciency purposes (value based on experience fromprevious programmes), so the performanceagainst target (PT) is 0,95.

The promotion performance (PP) is:1/0.2 ∙ 2 ∙ 0.95 = 9.5.The promotion efficiency (PE) is:1/0.2 ∙20/10 = 10.The funding volume seen from the standpoint of the

state budget is:0.2 ∙ €10 billion = €2 billion.

As a result, each euro financed from taxpayers’money triggers €10 of investment of which €9.50 isin the targeted sectors. The promotion efficiencyshows the 10 € and the promotion performance theinvestment in the targeted sectors.

III. The Combination of the FundingElements at Present Value – The FirstComponent of the Formula

1. Financial Instruments with Liquidity(Funded FIs)

The effective funding volume of a grant is equal (dis-regarding administration costs and applicant’s fees)to the amount of funding. The subsidy value is 100%,so weighting with the present value of promotionproduces 1.0. Present values of any other financialtool can in principle be used to identify the mone-tary advantage comparing against market instru-ments and their respective market values.

A linear (and thus simplified) model of presentvalue calculation can be deployed usefully in promo-tion programmes in order to– make different funding products and promotion

programmes comparable, and– analyse, develop or construct different compo-

nents cumulatively within a promotion pro-gramme in a straightforward way.

Where support is provided in the form of loans, the“promotional loan” plays an important role. It has(i) a lower interest rate than comparable loans in themarket or (ii) provides repayment-free years (graceperiod) or (iii) features longer maturities than areavailable in the market or (iv) contains guaranteecomponents (risk transfer elements/underwriting)for third-party financing – to name just a fewexamples.

If cross-comparison – and, where necessary, cumu-lation – of the respective promotional componentsis required, one option is to use the present values ofthe promotional components as a reference. A typi-cal value for each individual funding component canbe identified and quantified using discounted cashflows from the market loan on the one hand and fromthe soft loan on the other hand. If we disregard


second-order effects and non-linear impacts combin-ing different funding elements can be seen as the lin-ear superimposition5 of the individual elements. Byemploying a uniform standard to quantify the fund-ing elements, the method enables the funder and/orthe development bank to achieve comparability andthus control of the programme. If required, new ele-ments can be added or deleted relatively flexibly toreflect changes in funding objectives or the econom-ic environment.

The following examples present various financialinstruments which can be offered separately or com-bined and reflect their present value of promotiondepending on the scope of funding involved, theirtype and durability.

Example 1: Promotional interest rate

If base lending on the market attracts maturities often years with repayment in proportional instal-ments and an interest rate of 5 %, applying the max-imum promotional component of a 0 % interest rate,loan produces a present value (PV) of promotion of0.24 of the soft loan6, while a 2.5 % interest rate(i.e. half the base rate) produces a present value (PV)of promotion of 0.12. Some countries have low-inter-est funding programmes at support rates of 1 per-centage point below market, which here correspondsto a present value (PV) of promotion of 0.05.

5 The breakdown of the promotional programme into the differentcomponents results in a simple addition of the respective presentvalues. The order of composition and decomposition does notplay a role in a linear or linearised model. Nonlinear effects suchas higher Taylor polynomials are small and therefore neglected.

6 For each year the cash flow to pay the interest rate (i) in themarket case and (ii) in the promotional case is considered. Thedifference gives the promotional element. The promotionalvalue is calculated with discounting these differences to thepresence.

Figure 2Source: Adapted from PricewaterhouseCoopers (PwC) (Ed.) Trade & Finance - Winter 2013/2014 (January2014) p. 9.


Example 2: Grace periods

Normally, the market does not offer repayment-freeyears. These so-called grace periods can make repay-ment easier as the investment is supposed to createrevenues. Particularly for new small and medium en-terprises (SMEs) such grace periods are important,where returns only start to kick in around three yearsafter a new company has been set up. Although inpractice repayment-free years frequently go hand inhand with low-interest lending, their value of promo-tion can be determined in isolation using the pro-posed methodology since payment flows are de-ferred while loan maturity remains unchanged.A three-year grace period corresponds to a presentvalue of promotion of 0.06 leaving the other parame-ters of Example 1 unchanged.

Example 3:Extension of maturity

Tenors (maturities) are frequently extended to offerfunding recipients greater financial stability. This isparticularly significant in countries where the localbanking system does not offer long maturities, whichmakes it difficult to produce reliable investment cal-culations. The analysis shows that extending tenorsgenerally involves a small funding component. In theexample selected here, a three-year extension wouldlead to a subsidy value of 0.0145.

These examples illustrate the comparability of thevarious funding components and the optimisationpossibilities with respect to the desired effect.To give an example for this kind of optimisation:Based on the assumptions made here, the combinedpromotional impact of extending a maturity by threeyears while simultaneously granting three repay-ment-free years has a present value of promotion of0.07. Such subsidy intensity is roughly equivalent toan interest reduction of 1.5 percentage points if theloan structure remains unchanged. Whenever over-all access to lending, particularly at longer maturi-ties, is a bottleneck for SMEs, the funder would beable to marshal good arguments for proceeding witha combination of longer maturities and repayment-free years, which puts less strain on the budget thanreducing interest rates at the same value ofpromotion.

Revolving funds represent a special case as returnson loans or equity investments are re-used for new

disbursements. If this applies continuously to re-turns on lending, the promotional present value (PV)of the programme increases considerably while thePV of the individual loan remains unchanged.

Example 4: Revolving promotional loans

As in the first example, we assume a loan with pro-portional repayment and with a 0 % interest rate.The repayments in the first year are re-granted in thesecond year and so on. The present value of promo-tion of the individual loan remains 0.24 but the fund-ing volume increases due to the returns from thelending being redeployed. In an ideal funding poli-cy case without defaults, all loans are repaid and, as-suming repayments of 10 % per year, this means anadditional disbursement of 10 % is made in all futureyears, which is equivalent to a constant annuity val-ue that is twice the original volume.7 Structuringlending as a revolving fund therefore produces atriple promotional effect. The first 0.24 come withthe first generation of lending and its present valueof promotion, the further effect of 0.48 is twice ashigh and comes with recycling after the repayment.The total present value of promotion is summed upto 0.72.

2. Financial Instruments withoutLiquidity (Unfunded FIs)

There is a long tradition of unfunded products, par-ticularly in the form of warranties and guarantees.This class of products requires liquidity only if liabil-ity is incurred and the guaranteed volume becomesdue. The use of so-called first-demand guarantees iswidespread and the simplest to model. In these cas-es, the guarantee comes into effect immediately oncea default is triggered by covenants agreed upon inadvance.

In the case of warranties, the value of promotionof the warranty is generally split on a basis that canbe calculated approximately from the aggregatedprobability of default, taking into account both

7 The present value of perpetuity of 10% of the original loanvolume V and a discount rate of 5% is 0.1V/0.05=2.0V. Lookingat the promotional present value of this additional lending vol-ume (in real terms) results in 0.48.


expected and unexpected losses over the warrantyperiod. The practice has shown thus far that the val-ue of promotion accrues partly to the borrower’sbank (whose risk costs thus fall) and partly to thecompany receiving the funding (which thus payslower interest). In warranties of federal states com-mon in Germany (”Landesbürgschaften”), guaran-tors normally attempt to achieve a considerable re-duction in interest. However, in most cases, a com-promise is achieved whereby a considerable portionof the value of promotion is transferred to the bor-rower’s bank. Here it should be kept in mind that(i) without a warranty the entire loan is at risk and(ii) these warranties are not first-demand guaranteesand so the guarantor will not pay by a simple pay-ment demand from the borrower’s bank once a de-fault occurs, but only once securities have been re-covered and any proceeds from bankruptcy proceed-ings have been secured.

Where values of promotion are calculated basedon the probability of default – as is typical in un-funded products such as these – the portfolio effectcan also be taken into account in a more sophisticat-ed version of the model. The risk of a well-diversi-fied, granular portfolio is lower than the risk of anaggregated volume of the individual warranties. Thiscreates a different added value for the funding fromthe client’s perspective, for whom it remains un-changed, and from the funder’s perspective, forwhom the funding input may be reduced as a resultof the funding institution assuming and/or mana-ging the portfolio. Since the equation describedabove (chapter II, formulae 1a–d) views this from aperformance side (client perspective), its values re-main unchanged. The perspective of the funder canbe described in another similar equation (which isbeyond the scope of this article) showing the reducedbudgetary spending in present value of promotion(PV) terms.

Example 5: Innovation loans

If the funder (e.g., a State) guarantees the promotion-al institution a specified portion of each individualloan as part of a lending programme, e.g., 50%, itwill result in a total probability of default that canbe aggregated based on the level of risk in each indi-vidual loan and the lending volume. If, however, thefunder guarantees the funding institution the first

20% of a default on the total portfolio, this has thefollowing effects: (i) The promotion programmemay be diverted into lower risk range, depending onhow the 'first loss piece' is evaluated; if there is avery low probability of the default exceeding 20 %,the portfolio may be rated AA or AAA by the fund-ing bank; (ii) the funder may find itself in a situa-tion where its total probable liability for losses ishigher since it is 100% rather than 50% liable withrespect to the first defaulting loans, but its liabilityis in turn limited to 20% of the total portfolio ratherthan 50%. In many cases, the 'first loss piece' can beselected so as to produce a situation that will be moreadvantageous for the state as well as the fundingbank.

The key to ensuring comparability of the variousfunding elements lies in identifying the present val-ue (PV) of promotion throughout the course of thepromotion programme’s life cycle. It should be iden-tified when the promotion programme is plannedand/or the individual funding measure is approved,and should adopt the perspective of the funding re-cipient, the end client.

IV. Identifying the Investment Multiplierat the Various Funding Levels – TheSecond Component of the Formula

The leverage effect of the promotion, or the invest-ment multiplier it triggers, is a key criterion for de-ciding which funding instrument to select. Leveragelevels are directly proportionate to support efficien-cy: The promotional efficiency (PE).

However, efficiency may change over time and de-pending on the location. In times of crisis, leverageeffects will usually be lower than in phases of eco-nomic prosperity; nevertheless, funding may then beparticularly crucial in triggering any investment atall. The tension between investment leverage andfree-rider effects is factored into the measure de-scribed in chapter V, performance against targets. Ifleverage effects are set too high, this may mean thatthe incentive effect is only small and the proportionof projects with free-rider components increases.

'Leverage' is used often in a broad understanding.As the CPR has decided for a very precise and nar-row definition, multiplier and leverage have adifferent meaning and form different subsets of thequantitative value added.


1. Determining the Quantitative ValueAdded

In recent years, development banks have madeefforts to develop a more transparent and clear wayto present promotion performance by using a multi-plier calculation which is sometimes also termed'leverage effect' or 'quantitative value added'.8

Three difficulties have to be addressed:– Is the whole investment taken into account, or is

the calculation based on the external financialcomponent of the investment only?

– Are all public contributions taken into account toassess the public contribution and the element ofpublic subsidy, or is the calculation based on thecontribution of one public level only?

– Is the revolving in the future taken into account?

A careful approach to modelling is required here.If the EU, the national authorities and a region eachaward a 10% grant for funding innovation projectsto the same portfolio of €100 million (at each levelthere is a budget of €10 million provided), and allthree levels report that they have achieved a leverageeffect of 10, this would suggest, that €270 million inadditional private sector investment had been as-signed for innovation projects, although the actualprivate sector contribution was only €70 million. Asa matter of fact €30 million out of €100 million totalinvestment was provided by public sources, the realmultiplier being 3.3 instead of 10.

In order to increase comparability with grants, itis best to base the multiplier on the total investmentin the project (in the case of project funding, thisshould include the equity provided by the project pro-moter) and not just the portions covered by the loan.Grant programmes are in many cases designed tocontribute to or to replace an equity contribution oth-erwise expected by the promoter of the project. Themultiplier is therefore better described by consider-ing the total funding costs of the project.

In order to prevent double counting, therefore,the adopted perspective must be clear. Generally, thebest option is to identify the multiplier for the endfinancial product. This refers to the perspective ofthe funding recipient/beneficiary and the whole in-vestment volume, not the perspective of the individ-ual contributing institutions and the external fi-nance only. With this approach a quantitative valueadded can be defined and used in the model and the

ex-ante assessment. A FI motivating final recipientsto contribute significantly with own funds to invest-ment can achieve a good value added, even if exter-nal finance was small or zero. With this approachthe ex-ante assessment can fully analyse the factsneeded for State aid notification or the exemptionsof notification, as the contribution of other publicsector parties are not neglected, but taken intoaccount.

For cooperative financing by multiple funders ina multi-stage process, funding impacts should be ag-gregated on a linear basis. In practice, cooperation ismore common on individual projects and tends notto involve entire promotion programmes. However,one of these rare cases is when Germany’s develop-ment bank, the Kreditanstalt für Wiederaufbau(KfW), combines its promotional facilities with theadvantage of an interest subsidy in a regional pro-gramme – and if applicable with a lower refinancingadvantage of the respective regional promotionalbank.

This quantitative value added is not anymore iden-tical with the leverage.

2. Determining the Leverage

In respect to the leverage a discussion between dif-ferent EU bodies took place during the preparationof the new financial perspective. In the SpecialReport 2/2012 on FIs for SMEs co-financed by ERDF,the Court of Auditors (CoA) developed a calculationscheme for leverage expressed as “Finance to final re-cipients divided by Public contributions”. The Com-mission calculates leverage as “Finance to final recip-ients divided by EU contribution”.9

If we compare it with what was already explainedabove, the CoA wants to avoid double counting of theactivities of the different budgetary levels (or at thesame level with different promotional programmes).

8 For example, the European Investment Bank (EIB) and the Euro-pean Investment Fund (EIF) have developed a common methodol-ogy for identifying quantitative (and in some cases qualitative)parameters for the leverage effects. This is presented, for example,in EIF (ed.), EIF Leverage Methodology (January 2011, unpub-lished).

9 European Court of Auditors, Financial instruments for SMEs co-financed by the European Regional Development Fund (SpecialReport, No 2/2012) p. 37.


The Commission wants to highlight the EU valueadded. Both EU institutions take the finance 'to' therecipients, but do not count the contributions of therecipients with internal finance.

In quantitative terms the results are the following:– Leverage in this definition expresses other exter-

nal finance to the recipient outside of the ESIFunds.

– If the FI is the same, but different co-financingpercentages exist in different EU regions, the lever-age is different; the leverage is higher where theEU co-financing rate is lower.

– If the investment is the same, but the contributionof the recipient is different, the leverage is differ-ent; the leverage is higher where the contributionof the recipient is smaller.

The leverage as defined in the Financial Regulationdoes not take into account revolving in the future.The CPR goes a little bit further looking at the 'longtail' of the FI after the eligibility period and recyclingof repayments during the eligibility period, too. TheCPR gives priority to the utilisation of repayments,interest revenues and gains within the eligibility pe-riod to cover the costs and expenditures for the ap-proved and outstanding financial tools after the eli-gibility period. Additional expenditures for purpos-es of the FI are possible as well. Relevant for the lever-age in the definition of the FR is additional expendi-ture during the eligibility period only.10

The leverage in the understanding of the Commis-sion was defined in the Rules of Application of theFinancial Regulation and forms a subset of the quan-titative value added as described above. Thus, firstlythe quantitative value added is calculated accordingto the model and used for the ex-ante assessment ac-cording to CPR Article 37 (2) (b), secondly theleverage forming a subset of the quantitative value

added can be easily determined and used for the ex-ante assessment according to Article 37 (2) (c).

3. Determining the Multiplier

For the financial perspective 2014 – 2020 the CPRuses a specific approach for guarantees. TheDelegated Act11 mentions a multiplier, but this mul-tiplier is again not exactly the same as the leveragementioned before or the quantitative value added.The Delegated Act takes into account the specific riskof unfunded FIs and asks for a 'prudent' ex-ante as-sessment to determine a multiplier ratio of money tocover losses in the future and the guaranteed volumeof new loans or other financial tools such as equity.This multiplier does not include other financing tothe final recipient.

In practical terms not only the expected loss hasto be calculated, but the unexpected as well. And ifa range of losses is considered a prudent approachtakes not only a base scenario in consideration, buta more averse one, too. The quantitative value addedcan be obtained relatively easily in two steps. Thefirst step is based on the ratio of nominal investmentvolume to the guaranteed or warranted volume ofthe underlying equity or loan products. The secondstep is calculated from the ratio of the budget setaside to cover losses divided by the guaranteed orwarranted volume.

One measure used quite frequently in promotion-al transactions to limit the risk for the funder involvessetting an upper limit on risk-taking within a portfo-lio. These products can, for example, be designed sothat 50 % of an SME portfolio is guaranteed up to alimit of 10 % of the portfolio.

For the sake of simplicity, we take in the model theupper limit (or cap) for calculating the multiplier of10. The multiplier will only increase if it is likely thatthe cap will not be reached. As defined by this mod-el, it is then essential to identify the occurrence prob-ability within the envisaged portfolio. If totalling theexpected and unexpected risk including a prudentapproach across all planned lending only produces avalue of 5 %, it is likely that only half of the guaran-tee within the portfolio will be utilised. In this case,the multiplier would be 20 rather than 10. If the loanto the SMEs covers 50 % of the investment the resultfor the quantitative value added is twice as high asfor the multiplier, i.e. 20 in the first case and 40 in

10 Article 44 (1) (a) of CPR (Footnote 4).

11 Article 8 of Commission Delegated Regulation (EU) No 480/2014of 3 March 2014 supplementing Regulation (EU) No 1303/2013of the European Parliament and of the Council laying downcommon provisions on the European Regional DevelopmentFund, the European Social Fund, the Cohesion Fund, the Euro-pean Agricultural Fund for Rural Development and the EuropeanMaritime and Fisheries Fund and laying down general provisionson the European Regional Development Fund, the EuropeanSocial Fund, the Cohesion Fund and the European Maritime andFisheries Fund OJ L 138, 13/05/2014.


the second case where the expected and unexpectedrisk is supposed to be 5%.

4. Revolving Funds

Particularly at the European level, revolving fundsare gaining in importance in all major funding bud-gets, including regional, innovation and agricul-ture.12 This goes hand in hand with the opening upof promotion with financial products (e.g., loans withand without interest subsidies, guarantees, mezza-nine funding, private equity finance, conditionallyrepayable funding). To ensure that decisions aremade on a rational basis, a suitable benchmark cov-ering all these instruments is required.

The crucial factor here is how the revolving fund-ing element can be quantified and thus made evi-dent. Without this, funders will either be obliged torevert to a merely qualitative analysis or the use ofinterest-rate subsidies (paid as a grant element) tomaximise leverage effect. Without a robust quantita-tive analysis of revolving effects for the quantitativevalue added soft-loans created by grants will practi-cally always be prioritised over structuring them asa revolving loan. For this quantitative analysis 'valueadded in the future' is considered and in addition tothe 'value added at present'. The present value ap-proach is again useful here.

As explained above in Example 4, the effect of re-granting is expressed in the form of future fundingflows generated from the funding product itselfwhich have no impact on the budget. These futurefunding flows must be expressed (in cash terms) asa proportion of the original funding volume of thepromotional loan or of the promotion programme.This proportion then forms the quantitative valueadded generated from the formation of the revolvingfund. In the example above 10% of the original lend-ing volume V is repaid each year and recycled fornew lending. The calculation of perpetuity of 0.1Vwith a discount rate of 0.05 (5%) results in 2.0 V. Inaddition with the original first lending of 1.0 V thetotal lending discounted to the present results in3.0 V.

Divergent systems that generate unlimited fund-ing volumes do not generally emerge. To some extent,default rates and administrative costs form naturallimits. Funds with nominal growth can be importantin practice. But they do not cause any difficulty. In

most of these cases, the priority is to ensure the fund’sactual intervention capacity and so to assume thatgrowth will proceed roughly parallel to the inflationrate. Here the right targets are those set relative tothe assumed long-term inflation rate or based on in-flation-adjusted intervention capacity.

V. Recording Dispersal Losses, Free-riding Effects or Exceeding Targets –Performance Against Targets as ThirdComponent of the Formula

An approach for so-called impact investing was re-cently developed to complement the Capital AssetPricing Model (CAPM). This model is frequently usedto calculate the financial return on investments inventure capital expected before the investment is ac-tivated.13 The model involves multiplying the resultof the CAPM equation by a coefficient of 1 where ex-pectations are met, less than 1 if expectations are on-ly partially met, and more than 1 if they are exceeded.

For the approach described here, a coefficient be-tween 0 and 1 is sufficient for planning promotionprogrammes and ongoing reporting, with 1 repre-senting a promotion programme that is completelyon target. The coefficient is reduced to take accountof any free-riding effects, i.e., the proportion of cas-es where funding is taken up but which would alsohave occurred without the funding. The coefficientcan also be reduced if the interests of the intermedi-aries involved do not wholly coincide with those ofthe funders. Finally, such a coefficient could also beunderstood as a factor representing the qualitativevalue added of a FI. It allows comparing with otherFIs and other financial support schemes – and onlythe combination of all three elements, the qualitativeone, the quantitative one and the needed intensity ofsubsidy delivers the final ranking. Therefore, a FI canbe selected which has a lower coefficient in the plan-ning phase than 1.

In an ex-post report, typically an evaluation, fund-ing targets may be exceeded or not fully met.

12 See, for example, the guidance document on financial instru-ments under the European Agricultural Fund for Rural Develop-ment (EAFRD) in the programming period 2014–2020 (draftversion, July 2013).

13 Cf. Uli Grabenwarter, Heinrich Liechtenstein, In search of gamma– an unconventional perspective on Impact Investing, (IESE Busi-ness School, without date, published 2011).


The case of an over-performance could be reflectedin a figure for the coefficient during evaluation thatis greater than 1.

The following example serves as an illustration ofthe above:– For residential new-build projects, the present val-

ue of promotion per planned new resident is aplausible target and would appear to be superiorto other potential measures such as the number ofresidential units. New-build is the best path whenthe particular aim is to meet the residential needsof low-income households. Lending volume perperson is identified at the programme planningstage. Projects which have higher funding require-ments per resident are assigned a lower perfor-mance against target. The investment initiated inthe two projects might be the same. For example,if the funding requirement is 20 % higher per fu-ture resident all other parameters being equal, thecoefficient is reduced from 1.0 to 0.83.14

– If an ex-post analysis discovers that fewer (ormore) persons than originally planned move intothe housing, the coefficient is reduced or increasedaccordingly.

– If modernisation and CO2 savings are set as a dualtarget, and both targets are set at the same weight-ing, for example, one target could be expected tobe 85 % met and the other expected to be 95 %met, the coefficient would result to 0.9.

This performance coefficient must be specified whena reporting system on promotion performance is setup by the funder. Explicitly defining the target or tar-gets is not always easy in practice, but enhances pro-gramme quality.

It can be useful to compare promotional fundingas a budget support instrument against tax exemp-tions. In funding terms, tax concessions are equiva-lent to grant entitlements for the grant recipient. Onefeature of this instrument is that the administrationor development bank cannot review performanceagainst targets and so there is a risk of high disper-sal/free-riding effects occurring. It is even possiblethat over-funding occurs. For example, tax measuresdesigned to promote the construction of residentialproperty following German unification led to high

volumes being spent in Eastern Germany, despitethere already being an over-supply.

The consideration of a performance against targetmeasurement means de facto that the investmentperformance achieved by the funding is weighted.Investments that are 100% target-oriented produce avalue of 1.0; investments with 10 % losses from dis-persal effect a value of 0.9. Free-riding effects andany amounts deducted from funding elements by in-termediaries trigger deductions from the value 1.

VI. Inclusion of Administrative Costs

The promotion efficiency measure identifiedthrough equation described above (chapter II, for-mulea 1a–d) does not yet include administrative costs(AC). There are a number of different methods thatcan be used to reflect these. One intuitively plausiblemethod is to subtract them from the present valueassigned for the promotion programme, e.g. from thebudget. The calculation proposed here is generatedfrom the perspective of the funder, promotional bankor promotional agency. The direct economic effectsof a promotion programme are the product of thepresent value (PV) of promotion for the client minusthe administrative costs, which must be reimbursedto the development bank by the funder (where fund-ing covers all costs) or be provided by the develop-ment bank itself in the case of in-house programmes.The equation therefore with:'AC' for administrative costs,'i' the discount rate of interest, and't' the point of time (number of years)is:

PVnorm from equation (1a) is a gross value. It trans-forms into the net value with the deduction of theadministrative costs for each year of the envisagedlifetime of the promotional programme.

The Delegated Act develops a slightly differentmethod for the new financial perspective.15 The ad-ministrative costs are part of the gross budgetintervention as described above, but no transforma-tion in a present value (PV) takes place, when upperlimits for aggregate amounts of management costsor fees are defined. If the discount rate is low and the

14 0.83 * 1.20 = 1.00

15 Article 13 (3) of the Delegated Act (Footnote 11).


time horizon under consideration is short, the resultwill not differ very much from the more precise cal-culation of the equation above. However, when theadministrative costs of the FI’s 'long tail' after the fi-nancial perspective are considered, the present val-ue (PV) determines the budget to be set aside.16

The more systematic approach is certainly to goalways with the discounted costs. As the stream ofcosts is not always uniformly distributed the compar-ison between different FI is more reliable.

With reference toFigure2, the illustration can nowbe expanded as presented in the Figure 3. .

The practical difficulties encountered here are thatadministrative costs are (or at least can be) incurredover the whole term of the financial product. In thecase of loans, a distinction should be made betweenthe following:– Administrative costs during the application

process (which are incurred shortly before or

during the approval and disbursement, usuallytherefore at time t=0);

– Management costs of the stock of credits;– Costs of dealing with problem cases (non-perform-

ing loans, but in an earlier stage watch-list casesas well);

– Costs incurred at the end of the funding process(if necessary with a final report involving the fund-ing recipient).

The costs and revenues related to dealing with prob-lem cases could be included in the risk margins andshould not be considered as administrative costs.

16 See Article 14 (1) of the Delegated Act (Footnote 9): “Capitalisedmanagement costs and fees to be reimbursed as eligible expendi-ture in accordance with Article 42(2) of Regulation (EU) No1303/2013 shall be calculated at the end of the eligibility periodas the total of discounted management costs and fees to be paidafter the eligibility period…”

Figure 3Source: PricewaterhouseCoopers (PwC) (Ed.) Trade & Finance - Winter 2013/2014 (January 2014) p. 19.


In the case of a revolving fund, the situation maybe more straightforward in some cases. If the fundachieves equilibrium – or is close to equilibrium –after start-up period, administrative costs for one re-porting year can be applied as representative of allcosts incurred in future. In this case, it is sufficientto apply the total of administrative costs over oneyear.

In funding practice, administrative costs vary sig-nificantly across the different promotion pro-grammes. There is frequently tension between stan-dardising a programme, which reduces administra-tive costs, and individually approving promotionalmeasures, which ensures more precise targeting butincurs high administrative costs. The formulae (1a–d)and (2) can be used to form a basis for a decision tohelp select the better solution.

VII. Conclusion

The method presented here can be used for a broadrange of support schemes, including further groupsof FIs inside or outside the ESI Funds, e.g. export cred-it, loan-funds, mezzanine-, guarantee- or equity funds.It is capable to show the effect of different fundingsources for one promotional product. In the same veinit can be used to calculate ex-ante the contribution ofan intermediary to the promotional programme inform of refinancing advantages. This is hinted in fig-ure 3 where the promotional value is broken downinto different funding sources (PV element 1 and 2).

A specific strength of the method is the employ-ment of the formula for the different perspectives ofthe final recipient, of the funder and of theintermediary.

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