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Nordic Investment Fund

November 20

Promoting a common Nordic venture capital market

Project participants: Jørgen Kjærnes & Kine Burøy Ianssen, Cubera Private Equity, Norway Christen Estrup & Merete Lundbye Møller, Vækstfonden, Denmark Juha Marjosola & Henri Grundstén, Finnish Industry Investment, Finland Erik Johansson & Carl-Peter Mattsson, Nordic Investment Solutions, Sweden Reference group (Nordic Venture Capital Forum) Anki Forsberg, Partner, HealthCap, Sweden Cecilia Gross Friberger, Portfolio Manager, Sixth AP-fund, Sweden Christian Motzfeldt, CEO, Vækstfonden, Denmark Claes de Neergaard, CEO, Industrifonden, Sweden Petri Niemi, Senior Partner, CapMan, Finland Peeter Saks, Managing Partner, BaltCap, Estonia Tellef Thorleifsson, General Partner, Northzone Ventures, Norway Jón Steindór Valdimarsson, Chairman, New Business Venture Fund, Iceland

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Nordic Investment Fund

Promoting a common Nordic venture capital market

Oslo, November 15, 2006

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Table of Content

1. PROJECT CONTEXT. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7

2. EXECUTIVE SUMMARY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9

3. THE BENEFICIAL NATURE OF A STRONG VENTURE CAPITAL INDUSTRY . . . . . . . . . . . . . . . 113.1. Definition of venture capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 113.2. Venture capital stimulates economic growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 113.3. Investors on the venture capital and private equity markets . . . . . . . . . . . . . . . . . . . 12

4. CURRENT CHALLENGES FOR THE DEVELOPMENT OF A STRONG NORDIC VENTURE CAPITAL MARKET. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 154.1. Introduction to the Nordic venture capital market . . . . . . . . . . . . . . . . . . . . . . . . . . 154.2. A globalized private equity market brings new challenges. . . . . . . . . . . . . . . . . . . . 154.3. The trend towards a common market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 164.4. Narrow national objectives restrict Nordic market development . . . . . . . . . . . . . . . 164.5. Obstacles to overcome for an emerging common Nordic market. . . . . . . . . . . . . . . 17

5. RECOMMENDATION – A NORDIC INVESTMENT FUND . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 185.1. Role and purpose of a Nordic Investment Fund . . . . . . . . . . . . . . . . . . . . . . . . . . . . 185.2. Mandate for a Nordic Investment Fund . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 185.3. The set-up of a Nordic Investment Fund. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 195.4. Financing of a Nordic Investment Fund . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 215.5. Human Resources . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22

6. THE MARKET PLAYERS’ VIEW ON A COMMON NORDIC UNIT . . . . . . . . . . . . . . . . . . . . . . . 246.1. What is the market players’ view on a Nordic Investment fund? . . . . . . . . . . . . . . . 246.2. Public investors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 246.3. Private investors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 246.4. Consensus on the market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25

7. APPENDIX A: THE NORDIC INVESTMENT BANK . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26

8. APPENDIX B: DESCRIPTION OF NATIONAL PUBLIC INVESTORS . . . . . . . . . . . . . . . . . . . . . 288.1. Norway . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 288.2. Denmark . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 288.3. Sweden . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 298.4. Iceland . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 308.5. Finland . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31

9. APPENDIX C: RISK MANAGEMENT FOR A NORDIC INVESTMENT FUND . . . . . . . . . . . . . . . 32

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1. Project contextThe Nordic Council of Ministers has recognized the importance of venture capital and hascommissioned several projects aiming at promoting a highly functional common Nordicventure capital market.

In 2004, Nordic Investment Solutions1 performed a pre-study investigating the obstacles to thedevelopment of such a market. The study was carried out on behalf of the Nordic InnovationCentre, an institution under the Nordic Council of Ministers and one of the areas that wasidentified as central in the pre-study was the lack of pan-Nordic public capital.

In 2005, a project group led by the Nordic Innovation Centre and consisting of both marketprofessionals and representatives from the National Ministries of Trade and Finance lookeddeeper into the issues regarding existing mandates and national objectives for public investors.The conclusions of this project were presented in the report “Recommendations for the Nordicventure capital market” published in November 2005. One of the recommendations made bythe project group was to further explore the possibilities of a common pan-Nordic fundprimarily investing in venture capital funds.

Given this background the Nordic Council of Ministers commissioned a “Nordic InvestmentFund Project” in the spring of 2006. The purpose of this project has been to examine thepossibility and feasibility of creating a Nordic fund of funds for investing in primarily venturecapital funds primarily. The purpose of such a fund would be to invest on market terms insmall and medium-sized companies through private equity funds. Thereby the unit would actas a Nordic complement to the existing national public investors and thus contribute to thedevelopment of a highly functional common Nordic venture capital market. The project wasfurthermore assigned to investigate the potential involvement of the Nordic Investment Bankin such a set-up.

The members of the Nordic Investment Fund Project have a vast experience of the Nordicprivate equity market as well as the public market, and include the following persons.

As part of their broad efforts within private equity the Nordic Innovation Centre hasestablished a “Nordic Venture Capital Forum” composed of leading public and private marketplayers in the Nordic and Baltic regions. The Forum functions as a reference group for existingprojects as well as an advisor regarding potential future projects. The input from the Forum has

1) Nordic Investment Solutions is a Nordic advisory company for the private equity industry.

Nordic Investment Fund Project Company Country

Bjørn Tiller (project owner) Nordic Innovation Center Norway

Jørgen Kjærnes & Kine Burøy Ianssen Cubera Private Equity Norway

Christen Estrup & Merete Lundbye Møller Vækstfonden Denmark

Juha Marjosola & Henri Grundstén Finnish Industry Investment Finland

Erik Johansson & Carl-Peter Mattsson Nordic Investment Solutions Sweden

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been important in the execution of the Nordic Investment Fund project. The members of theForum are:

This report describes the findings and suggestions of the Nordic Investment Fund Project andwill be presented at the Nordic Venture Capital Summit in Oslo on November 15-16, 2006.

Nordic Venture Capital Forum Company Country

Anki Forsberg, Partner HealthCap Sweden

Cecilia Gross Friberger, Portfolio Manager Sixth AP-fund Sweden

Christian Motzfeldt, CEO Vækstfonden Denmark

Claes de Neergaard, CEO Industrifonden Sweden

Petri Niemi, Senior Partner CapMan Finland

Peeter Saks, Managing Partner BaltCap Estonia

Tellef Thorleifsson, General Partner Northzone Ventures Norway

Jón Steindór Valdimarsson, Chairman New Business Venture Fond Iceland

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2. Executive summaryVenture capital is an important engine for economic growth, creation of new industries, newcompanies and employment in the Nordic countries. Furthermore, the venture capital marketattracts international investors to the region. A recent study made by the Swedish VentureCapital Association and Nutek, Swedish Agency for Economic and Regional Growth, showsthat companies backed by private equity funds have increased employment by 7% per yearfrom 1999 till 2004. The average rate for all companies in Sweden is close to zero2. Today,venture capital is recognized as an important driver for economic growth and there are publiclyfunded venture capital investors supporting the national venture capital and private equitymarkets in all the Nordic countries.

Individually, the Nordic countries are not large enough to support a substantial and vibrantventure capital industry. However, combined the Nordic countries constitute a market withglobal competitiveness and comprise a good platform on which to create a common venturecapital market strong enough to withstand international competition3.

Currently, the market faces a gradual movement towards a common Nordic venture capitalmarket, but a lack of dedicated pan-Nordic private equity investors supporting such adevelopment is delaying the process. Other obstacles such as legal and taxation issues, varyingbusiness practices, lack of transparency etc. have to be overcome to facilitate the developmentof an integrated Nordic venture capital market. To speed up the process the Project Grouprecommends the establishment of a Nordic Investment Fund, a common Nordic fund of fundsprimarily for investing in venture capital funds. A Nordic Investment Fund would have theimportant role of driving the development of an integrated, effective and transparent Nordicventure capital market.

A Nordic Investment Fund would function as an important complement to the existing nationalpublic investors as well as to the EIF (European Investment Fund), none of which have thepossibility of having a true Nordic focus. National public investors naturally have nationalobjectives and EIF doesn’t have a dedicated Nordic focus, but has to focus on all of the 25 EUmember states. Further, Norway and Iceland are not members of the EU.

The Project Group believes that the creation of a Nordic Investment Fund will contributestrongly to the development of the Nordic market and facilitate the supply of more venturecapital in the Nordic region. More venture capital managed by skilled managers will lead to thecreation of more growth, more new companies and more employment. Further, it isrecommended that the Nordic Investment Fund is set-up under the auspices of the NordicInvestment Bank, since the purpose of such a fund of funds fits well within the overall purposeof the Nordic Investment Bank and makes it unnecessary to create a new institution4.

A Nordic Investment Fund will invest in funds financing seed and early stage companies aswell as growth, expansion and internationalisation of small and medium sized companies. Thefund will have a strategic role in promoting best practices across the Nordic region, help attractinternational capital as well as have a special focus on new management teams and new

2) www.svca.se/home/page.asp?sid=337&mid=2&PageId=26738 [Utvecklingen för riskkapitalbolagens portföljbolag 1999-2004]. 2006-11-023) In this report the term “Nordic market” will be used for the Nordic/Baltic market, for simplicity.4) The Nordic Investment Bank’s initial response has been positive to the fact that the project has been executed. The bank will use the report

as input into their internal strategy process.

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sectors. It will contribute through helping smaller funds gain sufficient financial resources andattract capital from private Nordic and international investors. Finally, the fund will promotestandards on key terms as well as the structure of funds and reporting. It will gather Nordicinformation and catalyze knowledge transfers. With regard to all of these tasks the Nordicinvestment Fund will have an important role as a complement to the existing nationalinvestment entities in each country.

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3. The beneficial nature of a strong venture capital industry

3.1 Definition of venture capitalVenture capital is an important and growing part of the global capital markets. In general, thecapital markets can be divided into fixed income bonds/debt and equity. Equity can further bedivided into public and private equity. The public equity market is characterized by dailytrading on regulated market places and domination by institutional owners. The private equitymarket, in contrast, covers all privately held companies. Private equity has becomesynonymous with private equity funds. These funds invest solely in unquoted companies andhave made private equity a rapidly-growing asset class. The growth is mainly a result ofsuperior returns that outperform other asset classes. The returns are due to controlling ormaterial ownership in certain phases of a company’s lifetime; principally during the growthand expansion stages.

The private equity market is usually divided into two main subsections; venture and buy-out.Venture capital is provided for new, growing or promising businesses with substantial growthpotential. Buy-out capital is provided for more mature companies, still having unrealizedgrowth or profitability potential.

3.2 Venture capital stimulates economic growthNumerous studies from Europe and the US show that venture capital contributes to thedevelopment of an economy. The studies mentioned below indicate how venture capital can beregarded as an important facilitator for growth.

A Danish study carried out by Vækstfonden points to the beneficial nature of venture capital.Between 2000 and 2004 the revenue in Danish venture-backed companies experienced anannual growth of 30% corresponding to 1.2% of Danish GDP. By 2010 the Danish venturebacked companies are expected to have a total revenue of € 8.3 billion – corresponding to 5%of GDP5. The same study suggests that venture capital activity increases exports. The annualgrowth rate is expected to continue, resulting in total export by venture-backed companies ofapproximately 10% of total Danish exports.

Another study by the British Venture Capital Association carried out over the five year periodleading up to 2005 finds that6 the performance of private equity backed companies has thepotential to strengthen British economy and improve international competitiveness. The studyconcludes that:

• On average, private equity backed companies’ sales rose by 20% p.a., more than twicethat achieved by FTSE 100 and FTSE Mid-250 companies

• Investment rose by 14% p.a. (compared to a national increase of 3%)• UK exports grew by 27% p.a. (compared to a national growth rate of just 3.9%)

5) www.vf.dk/download_media.asp?media_id=2213 [Impact of venture capital in Denmark]. 2006-11-026) www.bvca.co.uk/ [The Economic Impact of Private Equity in the UK 2005]. 2006-11-02

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The French private equity market shows similar tendencies. In 2004 French private equity-backed companies generated revenue of € 133 billion, i.e. 8.6% of GDP7. The same year theFrench government launched a programme by which a € 5 billion increase in private equity topension funds was estimated to increase GDP by 1% (Financial Times 07.09.2004).

Venture capital has also proved to be an important factor for the creation of new jobs. In 2004the European Venture Capital Association (EVCA) published the first pan-European study onthe overall employment contribution of private equity and venture capital industry8. The studyfound that:

• One million new jobs were created by European private equity and venture capital-backed companies between 2000 and 2004.

• Employment of firms backed by private equity funds grew by an average rate of 5.4%annually between 2000 and 2004; eight times the annual growth rate of totalemployment in the 25 EU member states.

Correspondingly, a recent Swedish study shows that the number of employees within privateequity and venture capital-backed companies has, on average, grown by 7.3% annually from1999 to 2004. The average rate for all companies in Sweden is close to zero9. A similar Danishstudy identifies a corresponding annual growth rate of more than 20% from 2000 to 200410 inventure-backed firms.

Venture capital also has a positive effect on the research and development (R&D) activities inthe economy. A study carried out by Vækstfonden11 estimates an annual increase of R&Dexpenditures in Danish venture capital-backed companies by 50% between 2000 and 2004. Inthe period 2000-2003, the overall Danish R&D expenditures increased by 7.4% annually.

Furthermore, venture capital contributes to the establishment of new industries by supportingnew and innovative companies. E.g. the report ”Assessing the contribution of venture capitalto innovation”12 by Professor Josh Lerner at Harvard Business School, concludes that greaterventure capital activity within an industry leads to higher patenting rates for the industry inquestion.

3.3 Investors on the venture capital and private equity marketsVenture capital is characterised by being a high risk asset class compared to both public equityand fixed income13. The venture capital investor community is therefore dominated by largeinstitutions such as pension funds, insurance companies etc. that have the financial means tomake dedicated investment programmes within the sector, enabling them to create sufficientlydiversified venture capital portfolios to counter for the high risk levels. Another investor grouppresent in the venture space are publicly funded institutions that – in addition to a financialreturn objective – have an interest in facilitating growth in the sector to enhance themacroeconomic indicators as described in the previous section.7) www.afic.asso.fr/Website/site/eng_rubriques_publications_publications.htm [AFIC Activity Report]. 2006-11-028) www.evca.com/images/attachments/tmpl_9_art_129_att_953.pdf. 2006-11-029) www.svca.se/home/page.asp?sid=337&mid=2&PageId=26738 [Utvecklingen för riskkapitalbolagens portföljbolag 1999-2004]. 2006-11-0210) www.vf.dk/download_media.asp?media_id=2213 [Impact of venture capital in Denmark]. 2006-11-0211) www.vf.dk/download_media.asp?media_id=2213 [Impact of venture capital in Denmark]. 2006-11-0212) www.people.hbs.edu/jlerner/VCInnov.pdf. 2006-11-0213) See Appendix C for a description of the risk elements inherent in the venture capital asset class.

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In 2005, the contributions made by institutional investors (pension funds, banks and insurancecompanies) constituted more than 50% of the capital raised to private equity in Europe. Thecorresponding number for the Nordic market was 38%14. The allocation to private equity forinstitutional investors from Europe and the US has increased since 1992 as can be seen fromthe graph below.

The allocations have increased as more and more institutional investors have accepted privateequity as a genuine asset class. However, although the allocations are increasing in Europe, theUS institutions still have considerable larger allocations to private equity than their Europeancounterparts. With regard to the Nordic countries – the allocations are still considerably lowerthan the European average15.

The publicly funded private equity investors in the Nordic region have had and still have animportant role in the development of the market. The common aim for those organizations is tostrengthen the development and growth of the national economies by providing financing onmarket terms for promising small and medium-sized companies as well as for the growth ofmature businesses. Most publicly funded investors also have the additional purpose of drivingdevelopment towards a highly functional national private equity market.

Also in other markets public investors have been and are important for the development ofventure capital markets. In the US for example, The Small Business Investment Company(SBIC) program is a public/private partnership that has provided $46 billion in financing toalmost 100,000 small U.S. companies since the program’s creation in 1958. Today large publicfund investors such as the California Public Employees' Retirement System (CalPERS) view itas their task to drive the further development of the US venture capital market.

The publicly funded investors either invest directly into companies or indirectly as investors inprivate equity funds. Several of the Nordic national publicly funded investors fall under both

14) EVCA15) JPMorgan Fleming. European Alternative Investments Strategy Survey 2003

5%

6,50%

7,30% 7,50% 7,50%

8,20%

4%4,50%

3,60%

2,50%

1,90%

0%

2%

4%

6%

8%

10%

1992 1995 1999 2001 2003 2005E

Institutional a llocation to private equity

Source: Goldm an Sachs/Frank Russell

U S

EuropeShare of total asset

a llocation

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categories. The direct investors invest primarily in the early phases of a company’sdevelopment where it is often difficult to attract organized private capital. These investmentsare often vital to the commercialization of new business ideas. The indirect investors invest inventure capital and buy-out funds that in turn invest in relatively young growing companies orin the growth of mature companies. The public investors are often major investors in the fundsand are especially important for new fund managers or funds in new sectors.

The public investments are mainly made on market terms and by taking a long-term view andthus public investors help stabilize a cyclical market. Furthermore, public indirect investorscontribute to the functionality of a private equity market by:

• Being capable, with a long-term view, of investing in new teams and new sectors.• Helping create critical mass in funds that are currently too small.• Attracting international capital to funds by adding creditability to the funds they invest

in. • Promoting corporate governance principles.• Promoting standard terms and reporting.• Gathering national information.• Catalysing knowledge transfers.• Promoting the national market.

In conclusion, a strong venture capital market is an important element for facilitating economicgrowth as well as other macroeconomic indicators. Public investors have, in the Nordiccountries as well as internationally, been vital in the development of venture capital markets.In the long run, private investors – primarily pension funds and other financial institutions –should be able to support the significant capital requirements needed to make the sector selfsupporting. However, in Europe and in the Nordic region the venture markets are stillimmature and the private investor support is still not sufficient to drive a self-sustainablegrowth of the market. Therefore, in these markets - publicly financed venture capital investorshave a very important role in the initial growth and development of the venture industry.

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4. Current challenges for the development of a strong Nordic venture capital market

4.1 Introduction to the Nordic venture capital marketThe Nordic venture markets are relatively young compared to both the UK and US markets.The national venture capital markets in the region began their development in the early andmid 1990s. Several venture companies such as InnovationsKapital, HealthCap and CapMan,were started around this time. However, a number of the venture companies established in theearly years left the “scene” when the markets collapsed following the strong market upturn inthe late 1990s/early 2000. Since 2000, a number of new venture companies have emerged andlooking at the active players – approximately 30-35 operate on the Nordic venture market. Themajority of these venture companies are still very local – but several players are increasinglyseeking more “pan Nordic” profiles.

The venture capital sector in the Nordic region, although damaged by the technology downturnin 2000-2001, still attracts significant capital for investment in technology orientatedcompanies. The Nordic region is widely recognized as a centre of excellence in informationand communication technologies as well as in life sciences. Sectors that have brought about aworld class deal flow for local venture funds. Investors in the Nordic region include pensionfunds, quoted investment companies and financial institutions that invest off the balance sheet.Government sponsored vehicles are also important members of the investor communityensuring continued growth and development in the Nordic venture markets.

In the years 2000-2005 € 8.4 billion have been raised and € 7.3 billion invested in theaccumulated Nordic venture capital market16.

The venture capital and private equity markets in the Baltic countries are still immature. Thenumber of players is limited but there are signs of increasing activities and the next generationof funds will be larger and will be set-up according to European standards.

4.2 A globalized private equity market brings new challengesAs the private equity market is becoming increasingly global the pattern of institutionalinvestment has changed. Institutional investors entering the private equity market often start byinvesting locally. As the capital under management increases, the strategy tends to becomemore international. When allocation to private equity increases, investors need to diversify theportfolio, and therefore look abroad for new investments.

The changed investment patterns have also changed the way Nordic private equity companiesfinance their funds. Today, an increasing percentage of the funding stems from internationalsources. According to EVCA, on average 68% of the capital raised for Nordic funds in 2005came from non-domestic investors. However, these investors concentrate on a few, largeNordic buy-out funds and the traditional Nordic venture capital funds still have difficultyattracting larger sums of international capital.

16) EVCA

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For a Nordic venture capital fund, a pure national strategy makes it more difficult to attractinternational funding. International investors invest substantial amounts, but will generallyhave upper limits with regard to the ownership share that they can take in a given fund. Inorder for the Nordic venture funds to attract international investments it is therefore importantthat the funds have sufficient critical mass – e.g., a fund size no less than € 100 million.

Larger funds do, however, require larger underlying markets for new projects and investmentsand therefore it is becoming increasingly important for Nordic funds to expand the investmentfocus from the narrow national focus towards a pan-Nordic focus.

Also, critical mass in terms of capital under management is an important success factor forprivate equity funds, since it allows the funds to create well diversified portfolios that maycounter the high risk profiles inherent in venture. Furthermore, a large capital base allowsprivate equity funds to attract better management teams.

Although the venture community is expected to benefit from the increased internationalisationof the investor community – Nordic owners are still regarded to be advantageous for manyNordic companies. This is for example true for Nordic start-up companies in the low techsegment – where Nordic expansion is seen as the appropriate and beneficial step for thecompany before moving into the international markets. Companies with Nordic owners have agreat advantage in successfully realising such a stepwise internationalisation strategy, sincethese companies will be able to utilize the owners’ Nordic network and experiences to lowerthe risk and increase the pace of early expansion.

4.3 The trend towards a common marketToday, the Nordic venture capital market represents one of the largest venture capital marketsin Europe – a position that facilitates considerable international investor attention. However, asboth the venture markets and investors become more global it becomes even more importantthat the Nordic venture markets can compete with the growing markets in the rest of Europeand attract investors as one common market – with strong pan Nordic investor opportunitieswithin venture capital. Although the venture capital market in the Nordic region is gradually moving towards acommon Nordic market the process is progressing slowly – making it increasingly likely thatthe development of a Nordic venture capital market may loose momentum and possibly lackbehind the growing venture markets in UK, France and Germany.

A well-functioning common Nordic venture capital market will have global competitivenessand thus be able to compete with the rest of EU, US and Asia.

4.4 Narrow national objectives restrict Nordic market developmentThe publicly financed investors in the Nordic market have historically been pivotal inestablishing new venture capital funds and drive the development of the venture capitalcommunity in each of the Nordic countries. To some extent, the mandates of the nationalpublic investors17 permit investments outside the respective countries, allowing for someNordic cooperation. However, due to their narrow national objectives, the publicly fundedinvestors in the Nordic region will not be able to fully take on a pan-Nordic role.

17) The characteristics of the publicly funded investors in the Nordic region are described in the Appendix.

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The objectives and mandates result in obstacles to a number of important projects such as:

• Nordic ventures within targeted areas where each country lack enough critical mass• Regional projects, for example in the Baltic Sea region• Merging across national borders, both with regard to private equity actors and

unquoted companies

4.5 Obstacles to overcome for an emerging common Nordic marketThe necessary development of an effective and transparent common Nordic venture capitalmarket still has several obstacles to overcome such as:

• Lack of dedicated long term pan-Nordic fund investors• Legal and taxation issues• Lack of standard terms, reporting etc.• Lack of transparency regarding statistics and data about the region• Eight different languages • Eight currencies• Different cultures

In the pre-study to this project, carried out in Autumn 2004, a number of interviews wereconducted with leading public and private market players and the key problem areas identifiedin the pre-study were similar to the list above emphasizing legal and taxation issues as well asa lack of pan-Nordic investors. The conclusion from the pre-study interviews can be found insection 6.

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5. Recommendation – a Nordic Investment Fund

5.1 Role and purpose of a Nordic Investment FundThe Project Group recommends the establishment of a Nordic Investment Fund – a Nordicfund of funds investing in Nordic small and medium-sized companies through funds andhaving the important role of driving the development of a well functioning, transparent andefficient Nordic venture capital market.

A Nordic Investment Fund will:

• focus particularly on emerging management teams and new sectors.• assist smaller funds in achieving strong financial resources, and attract capital from

private Nordic and international investors. • have a stabilizing effect on a predominantly cyclical market by being a long-term and

at times contrarian investor. • be able to promote best practices, corporate governance, and standardization of terms

as well as gather statistics and research information about the region and thuscontribute to increased transparency.

• Operate as an important complement to the existing national public investors in theNordic region as well as to EIF, none of which has the possibility of having a trueNordic focus.

The Project Group recommends that the Nordic Investment Fund is set-up under the auspicesof the Nordic Investment Bank. The purpose of such a fund of funds fits well into the overallpurpose of the Nordic Investment Bank and using an existing organization is an efficient andflexible way of setting up the new entity.

The Project Group believes that the creation of a Nordic Investment Fund will contributestrongly to the development of the Nordic venture market and in the generation of moreventure capital in the Nordic region. More venture capital managed by skilled managers willlead to the creation of more growth, more new companies and more employment. The ProjectGroup thus recommends that the Nordic countries in addition to their support of the importantexisting national public investors support the creation of a Nordic investor to drive thedevelopment of a common Nordic venture capital market.

5.2 Mandate for a Nordic Investment FundIt is vital that the Nordic Investment Fund receives a broad mandate. This will allow foradjustments to the activities of the fund as the market evolves. Thus, the fund shall not berestricted to current products or market conditions, and a large degree of discretion should beawarded to the management of the fund to set appropriate strategies for any given period.

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5.2.1 FocusThe primary focus of the fund of funds should be on funds investing in start-up and early stagecompanies as well as in the expansion and internationalisation of small and medium-sizedcompanies.

5.2.2 Formal investment mandates for a Nordic Investment FundPrimarily, the fund should invest in funds and related indirect private equity products. Since itrequires a separate and special set of skills to invest directly in portfolio companies, the Nordicinvestment Fund should refrain from participating in such transactions.

The capital shall be invested in the Nordic region. However, a small part of the capital can beallowed to be invested internationally for strategic reasons, in order to create relevantrelationships and attract interest in the Nordic region.

5.2.3 Formal yield targetAll investments shall be done on market terms, to ensure that private investors can co-invest.Long term high yield will be the main target for the Nordic Investment Fund’s investmentactivities.

The most experienced investors within venture/private equity are the large US pension fundsand endowments. These investors typically have a yield target of S&P 500 or similar + 4-500basis points. This is based on a balanced and fully diversified portfolio of about 70% buy-outand 30% venture.

In the Nordic countries formalized yield targets vary from investor to investor. The SixthSwedish National Pension Fund (AP6) has a long term yield target of risk free rate + 450 basispoints. AP6 reported IRR (internal rate of return18) of 8.6% in 2005 and 11.9% in 2004.Argentum Fondsinvesteringer AS has a target of risk free rate + 1000 basis points and has in2006 reported an IRR of 35% since its inception in 2002.

A specific yield target for the new entity has to be set when the actual investment mandate isdecided. Based on the mandate, risk should be evaluated and an appropriate yield target andbenchmark established.

5.3 The set-up of a Nordic Investment FundThe Project Group recommends that the Nordic Investment Fund is set-up as a captivestructure within the Nordic Investment Bank. A captive set-up may be structured simply as anin-house department of the Nordic Investment Bank that invests directly from the NordicInvestment Bank’s balance sheet or as a separate legal entity, i.e. a wholly owned subsidiary ofthe Nordic Investment Bank.

Vækstfonden, AP6 and Finnish Industry Investments are examples of institutions that have set-up captive fund of funds organisations that invest directly off the balance sheets. ATP Private

18) IRR is the implied annual return that makes the net present value of a given set of cash flow equal zero.

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Equity Partners and Danske Private Equity Partners are examples of captive structures, wherethe fund of funds have been established as separate legal entities within the parentorganizations.

The primary advantage of having a captive structure is that it ensures that the parentorganisation (in this case the Nordic Investment Bank) has complete control of the investmentstrategy and organization. Such a structure will enable the Nordic Investment Bank to workwith a flexible mandate over time. Furthermore, the captive structure provide the set-up with astrong “institutional” backing enhancing the investor’s credibility on the market.

5.3.1 Potential invitation of other ownersPotential sources of financing for the Nordic Investment Fund, other than the NordicInvestment Bank, may be national, public or private investment entities or financial institutionsin the Nordic countries or elsewhere.

Other investors could be invited when the fund is being established or later when the fund hasproven itself as an investor with a certain track record. However, to the extent that there is anintention to attract other investors it might be necessary to adjust the set-up of the fund tocomply with structural requirements from these investors. E.g. private investors will typicallywish to limit the time span in which their capital is tied to a specific fund of funds. In order tocomply with this requirement it might be necessary to enclose the capital commitment in aclosed end fund structure, which is characterised by having a predetermined end date.

Alternate public and/or private investors would ensure direct financial backing and strongrelationships to both the governments and financial institutions of each of the Nordic countries.Such relationships may also be tied to strategic partnership agreements. Similar arrangementscan be seen in EIF, where more than 8% of the fund is owned by financial institutions in themember states. A number of these institutions have in connection with their investment enteredinto strategic partnerships with EIF.

5.3.2 Potential cooperation with the European Investment FundThe Project Group recommends that a Nordic Investment Fund seek close relations with EIF.Close co-operation or a strategic partnership between EIF and the Nordic Investment Fund,e.g. by way of information exchange, co-investments in Nordic funds etc. is envisioned. Part ofthe financing of Nordic investment Fund could potentially be provided by EIF in connectionwith EIF’s management of the framework “Programme for Competitiveness and Innovation”(CIP), aiming to bridge market gaps in financing of SMEs. In that respect a Nordic InvestmentFund may likely be considered a natural partner for EIF in the Nordic region.

The Project Group has made a brief introduction of the Nordic Investment Fund to EIF thatwelcome the initiative and see it as a strong supplement to their own activities in the region.

As an alternative to a purely Nordic fund of funds under the Nordic Investment Bank, theNordic Investment Fund could also be established as a joint venture with EIF. A joint venturecould potentially be established directly within the realm of EIF, i.e. as a fund managed by EIF

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by way of establishment of a Nordic EIF office. In addition to infrastructure, investmentexperience and network, EIF could have contributed a substantial part or half of the funding ofthe fund and thus the role of the Nordic Investment Bank would merely be to contributefunding. A somewhat similar set-up has been made with respect to the ERP-EIF Dachfonds.The ERP-EIF Dachfonds invest in specialised venture capital funds that focus on Germany-based, high-tech early stage companies. EIF is managing the facility on behalf of the GermanFederal Ministry of Economics and Technology (BMWi) and ERP.

The Project Group, however, does not recommend the establishment of a Nordic EIF office fora number of reasons. Such reasons include but are not limited to:

• With the number of member states growing from 12 to 25, it is unlikely that the Nordicregion will attract sufficient attention to achieve the goals set out for the NordicInvestment Fund.

• A purely Nordic fund of funds initiative would be in a position to act much faster andmuch more aggressively than EIF.

• Neither Norway nor Iceland are members of the EU and thus not included in the currentinvestment scope of the EIF.

5.4 Financing of a Nordic Investment FundThe capital requirement for a Nordic Investment Fund investing primarily in Nordic venturefunds shall be in the range € 300-750 million, depending on the exact investment mandate.This is a reasonable capital base when compared with the current size of the market and thesizes of similar publicly financed but nationally oriented investment vehicles in the Nordicregion. Furthermore, in order for the Nordic Investment Fund to conduct its role as aparticipator in existing funds and initiator of new funds – a significant capital base is needed.

Considering the Nordic private equity market – annual fundraising averages € 1.4 billion toventure capital and € 3.7 billion to the entire private equity market19 - numbers are expected toincrease in the future as the whole private equity market – buy-out and venture - matures.

National institutions, with strategies similar to those of the Nordic Investment Fund, vary inthe amount of capital under management from € 200 million to € 1 billion. However, all ofthese institutions have a national bias and rarely invest abroad.

19) EVCA, average funds raised in Denmark, Finland, Norway and Sweden 2000-2005

Institution Total fund commitments

Annual commitment

Investment scope

Argentum (NO) € 370 million € 60 million Norwegian venture and buy-out, with some Nordic investments

Finnish Industry Investment (FI)

€ 210 million (VC)€ 97 million (PE)

€ 19 million€ 9 million

Finnish venture and buy-out

Vækstfonden (DK)

€ 176 million € 25 million Danish venture

AP6 (SE) € 900 million € 100 million Swedish venture and buy-out

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A player targeting the Nordic market is likely to have larger annual commitments than thenational players. Investors like Finnish Industry Investments and Vækstfonden focus primarilyon the local venture markets and have annual commitments of € 19-25 million. Likewise,investors like AP6 and Argentum focus primarily on their local markets. However, AP6 andArgentum have broad investment mandates covering both venture and buy out – explaining therelatively high annual commitment levels for these funds.

The Nordic Investment Fund should be established with a strong focus on Nordic venturefunds – but with the ability to make strategic allocations to a limited number of funds outsidethe primary investment scope. It will be im4portant for the Nordic fund of funds to become adriving force in the Nordic arena, and in that respect it is important that the Nordic InvestmentFund have the ability to make significant commitments to the underlying funds.

A rough but reasonable estimate of the annual fund commitments for the Nordic InvestmentFund would therefore be in the range of € 60 - 150 million. The complexity in cash flowestimation for private equity funds makes it difficult to calculate a correct fund size based onannual commitments. As a rule of thumb, 5-6 times the annual commitments are needed inorder to create a sustainable fund. However, to make an efficient capital allocation, over-allocation is widely used by fund of funds. The size of the over-allocation varies depending onrisk awareness and portfolio dynamics, but 20% can be seen as a rather conservative rule. Thisreduces the fund size to 4-5 times the annual commitment. Based on these calculations, therequired fund size can therefore be estimated to be in the range of € 300-750 million dependingon the investment scope.

5.5 Human Resources

5.5.1 Organizational sizeA Nordic fund of funds would require an organization of four to six investment professionals,one to two analysts and possibly two full time employees responsible for all other back officesupport. This set-up would be necessary due to the size of the Nordic private equity market andthe number of funds requiring funding.

The selection of fund managers is the essential task for the new fund of funds which meansthat the team needs deep knowledge about as well as experience with the Nordic private equitymarket. The main day to day tasks for the Nordic fund of funds will be to identify and evaluatefinancially interesting fund opportunities in the Nordic region. Furthermore, the investmentteam must have the insight and ability to negotiate attractive terms with the individual funds.The team must have strong financial and legal competencies to support the ongoing activities.In this regard, prior experience with private equity fund investing will be necessary to theteam’s ability to successfully approach the market and enhance the team’s ability to implementnew market standards.

Depending on the extent to which the Nordic fund of funds is established as a “greenfieldoperation”, it may be important that the employees - in addition to their operational duties –

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take an active part in building the operational infrastructure for the fund. Such tasks wouldinclude setting up investment and reporting processes, setting up IT infrastructure etc.

In building strong relationships with funds and making evaluations of specific funds it isimportant that the investment team can draw upon a broad and geographically diversifiednetwork of specialists, business developers and people from the private equity community.This may be achieved by setting up an advisory forum in relation to the fund of funds whererelevant advisors are appointed by the investment professionals and compensated by the fund.Of course the team members need to also bring strong personal networks.

5.5.2 CompensationCompensation for the management team should be adjusted to market standards includingfixed and performance based compensation. Private equity is a specialized business andexperienced talent is scarce in the Nordic region. In order to attract and maintain competentstaff it is of great importance to have incentives in line with market terms20.

A bottom up estimate of the operational cost relating to a Nordic Fund of Funds organizationwould amount to 0.5-0.75% of capital under management. This is considerable lower than forsimilar size international fund of funds organizations, where the fee levels are typically around1 % of capital under management21.

20) A standard performance-based fee for fund of funds – also known as the carried interest – would be based on a 10% profit share with the limited partners after the limited partners have received their invested capital plus a hurdle rate of 15%.

21) The Private Equity Analyst. Private Equity Partnership – Terms and Conditions. Third Edition

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6. The market players’ view on a common Nordic unit

6.1 What is the market players’ view on a Nordic Investment fund?Interviews with the leading decision makers among national public investors and venturecapital funds within the Nordic private equity market have been carried out in the previousprojects during 2004 and 2005. The following aspects were emphasised by the market playersinterviewed:

• Be demanding in respect to professionalism and market conditions• Define the unit’s role on the market clearly• Define the unit’s yield targets• Focus on investments in venture capital funds• Do not establish a new Nordic institution. Instead use existing structures• Minimize the bureaucracy• Minimize the organization• Include the Baltic countries from the outset• Develop the co-operation with the European Investment Fund and their range of

products• Carry out a profound analysis of the issue.

6.2 Public investorsThe initial response from the leading public investors that constitute the unit’s potential co-investors has been positive. They regard it an advantage to get a chance to professionalize anddevelop the growing pan-Nordic market in a more organized and efficient manner.Furthermore, they argue that such an actor could be a catalyst and make possible ventureswithin certain clusters alongside local and international institutional capital.

It was also emphasized that it would be important to give a common Nordic unit a clearlydefined role and comprehensible yield targets in order to enable co-operation with otherinvestors.

6.3 Private investorsThe venture capital funds have a positive outlook on the prospect of a common institutionalinvestor. They particularly underline that the unit could contribute with long-term capital andhence have a stabilizing impact on a firmly cyclical market. The market actors also stress theimportance of the signalling effect that the creation of such a common Nordic unit would haveon the global environment. Such an effort would accentuate that the Nordic and Balticcountries prioritize and understand the economic importance of a strong venture community.

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6.4 Consensus on the marketThe players agree that the investments should only be placed in private equity funds and notdirectly into unquoted companies, or research and development programs. Furthermore it wasconcluded that most investments should be in venture capital and not in buy-out. Directinvestments are best carried out by local actors and access to capital in most of the buy-outsegment is regarded to be sufficient.

The market players furthermore highlight the importance of close co-operation with the EIF asa possible co-financier of the unit.

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7. Appendix A: The Nordic Investment BankThe Nordic Investment Bank is the common international financial institution of its membercountries, with the objective of strengthening and further developing the cooperation betweenthem. The primary purpose of the Bank is to promote sustainable growth in the economies ofthe member countries through the long-term financing of projects in the private and publicsectors. The Nordic Investment Bank is owned by Denmark, Estonia, Finland, Iceland, Latvia,Lithuania, Norway and Sweden.

The statutes of Nordic Investment Bank do not mention private equity or venture capital, and itis possible that the statutes would need to be revised to allow for investments in private equity.

7.1.1 Facts about the Nordic Investment BankThe Nordic Investment Bank finances investment projects and project exports, both in andoutside the member countries. High priority is given to investments furthering economiccooperation between the member countries. The Nordic Investment Bank's provision of credits is highly suited to investments that secureenergy supplies, improve infrastructure or support research and development. Focal points of the Bank's activities include the neighboring areas of the member countries. The Nordic Investment Bank's headquarters are in Helsinki. The Nordic Investment Bank hasother offices in Copenhagen, Oslo, Reykjavik and Stockholm, as well as a representative officein Singapore. The Nordic Investment Bank is a multilateral financial institution and has financed over athousand projects since it began operating in 1976.

7.1.2 Ownership structureThe Bank's authorized capital amounts to € 4.1 billion. The paid-in portion is about 10.1 % ofthis amount. The remainder of the authorized capital consists of callable capital. The membercountries have subscribed authorized capital according to a distribution key based on the eightmember countries' gross national income: Denmark 21.3%, Estonia 0.7%, Finland 18.5%,Iceland 0.9%, Latvia 1.1%, Lithuania 1.6%, Norway 19.1% and Sweden 36.7%.

The Nordic Investment Bank promotes sustainable growth of its member countries byproviding long-term complementary financing, based on sound banking principles, to projectsthat strengthen competitiveness and enhance the environment.

7.1.3 Lending in member countriesThe Nordic Investment Bank grants medium- and long-term investment loans with maturitiesof 5 to 15 years. These are granted in various currencies at fixed or variable commercialinterest rates. Within the member countries, the Nordic Investment Bank finances investmentsin the following sectors:

• Manufacturing, including investments in facilities and machinery, • Infrastructure, investments in the energy sector, transportation, telecommunications,

water supply and waste treatment,

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• Environmental improvement, in both the private and public sectors, • Research and development, • Cross-border investments, such as company acquisitions, • Foreign investments in the member countries, • Regional loans that can be granted to regional credit institutions for investments in

regional priority fields.

7.1.4 StatutesCurrent statutes have entered into force on January 1, 2005 replacing the original statutesdating from June 1, 1976.

The Current statutes do not mention venture capital or private equity. It ought to beinvestigated further whether a change of the statutes is necessary to allow for the NordicInvestment Bank to participate in a Nordic Investment Fund.

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8. Appendix B: Description of national public investors The subsequent section briefly presents the scope and national limitations of the major publicinvestors in each respective Nordic country.

8.1 Norway

8.1.1 Argentum Fondsinvesteringer AS (Argentum)Argentum is a government-owned investment company, and was the first pure fund of fundsinvestor in the private equity sector in Norway. Argentum aims, through its investments, tofacilitate access to international venture capital, and to be a driving force in the development ofan internationally competitive private equity environment in Norway. Argentum investsthrough either established or new fund management structures.

Argentum has been established in order to channel public capital into areas of innovation andcreation through carrying out minority investments in private equity funds.

Capital under management: NOK 3.1 billion

National limitations:Argentum can invest in all funds that are active on the Norwegian market. It is also possible forArgentum to invest in funds that have a greater scope of investment area than Norway alone.

8.1.2 Innovation NorwayInnovation Norway is a state-owned company that promotes nationwide industrialdevelopment profitable to both the business economy and the Norwegian national economy,and helps release the potential of different districts and regions by contributing towardsinnovation, internationalization and promotion.

The company has a nationwide division of seed financing that shall channel public capital intoareas of innovation and creation throughout the country. This should be done through lendingcapital to private seed funds investing in the earliest stages of a company’s development.

National limitations:Innovation Norway can only invest in Norwegian funds. The funds and the administrativeagencies involved must be Norwegian, yet the funds are open to international investors.

8.2 Denmark

8.2.1 VækstfondenVækstfonden is a financial organization that contributes to the promotion of Danish businessand trade. The organization’s mission is to strengthen development and renewal in the Danisheconomy by providing financing for promising projects in small and medium-size businesses.

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Vækstfonden’s capital base is currently € 300 million, part of which is used for direct businessfunding, and part of which is used to co-finance venture funds. In addition, Vækstfondenadministers Vækstkaution, a national loan guarantee scheme for business.

Vækstfonden is an independent fund placed under the Danish Ministry of Economy andIndustry founded in 1991.

Capital under management: DKK 2 billion

National limitationsDespite the fact that no such limitations are clearly legally stated, it has been a generalprerequisite for both direct and indirect investments by Vækstfonden that the organization mayonly invest in Denmark. However, irrespective hereof it has been deemed withinVækstfonden's mandate to invest in companies established outside of Denmark on thecondition that the projects invested in have spent an amount, at least the size of the suminvested by Vækstfonden, to finance activities in Denmark.

8.2.2 Innovationsmiljøer (Innovation environments and Tech-transfer offices)The innovation environments were first authorized in 1998. At present there are 7 innovationenvironments that have been authorized 2004-2008. The innovation environments are typicallyplaced close to research clusters or universities and their purpose is to assist in thedevelopment of new service- and product ideas for commercial usage.

National limitationsThe innovation environments may only invest in Denmark.

8.3 Sweden

8.3.1 IndustrifondenIndustrifonden is a public foundation established in 1979 by the former Swedish department ofindustry to complement the market of industrial development and marketing.

Industrifonden co-owns eleven private equity companies in different parts of Sweden. Theirbusiness concept is to develop small and medium-sized businesses, generally as minorityowners.

Capital under management: SEK 3.3 billion

National limitationsIndustrifonden is a foundation and consequently fully-independent and with no owners. Thestate’s role in relation to Industrifonden is to appoint its board and auditors. The foundation’smandates are regulated in accordance with the decrees that were established at the outset of thefoundation. The state has no authority to change the basic mandates of the foundation. A legalanalysis would be necessary in order to establish whether it is possible to change the decrees toallow Industrifonden to invest outside Sweden.

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8.3.2 The Sixth National Pension Fund (AP6)The Sixth National Pension Fund (AP6) administrates public pension means with the task ofcreating long-term profits and to maintain a satisfactory distribution of risk through theplacement of private equity in small to medium-sized Swedish growing businesses. Throughthis the Sixth National Pension Fund is seen to contribute to the development of the Swedishbusiness community. The Sixth National Pension Fund is an independent investor in a range ofprivate equity funds as well as co-owners and direct owners in a number of medium sizeunquoted companies.

Capital under management: SEK 15.1 billion

National limitationsAs a main rule, the Sixth National Pension Fund is only allowed to invest in Sweden. It hasbeen discussed whether the mandate of the Sixth National Pension Fund could and should beextended.

8.3.3 Innovationsbron (the innovation bridge) in SwedenTeknikbrostiftelserna, Industrifonden and the Swedish state through VINNOVA have togethercreated the corporation Innovationsbron AB. The company has a parent company and sevenregional companies. The group has been operational since the spring of 2005.

Capital under management: SEK 2 billion

National limitationsInnovationsbron should invest in Sweden or to promote Swedish growth. The nationallimitations have not yet been tried.

8.4 Iceland

8.4.1 New Business Venture FundThe New Business Venture Fund is a venture capital investor that takes an active part inbusiness development and growth in Iceland by investing in innovative and pioneering firmswith promise. The goal of the fund is to invest in companies from which it can expectsubstantial added value, profitability and good returns. The earnings of the fund will be usedfor its further development, investment in innovative and pioneering firms holding promiseand research into their operating environment.

Capital under management: ISK 3.6 billion

National limitationsDespite considerable freedom of action, it is clear that the law emphasizes that Icelandicbusiness life is meant to benefit from the fund. International investments that are in no way tiedto Iceland and Icelandic interests are not authorized.

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It is therefore obvious that the fund has powers to invest in foreign countries and products.Such investments are allowed if carried out in co-operation with Icelandic activity orindividuals. It is not allowed to invest abroad if the investment lacks a connection to Icelandicauthorities or interests or if the investment involves no yield opportunity for the fund.

8.5 Finland

8.5.1 Finnish Industry Investment LtdFinnish Industry Investment Ltd is a government-owned investment company. It engages inequity capital investment and invests in venture capital funds, private equity funds and directlyin selected target companies. Direct investments’ portfolio includes over 70 early stagecompanies resulting from the Seed Investment Program. Finnish Industry Investment Ltd isadministered by the Ministry of Trade and Industry. The funding of the institution is based onthe proceeds accrued from the privatization of state-owned companies. Finnish IndustryInvestment has made investment commitments to 66 venture capital funds.

Capital under management: € 350 million

National limitations:The state owned Finnish Industry Investment can invest in foreign funds under the conditionthat the funds in question invest at least the same size sums in Finnish business. Within thenear future the law will be verified as to broaden the investment mandate to allow investmentsin foreign funds and firms when it “contributes to Finnish economic development”.

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9. Appendix C: Risk management for a Nordic Investment Fund

In addition to the normal risk factors involved in all equity investing such as cycles, companyperformance, interest rates, currency, growth, inflation etc., some additional factors areinvolved when in investing in venture capital funds.

The ability to manage risk in venture capital fund investments is highly influenced by thestructure of such investment. Normally investors commit capital with a 10-12 years horizonand limited termination ability. The commitment is structured in a fund together with otherinvestors. The fund is managed by a fund manager with the authority to take decisions onbehalf of the fund related to investment and realization. The investor’s role is thereforereduced to monitoring the mandate and investment activity.

The time spans, lack of termination ability and governance structure introduce some veryspecific risk factors. A commitment involves a 10-12 year portfolio allocation decision. Sincethe fund’s investments are spread over the fund’s life time, it takes years until the investorshave an actual exposure, which leads to some particular challenges in the management ofcyclical movements and overall portfolio risk.

The fact that the fund manager is taking the investment decisions introduces structuralchallenges focused on alignment of interest between the manager and the investor. However,situations will occur when such alignment is not in place. Combined with the lack oftermination ability, this introduces a very specific risk factor.

Some of the most relevant risk factors are listed below:

Fund Manager Risk The most influential risk factor is the appointed fund managersability to invest, develop and exit investments according to plan.

Liquidity Risk Venture investments lack liquidity and typically have time horizonsof 5 to 10 years. Return cash flow is based on realization ofunderlying holdings, most often when a company is sold. The timeframe and efficacy of a sale is highly influenced by the state of thespecific company and of the surrounding economy. Secondarymarkets for the fund investment as such are limited.

Operating Risk Venture capital investments entail high operating risk associatedwith developing new products, new technology, establishing newmarkets and building new organisations.

Financial Risk Private equity often (within buy-out) employs a greater use ofleverage (borrowing), which may lead to a greater volatility inreturns.

Country Risk There may be political, economic, and currency risks associatedwith investing in different countries. Within the Nordic region, suchrisk is mainly related to currency and tax issues.

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Risk in venture capital fund investing is mainly controlled by the following:

• Thorough and skilled fund manager selection and appointing procedure• Investment/fund structures that implicate best possible alignment of interest between

the fund manager and the investor (agent – principal)• Assessing the level of diversification in the portfolio across investment style/phases,

geographic distribution, industry concentrations, vintages and segments• Ensuring a critical mass of projects, funds and fund managers to support the chosen

strategy• Assessing the development in the underlying portfolio companies compared to initial

investment rationale• Monitoring the due diligence activity of the appointed fund managers• Controlling the tracking of investment mandates, monitoring activities and the internal

policies and procedures of the appointed managers• Taking instant corrective action.

Structural Risk No real market standard for fund structures is established. In theabsence of a regulatory authority, significant risk is related tostructural issues, involving fundamental rights and protectionswithin governance, monitoring and intervention rights.

Valuation Risk There may be risk connected to the fund manager’s ability to employan appropriate and reasonable valuation discipline.

Corporategovernance risk

As the fund investor does not directly influence the underlyinginvestments, there is risk related to the ability to control corporategovernance and ethical standards.

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PROJECT GROUP – PARTICIPATING ORGANIZATIONS

Cubera Private EquityCubera is a partnership managing funds within Nordic private equity, located in Oslo andStockholm. With hands-on experience from more than 50 direct investments, 30 exits and 40Nordic private equity fund investments, the team possesses a broad platform for value creationwithin Nordic private equity.

Cubera is currently fund raising for Cubera Secondary, a Nordic secondary fund. First closingheld place in October 2006. The investor base comprises prime private equity investors,including institutional investors and family offices.

Contact information:Jørgen KjærnesCubera Private EquityRosenkrantzgate 220160 OsloNorwayTel: + 47 23 10 07 60

Finnish Industry InvestmentFinnish Industry Investment (FII) is a government-owned investment company. The companyinvests the proceeds accrued from the privatisation of state-owned companies in promoting thegrowth and internationalisation of Finnish businesses. FII is Finland's leading provider of seedfinancing. FII´s investments and investment commitments amount to some EUR 350 million.

Contact information:Juha MarjosolaFinnish Industry InvestmentKalevankatu 9A00101 HelsinkiFinlandTel: +358 9 680 3680

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Nordic Investment SolutionsNordic Investment Solutions (NIS) is an independent Nordic focused private equity advisoryfirm based in Stockholm. The services provided by NIS include; Strategic advice toinstitutions and other organizations involved in the private equity market, Communication andPublic Policy services to market players and public authorities and Nordic facilitation aimed atcreating relevant business opportunities.

Contact information:Erik Johansson & Carl-Peter MattssonNordic Investment SolutionsHamngatan 13111 47 StockholmSwedenTel: + 46 8 410 470 11

VækstfondenVækstfonden is a state owned investment company. Operating independently in the capitalmarket, Vækstfonden facilitates the supply of venture capital in terms of start-up equity andhigh-risk loans. The investment strategy extends across a wide range of industries with astrong focus on innovative business ventures with high growth potential. Furthermore,Vækstfonden invest in venture funds specialising in specific industry sectors. Vækstfondensvision is to create the best market for innovation finance in Europe.

Contact information:Christian MotzfeldtVækstfondenStrandvejen 1042900 HellerupDenmarkTel: + 45 35 29 86 00

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tion.net

Nordic Innovation Centre

The Nordic Innovation Centre initiates andfinances activities that enhance innovationlaboration and develop and maintain a smfunctioning market in the Nordic region.

The Centre works primarily with small andmedium-sized companies (SMEs) in the Nocountries. Other important partners are thmost closely involved with innovation and surveillance, such as industrial organisatiointerest groups, research institutions and pauthorities.

The Nordic Innovation Centre is an institutunder the Nordic Council of Ministers. Its stariat is in Oslo.

For more information: www.nordicinnova

36Nordic Innovation CentreStensberggata 25NO-0170 OsloNorway

Phone: +47-47 61 44 00Fax: +47-22 56 55 65

info@nordicinnovation.netwww.nordicinnovation.net