“Paris, ici Paris”
I recently attended a questions and answers around Xavier Niel organized by SNCF, France’s state owned railway company.
This debate around entrepreneurship being organized by SNCF was quite natural as the company has been involved in financing start-up incubators. In order to further develop its service portfolio, the company has created its own incubator in 2014, among its start-ups, it covers typical themes associated with the company like ecology, social networks, solutions to generate business from passenger fluxes, itinerary calculators, yellow pages on the move. This dynamism illustrate why Pierre Gattaz once compared CAC40 and France national champions as aircraft carriers able to launch french start-ups.
This is a picture of a dynamic national company one might not have in mind, especially from the international press and the echoes of June 2014 strikes where one of the objectives of the unions was to influence debates in the french parliament… Just to put things in perspective, on the sixth day of the strike, it is estimated that only 17 percent would follow the strike initiative. I will come back to this misleading perception and how it can hurt France entrepreneurs’ perspectives.
This introduction illustrates this post, when thinking about prospects in France, I can see many green lights bathed in a fog of worries. We have this tradition of a fair education system (I paid 250€ a year of tuition fees at the Paris School of Economics when I would have paid 100 times more at the London School of Economics) training world class academics, we headquarter or host the design offices of multinational champions, in other words, from our history we benefit from sound infrastructures and a rich human resources pool, but also from history we have suffered from state regulations that while suppose to protect us, benefited our neighbors (like London financial sector: Natixis and Société Général, French investment banks, decided to move some of their experts from Paris to London to the detriment of Paris) furthermore I tend to believe that with more fluid flows of capitals around the globe (e.g. in the Euro area), France has suffered from social movements against reforms. Another illustration, cross-border liabilities have increased in the nineties, and there is a growing share of non-bank to non-bank liabilities, I would assume that investors are sensitive to the social stability of a country before investing. A study by the European Union Chamber of Commerce in China on Chinese foreign direct investment mentioned : « Labour laws are the key issue. Lack of labour market flexibility and working hours are hard to cope with, especially in France. Taxes on labour are very high too. This is probably a cultural issue that we need to adapt to. »
The French start-up scene, some positive signs
1. future world’s biggest digital incubateur, in Paris
Xavier Niel bought La Halle Freyssinet from SNCF to install the future world’s biggest digital incubateur, in Paris intramuros.
2. heart of code, in Paris
Xavier Niel also engaged in education, with his no-tuition-school: 42. Students are trained without teachers nor amphitheaters in the “heart of code”, they are allocated each a computer and have to deliver many projects during the three-year curriculum.
The 42 school’s pedagogy is based on a peer-to-peer model. This is quite consistent with the way we nowadays tend to learn a new software or programming language, we don’t go to a class or buy a book, we rather ask colleagues, friends, and type search queries like “software name + how to + program step (like select and delete all 4-letter-words in a string of characters)” and learn in a “trial and error and ask the community” way.
42 is a brick in the ecosystem Xavier Niel, the venture capitalist, is setting up. Interestingly, it is not foreseen that the school deliver a diploma nor publicly disclose a ranking of its 900 graduates. This is an information I could believe Xavier Niel values around 20 million € a year for the following reasons:
- it is like being the only one having the stats of football players before deciding who to bet your money on for the world cup, as a venture capitalist, the information on who are the best talents is key,
- as Timothy Spangler, author about the Private Equity business, explained, “firms such as Goldman Sachs and Morgan Stanley have added “talent introduction” to the long list of services that they offer to their more lucrative hedge fund clients. By placing senior professionals into a hedge fund, the banks hope to reap the benefits of those relationships for years to come […] hedge funds amount to as much as 35% of the brokerage commissions paid of the leading investment banks, so winning and maintaining trade relationships with these funds is an important source of profits […] creating extensive data bases of industry personnel and skill sets is a simple way to maintain close ties with key decision-makers […] [the banks] provide these services for free, simply in the hope of earning future commissions.” So I could think of such a service Xavier Niel will be able to offer to big Tech companies in exchange of services.
It is very encouraging to see that as a venture capitalist, Xaviel Niel invests heavily in France at an early stage of value creation, in fact at the earliest I could imagine: education. It is quite hard to quantify the correlation between education and a country’s growth, a recent study suggests that “a 1 per cent rise in the share of the workforce with a university education raises the level of productivity by 0.2-0.5 per cent in the long-run”.
3. a 2002 French law spuring entrepreneurial activity
A study from Antoinette Schoar, “Can Unemployment Insurance Spur Entrepreneurial Activity ? Evidence From France” is quite encouraging, it seems that french entrepreneurs that started a business in the wake of the 2002 law were statistically as successful as the average before that law, according to the study, in other words the 2002 law increased the number of new start-ups in France without significantly raising their probability of failure.
4. French pigeons flying like eagles
Following a debate started by a post from a french venture capitalist, Jean-David Chamboredon, the french government recognized the specificity of investing in start-ups and granted a low 25% tax on added-value if the entrepreneur sells its his shares after 8 years ( figure not so far from the US ones’s), for the investor, it is 35% after 8 years.
5. a softening banks’ monopoly in France
There has been some interesting work done by Fleur Pellerin to help crowdfunding develop in France and the French regulators are also looking at “softening banks’ monopoly”.
It is still too early to determine if those actions have a significant effect on the start-up scene, and I wonder why we decided to regulate crowdfunding in France before it reached a critical mass where one could say “it has an impact on our economy” and we could assess the contribution (negative or positive) of our regulations.
Some progress still to be made in France in the Private Equity sector
The first point that prevents me from sharing Xavier Niel enthusiasm is the way we finance (or sometimes don’t) small businesses in France. As Jean-David Chamboredon points out, french SMEs are suffering from a lack of private equity: 92% of french SME’s funding come from debt while 80% come from equity for their US counterparts. Banks tend to favor liquid and risk limited investments (this concerns how french banks typically invest the money they gets from the general public producs – “assurance-vie” or “livrets” – that amount to 1,75 billion euros) and even money from french banks stocks investment products (PEA) are allocated to the major public companies.
The new regulation (CRD IV/CRR derived from Basel III) Europe is implementing is not helping SMEs in need of funding. SME is namely impacted by the capital conservation buffer.
As the way the regulator calculates weights are related to the risk of the exposure, banks have not a strong incentive to lend to SME’s as they are considered to have a 55% higher probability of default than the corporate sector average. This regulation does protect the taxpayer from having to pay for the systemic risk, but as banks seems heavily focused on maximizing their Return on Equity, it deters banks from lending to SMEs in Europe which ironically the taxpayer seem to pay in another way (unemployment). Indeed, in Europe, SME create more jobs: “In 2010, there were over 20.8 million enterprises active in the non-financial business sector in the European Union, of which 99.8% were SMEs. About 92% of the total business sector consists of micro enterprises, which employ fewer than 10 persons. The typical European firm is a micro firm. About 67% of the employment in the non-financial business economy is provided by SMEs. […] In terms of job creation, enterprise birth and death play a very important role. Of the newly born enterprises, only 50% survive after 5 years. In the period 2004-2008, most employment growth was generated by newly born SMEs (up to 5 years old in 2008). […] Some of the newly born enterprises grew during the first five years of their existence, compensating for the job losses caused by the decline of newly born enterprises.
Taking these effects altogether, about 85% of jobs newly created during these five years were still in existence after five years. This emphasises the role of enterprise birth as an engine of employment growth.”
“Between 2002 and 2010, 85% of total employment growth was attributable to SMEs […]”
This is why I tend to think we ought to foster an attractive environment for Private Equity funds in France.
Service, software, but what about hardware?
The second concern I have is less quantitative (or I don’t have the data to support my intuitions) but rather some questions I have about Xavier Niel’s enthusiasm.
When investors are celebrating the success of French start-ups, most of them tend to be service and/or software oriented. How are French start-up performing when it comes to hardware?
We’ve all heard about the “garage start-up myth“, and it does sound good at a Q&A session, we would love to believe that Larry Page and Sergey Brin founded Google in a garage… but in fact they raised more than $1 million before they moved to the garage, “which they did to honor Hewlett-Packard’s humble start, as well as help a pal who needed the rent money for her mortgage” and looking at Jobs and Wozniak careers before creating Apple, it seems that “Companies are born in companies”. Looking beyond start-ups myths, it seems that you don’t just need a good algorithm and a garage to start a successful business, funding and network are key.
The European Space Agency has understood this and developed a Technology Transfer Programme Office, a space start-up incubator.
If funding is key, hardware is also very important I would add.
Google recently bought Skybox Imaging for $500 million, a company specialized in high definition Earth observation (satellites hardware) and Titan Aerospace, that is working on drones to fly non-stop on solar power.
Apple comparative advantage is its hardware design and its products correlations.
Microsoft bought Nokia.
Amazon is producing one of the best e-reader (the Kindle) and owns huge IT infrastructures. Amazon recently won against IBM for the CIA cloud bid.
If I focus on the smartphone industry, Europe seems to be behind in terms of hardware.
Wiko mobile, a smartphone company, is lead by Laurent Dahan in France, but he is a specialist in logistics and in fact the company is own by Tinno a Chinese phone constructor, and has ranked third in the French smartphone market. Wiko has actually benefited form the Xaviel Niel “Free” non binding mobile phone contracts and has played on the “French touch” which is interesting as the design and manufacture seem to be made in China.
Alcatel One Touch, another smartphone brand with a French connotation is actual own by TCL corporation, a Chinese company in the Guangdong province.
Where I come back to the aircraft carriers concept
To conclude my thoughts, I come back to the aircraft carriers concept. As hardware is an important factor for success, and as the start-up garage myth has been debunked, it is very encouraging to see established French champions like SNCF to foster start-ups burgeonings in France and help them benefit from their network, funds, and hardware.
This is a very interesting and positive microeconomics model which I believe is worth studying further to establish the optimal conditions (the win-win scenarios).