ACCESS TO FINANCE AS A PRESSING PROBLEM: EVIDENCE FROM INNOVATIVE EUROPEAN FIRMS

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1 International Centre for Innovation Technology and ACCESS TO FINANCE AS A PRESSING PROBLEM: EVIDENCE FROM INNOVATIVE EUROPEAN FIRMS Authors Anabela Santos 1 & Michele Cincera 2 1 icite Solvay Brussels School of Economics and Management, Université libre de Bruxelles. 50, avenue F.D. Roosevelt CP114/ Brussels (Belgium) asantos@ulb.ac.be 2 icite Solvay Brussels School of Economics and Management, Université libre de Bruxelles. 50, avenue F.D. Roosevelt CP114/ Brussels (Belgium) mcincera@ulb.ac.be icite Working Paper icite - International Centre for Innovation, Technology and Education Studies Université Libre de Bruxelles CP114/05 50, avenue F.D. Roosevelt B-1050 Bruxelles Belgium

2 Access to finance as a pressing problem: Evidence from innovative European firms 1 Anabela Santos 2 (corresponding author) Université libre de Bruxelles icite (Belgium) asantos@ulb.ac.be Michele Cincera Université libre de Bruxelles icite and ECARES (Belgium) mcincera@ulb.ac.be Abstract Using an ordinal generalized linear model and survey data from European firms, the present paper provides evidence about how much access to finance is a pressing problem for innovative firms and which obstacles in the financial market affect firms financing constraints. After controlling for firms characteristics and market conditions, the results show that innovative European firms, compared to non-innovative ones, are more likely to perceive access to finance as an extremely pressing problem, and these constraints are stressed even more by smaller firms and according to the number of different types of innovation launched in the market. Interpretation of the model s specifications also reveals that the most pressing problem affecting the degree of access to finance is the non-availability of financing in the capital market and firms insufficient collateral or guarantee, for both innovative and non-innovative firms. Moreover, assessing the impact of several factors affecting future financing, we found that for innovative SMEs, in addition to guarantees for loans, a major solution to fill the market gap is to facilitate equity investments, whereas for innovative non-smes the answer lies in the provision of better business support services. All these conclusions could be very useful for policy guidelines, providing some orientation about different needs as a function of firm size. Keywords: access to finance; innovative firms; European Union. JEL Classification: O16; O31; O52. 1 This research has received funding from the European Union s Horizon 2020 research and innovation programme under grant agreement No The authors are grateful to European Central Bank (ECB) for providing access to SAFE database. Page 2

3 1. Introduction Joseph Schumpeter (1934) was the first to defend the idea that financial intermediaries in capital markets are essential for innovation and economic growth. However, until the seminal contribution of King and Levine (1993a; 1993b), the link between finance and growth was frequently challenged. These authors demonstrated that a better financial system improves the probability of successful innovation and in this way accelerates economic growth and development. Access to finance is therefore considered a key driver in fostering economic growth and innovation. However, firms are faced with financing constraints, due to asymmetric information and moral hazard (Hall, 2002; Hall and Lerner, 2010), and these difficulties in accessing finance have been highlighted by many authors (Savignac, 2008; Brown et al., 2012; Silva and Carreira, 2012; Coad et al., 2016) as a major obstacle to innovation. Promoting Research and Development (R&D) activities is the main goal of the EU 2020 Strategy, in order to achieve a level of total (public and private) R&D spending of at least 3% of GDP. Presently, European Union Member states have a lower performance than the US and Japan, mainly due to the lower levels of private R&D investment (European Commission, 2011:1, Cincera and Veugelers, 2013). The Innovation Union is one of the seven flagship initiatives of the EU 2020 Strategy, which aims to i) improve access to finance for R&D; ii) get innovative ideas to the market; iii) ensure growth and jobs (European Commission, 2014a). The identification of financially constrained firms is particularly important for policy-makers in order to design effective policy orientation and to give public support to firms most in need (Hottenrott and Peters, 2012). Indeed, the scientific literature has also emphasized that financing constraints are not homogeneous among firms. Innovative firms have more constraints and difficulties in accessing external finance, due to higher uncertainty and riskier projects compared to traditional businesses (Hall, 2009; Lee et al., 2015). Smaller firms also have more difficulties in accessing external sources of finance (Cincera, 2003; Beck et al., 2008; Czarnitzki and Hottenrott, 2011), whereas older and foreign-owned firms report fewer financing obstacles (Beck et al., 2006). The presence of financing constraints has been assessed essentially through direct or indirect measures 3. Indirect indicators are linked with firms financial statements regarding their self-financing capacity and, for example, cash flow. Direct measures are based on survey data and are the results of entrepreneur perception and self-evaluation of financing constraints. 3 For a survey of the literature on methodologies used for measuring financing constraints, see e.g. Hall et al. (2016). Page 3

4 The present study focuses on a direct assessment of financing constraints through the anonymous survey on SMEs access to finance in the euro area (SAFE), undertaken by the European Central Bank (ECB). Using an ordinal generalized linear model and data from 6,341 European firms 4, the paper provides evidence about how much access to finance is a pressing problem for innovative firms and which obstacles in the financial market affect firms financing constraints. The contribution and originality of the paper are based on a better understanding of which external factors in the financial market are more limiting as regards the provision of finance. Indeed, most studies carried out have focused more on identifying the determinants of financing constraints based on firms characteristics or countries institutional factors. However, in this study we intend to go further and assess which constraints on the supply side lead to financing constraints. The paper is structured as follows. Section 2 presents the theoretical framework of the study and a short review of the literature on the determinants of firms financing constraints. Section 3 provides information about the conceptual framework. Section 4 describes the data and methodology used in the study. Section 5 discusses the results. Section 6 concludes and provides some policy recommendations. 2. Identifying determinants of firms financing obstacles The literature review about financing obstacles highlighted essentially firm size, age, ownership, strategic decisions, performance, financial wealth, activity sector and complementary financing as firm characteristics or behavior causing or relieving such constraints. Smaller firms are more constrained (Cincera, 2003; Beck et al., 2006; Canepa and Stoneman, 2008; Czarnitzki and Hottenrott, 2011; Macusi and Vezzulli, 2014; Coad et al., 2016), since by definition and compared to large firms, they have less capital and physical assets which could be used as collateral for bank finance. Young firms are also more constrained (Canepa and Stoneman, 2002; Beck, et al., 2006; Macusi and Vezzulli, 2014, Cincera et al., 2016) due to significant information asymmetry since not enough time has passed to observe firm performance and build relationships and reputation with suppliers (Gertler, 1988) and banks (Martinelli, 1997). Firm age can also be an indicator of firm s quality, since longevity may contain a signal for survival ability and quality of management (Drakos and Giannakopoulos, 2011: 1776). Moreover, as younger firms have started up more recently, they cannot use profit accumulation (Czarnitzi and Hottenrott, 2011) or internal funds to finance their projects. 4 We use data from the first survey of 2015 which covers the period from April to September 2015 and includes firms from the 28 European Union countries. Page 4

5 Firms with good past performance are less likely to be financially constrained (Savignac, 2008) or to experience credit rationing 5 (Drakos and Giannakopoulos, 2011). Profitability or sales growth can be a proxy for a successful business, reducing uncertainty about the firm s capacity to repay its debt. Another way to reduce bank financing constraints is to use complementary sources of funding, such as own funds or equity. Firms with a large share of own funds are less likely to be financially constrained (Savignac, 2008), because on the one hand, they can use their own funds for financial needs, being less dependent on external sources, and on the other hand, this can reduce banks uncertainty about debt repayment. Firms funded by a Venture Capitalist 6 (VC) or by another Private Equity (PE) are usually also less constrained, because according to Capizzi et al. (2011), after these entities enter firm equity, firms can gain greater access to bank credit on better terms, which can be seen as a certification effect and a signal of project quality. Foreign ownership of a firm compared to domestic ownership (Drakos and Giannakopoulos, 2011; Gorodnichenko and Schnitzer, 2013), as well as firms listed on the stock market are less constrained (Oliner and Rudebush, 1992). Firms with a foreign company as the main shareholder offer greater credibility for firm investment and commitment (Drakos and Giannakopoulos, 2011). In addition, their relationship with the international market also opens up new possibilities for financing their growth ambitions in other markets. Firms listed on the stock exchange, which are also more likely to be owned by foreigners (Beck et al., 2006), showed in general fewer financing constraints, because information asymmetry is less important (Oliner and Rudebush, 1992). Indeed, listed firms need to fulfill a number of requirements concerning the publication and filing of their financial reporting, making information about them more accessible and reducing information asymmetry. Firms sector of activity can also influence the level of financing constraints. According to Canepa and Stoneman (2002), riskier and less profitable activities are more likely to be affected by financial constraints. Firms operating in high-tech sectors are also more likely to experience a greater impact from financial constraints than firms in low-tech sectors (Canepa and Stoneman, 2008). Firms strategic decisions, such as developing and launching a new product are also a determinant of financing obstacles. Innovative firms are usually more constrained than non-innovative ones (Hall, 2009; Hall and Lerner, 2010; Lee et al. 2015). The result of investment in innovation is often 5 The concept of credit rationing refers to a situation where a firm desires additional bank financing at a given interest rate, even if higher than the market average (Mancusi and Vezzulli, 2014), making an unsuccessful application (Altomonte et al., 2016). 6 Venture capital is equity capital provided to a private firm by an investor(s) in exchange for a share of the ownership of the firm (Damodaran, 2006:279). Page 5

6 uncertain, because technological change produces uncertainty for all the economic actors involved (Mazzucato, 2013). First, we have the uncertainty of the research result Will it be successful? Will the new product work? Second, we have the uncertainty of product acceptance in the market Will we be able to sell the product? Third, we have the uncertainty about investment return How long should we wait to recover the investment made? Finally, there is also uncertainty due to asymmetric information, because R&D performers try to keep some project information secret, in order to avoid knowledge leakages to rival firms. However, in the absence of detailed information, project financing may not be forthcoming (Shah, 1994). Furthermore, innovative firms have fewer collateralizable assets (Hall and Lerner, 2010), because the capital created by R&D is largely intangible 7 and firmspecific, limiting its resale market value (Hall, 2009:11). Thus, due to uncertainty and risk, traditional financial markets and financial institutions are reluctant to invest in R&D projects compared to more traditional business projects (Mazzucato, 2013). The severity of financial frictions decreases with the level of financial market development, which is positively correlated with a country s level of development (Gorodnichenko, and Schnitzer, 2013). Regulatory policies, such as business environment reforms, can be important to push the financial system towards the frontier of SME lending (Beck, 2007). Finally, concerning the nature of financing obstacles, Beck et al. (2006), in a firm-level study of the World Business Environment Survey (WBES) for the period 1999/2000, assesses the nature of obstacles in the financial sector. The study reveals that high interest rates and the lack of access to long-term loans are the main specific financial obstacles that firms are faced with. According to these authors, smaller firms are also more likely than larger ones to be confronted with several financial obstacles, such as i) collateral requirements of banks and financial institutions, ii) bank paperwork and bureaucracy, iii) high interest rates, iv) need for special connections with banks and financial institutions, v) banks lack of money to lend, vi) access to foreign banks, vii) inadequate credit and financial information on customers, viii) access to long-term loans, and ix) corrupt bank officials. 3. Conceptual framework and hypotheses The aim of the present paper is to provide evidence about how much access to finance is a pressing problem for innovative firms and which factors affect firms access to finance. Our dependent variable is firms self-assessment about how much access to finance is a pressing problem for business development on a scale ranging from 1 to 10, where 1 means not at all important and 10 means extremely important. Explanatory variables (Figure 1) are based on the determinants of financing 7 Most expenditure (50% or more) on R&D investment goes toward paying scientists and engineers salaries (Hall, 2009). Page 6

7 constraints identified in the literature, namely, i) firm size; ii) firm age; iii) firm growth or performance, measured by a dummy variable indicating whether a firm is fast growing or not; iv) type of ownership e.g. firm listed on the stock market or private equity-backed firm; v) the use of alternative sources of financing, e.g. firms own capital; vi) market conditions, such as the issue of regulation, cost and demand for firm products; vii) firms sector of activity; viii) firms strategic decisions to innovate. Concerning firms strategic decisions to innovate, we will use two types of indicators. The first corresponds to the statement of being an innovative firm, taking into account the definition of innovation provided by Schumpeter (1934) and OECD (2015) 8 : a) introducing a new or improved product or service; b) developing a new or improved production process or method; c) introducing a new organization of management; d) or a new way of selling goods or services. The second kind of indicator measures how many different types of innovation, among the four listed previously, a firm has introduced internally or on the market, the value of zero meaning that the firm is considered non-innovative. Figure 1. Framework of the study Internal factors Firm characteristics Size Activity Ownership Age Performance Innovation Market conditions Demand (customers) Cost Regulation External factors Problem Availability of financing Price Bureaucracy Collateral requirement Losing firm control Financial market (supply side) Solution Guarantees for loans Export credits Tax incentives Business support services Make it easier to access public support or equity market Source: Authors own elaboration. Note: For more details about variable description see Appendix A. In addition to external factors included in market conditions, we also considered other variables linked with the financial market, namely obstacles and limitations identified by firms, which could influence future financing and explain the degree of the financing problem. These explanatory variables are divided in two groups, one group including those factors that can be considered as problems on the supply side (such as price, availability and bureaucracy) and a second group with variables that reflect potential solutions (important factors to obtain future financing) to facilitate access to finance. A positive relationship between these explanatory variables and the level of access to finance could reveal that the more important a factor or an obstacle to future financing, the more difficulties firms have in accessing finance, which could indicate where a gap exists and the importance of a factor in 8 According to the OECD (2005), an innovative firm is one that has implemented an innovation during the period under review. For Schumpeter (1934), the concept of innovation is linked with: i) the introduction of a new product or process or the improvement of an existing one, namely through new inputs; ii) opening a new market; iii) or changes in industrial organization. Page 7

8 explaining the degree of financing constraints. On the other hand, a negative relationship between explanatory variables and the variable of interest, explaining that the more important a factor is to ensure future financing the fewer difficulties firms have in accessing finance, could indicate that policy intervention in this area or for this kind of firm is less necessary. For more details about description of the variables, see Appendix A. Furthermore, to identify where the problem is in the financial market and the solution to fill the gap, the present paper also intends to provide an answer to the following questions: Has innovative behavior a positive impact on the degree of firms financing constraints? Have innovative firms, compared to non-innovative ones, different obstacles explaining the difficulties in accessing external finance? Have smaller innovative firms different needs to ensure access to finance? 4. Data and methodology The database comes from the anonymous Survey on the Access to Finance of SMEs in the euro area (SAFE), undertaken bi-annually by the European Central Bank since We used data from the first round of 2015, which covers the period from April to September Firms surveyed are located in countries belonging to the Euro area as well as other EU member States and other countries (such as Albania, the former Yugoslav Republic of Macedonia, Iceland, Montenegro and Turkey). After selecting only firms located in EU28 and with valid answers to all questions or dimensions that we want to include in the models and listed in Figure 1, the final sample contains 6,431 observations. Appendix B illustrates the geographical distribution of the sample. Taking into account the nature of the dependent variable (categorical and ordered), we use an ordered regression model 9 (1) which estimated the probability of observing m ordered choices considering a set of independent variables.there are several versions of ordered regression models 10, and in the present study we use the generalized linear modeling 11 (GLM) framework of McCullagh and Nelder (1989). The model estimation assumes that the outcome is the realization of a random variable based on a probability distribution and a specific link function, which relate the linear predictor to the expected value or probability of interest (Fullerton and Xu, 2016:11). 9 We also performed a single-equation instrumental variables (IV) regression, with both two-stage least squares (2SLS) and generalized method of moments (GMM), in order to test for potential endogeneity of innovation behavior, considering as instrumental variable firm-level innovation. This approach is similar to the one implemented by Dabla-Noris et al. (2012). Nevertheless, the results indicated that innovation behavior is an exogenous variable. These results are available on request. We are also working on an alternative approach to assess endogeneity and using a recursive bivariate Probit model, the results of which will be available very soon in Santos and Cincera (2017). 10 Namely through Maximum Likelihood Estimation (MLE) and Generalized Linear Model (GLM). 11 We use the GLM framework because it allows testing the suitability of at least four types of link function (probit, logit, loglog and cloglog), whereas MLE only allows using two of them (probit or logit). Page 8

9 Pr(Y i = m x i ) = Pr(γ m 1 < Y i γ m x i ) = G(γ m x i β) G(γ m 1 x i β) Where: (1) Y i = dependent variable, which represents the level of difficulty in accessing finance; m = represents the ordered choices; x i = vector of independent variable; G =link function (e.g. logit, probit, loglog, cloglog or cauchit); γ m =represents the cut-off points or the thresholds of each choice category; and β = vector of regression coefficients. For the link function, we choose a complementary log-log because after running alternative model specifications with other options, this is the only function for which the specification link test for single-equation model indicated that the model is specified correctly 12.The correlation matrix, reported in Appendix D, also reveals that the explanatory variables included in the model are not correlated. 4. Results and discussion 4.1. Data description Table C1 in Appendix C reports the distribution of the sample by firm characteristics, market conditions, obstacles and important factors regarding future financing. The sample is essentially composed of SMEs (96%), older firms (78%) and firms that are owned mainly by one or more individuals (78%). Regarding distribution by activity sector, all categories are quite well represented, despite a higher proportion of services to businesses or individuals (36%) and a smaller number of firms in the construction sector (10%). Nearly 67% of firms have launched an innovation on the market or in their own organization (such as a new process, work restructuring or new way of selling). On average, firms have introduced more than one type of innovation. The score for the financing problem is, on average, 4.78 (Table C1 Appendix C). This value decreases with firm size and age (Table 1). Innovative firms are on average 0.5 points more constrained than their non-innovative counterparts (4.95 versus 4.44). Firms operating in services to businesses or individuals showed the lowest scores: 4.61 versus 4.95 for construction, 4.91 for industry and 4.82 for trade. Public ownership and other owners appear to have fewer difficulties in accessing finance than all other types of ownership. Private equity-backed firms report the highest scores of all types of ownership. 12 These estimations are available on request. Page 9

10 Table 1. Mean of financing problem score by group Variable Mean Variable Mean Size: Micro 4.92 Activity: Industry 4.91 Size: Small 4.90 Activity: Services 4.61 Size: Medium 4.67 Activity: Trade 4.82 Size: Large (non-smes) 3.94 Activity: Construction 4.95 Age: Young firm 4.99 Innovative firm 4.95 Age: Mature firm 4.95 Non-Innovative firm 4.44 Age: Old firm 4.73 Own capital: Increase 4.34 Ownership: VC or business angel 5.86 Own capital: Decrease or unchanged 5.07 Ownership: public shareholders 4.19 Fast growing firm 4.93 Ownership: other firms 4.32 Non-fast growing firm 4.74 Ownership: other owner 4.19 No obstacle to get future financing 3.69 Ownership: One or more natural person 4.91 Having an obstacle to get future financing 5.59 Source: Authors own elaboration. Firms able to increase their own capital provided by owners or shareholders are shown to be less financially constrained than others (4.34 versus 5.07). Fast growing firms have greater financing problems than non-fast growing ones. Finally, firms reporting some obstacles for future financing are more constrained. Innovative firms show a higher frequency of obstacles to future finance than non-innovative ones (Table 2). The degree of different instruments importance to ensure financing support, such as equity, tax incentives or public funding, is also higher for innovative firms. Table 2. Differences of mean for innovative and non-innovative firms: obstacles and important factors regarding future financing Variables Innovative Non-Innovative Mean Std. Dev. Mean Std. Dev. Diff Importance: guarantees for loans *** Importance: easier access to equity *** Importance: export credit *** Importance: tax incentives *** Importance: business support services *** Importance: easier access to public measures *** No obstacle to future financing 41% % *** Obstacle: price 12% % Obstacle: loss of control 4% % *** Obstacle: bureaucracy 8% % Obstacle: financing availability 6% % Obstacle: collateral 17% % Obstacle: other 12% % ** Source: Authors own elaboration. Note: Number of observations = 6.341, with innovative firms = and non-innovative firms = Page 10

11 4.2. Interpretation of ordered regression model of European firms We performed several GLM complementary log-log models considering the two alternatives of innovation measures (Table E1 and Table E2 in Appendix E). The first model in columns 1 and 9 included only firms characteristics and market conditions. The second model in columns 3 and 11 also includes the main obstacles to future financing. The third model in columns 5 and 13 takes into account firms characteristics, market conditions and important factors regarding future financing. Finally, the fourth model in columns 7 and 15 includes all variables. The fact of being an innovative firm only has a positive and significant impact in the first three models, whereas the number of innovation types launched or introduced by firms is positively significant in all models. This could mean, as expected, that innovative firms have greater problems in accessing finance, but this effect is more robust when the measure of innovation concerns the number of innovation types. Indeed, the level of financing constraints increases with the number of innovation types launched or introduced by firms, probably because the launching of more than one type of innovation is more complex and risky, making access to finance more difficult. Figure 2. Average probability of each level of access to finance as a pressing problem by group: innovative and non-innovative firms 24,0% 19,0% 20,6% 25,2% 14,0% 9,0% 4,0% 14,2% 14,1% 10,1% 10,7% 11,1% 10,0% 10,9% 8,9% 9,0% 7,8% 8,3% 5,3% 5,5% 6,6% 6,1% 5,4% 5,6% 4,5% Finance = 1 Finance = 2 Finance = 3 Finance = 4 Finance = 5 Finance = 6 Finance = 7 Finance = 8 Finance = 9 Finance = 10 Innovative Non-Innovative Source: Authors own elaboration based on data from Table F2 in Appendix F. The results (Appendix F) also indicate that innovative European firms, compared to non-innovative ones, have a 2.6% higher probability of perceiving access to finance as an extremely pressing problem (Figure 2), and these constraints are stressed even more by smaller firms and according to the number Page 11

12 of different types of innovation launched in the market 13. For example, the probability of perceiving access to finance as an extremely pressing problem for innovative micro-sized firms is around 14.5% whereas for non-smes it is 5%. Firms that have launched four different types of innovation, compared to non-innovative firms, show a higher probability of seeing access to finance as an extremely pressing problem, approximately 4.6%, whereas for firms that have introduced only one type of innovation this difference is only 0.8%. Firms operating in industry, trade or construction sectors, compared with services to businesses or individuals, are characterized by a higher degree of financing problems, which means that service activities are less constrained than others, perhaps because they are less risky than other activities. Firm size, age and fast growing firms seem not to be significant, possibly because there are other more relevant factors explaining the degree of financing problems. Firms whose main owner is a public shareholder, compared to the reference category, encounter fewer difficulties in accessing finance, whereas private equity-backed firms or those owned mainly by one or more individuals show an inverse relationship. According to the literature, firms listed on the stock market or private equity-backed firms are less financially constrained, but the present study only confirms the first hypothesis. One possible explanation for this finding could be that private equity entities entry in firms capital is recent and the effect is not yet visible. An increase of the firm s own capital, as expected, decreases the level of financing constraints. Indeed, if firms are able to use an alternative financing solution, they will be less dependent on external sources. In addition, if firms show banks that a share of the investment will be funded by own capital, banks will be less reluctant to give finance because risks are lower than in a situation where they fund a larger amount. Concerning market conditions, greater difficulty in finding customers increases the probability of access to finance being a pressing problem. A similar conclusion could also be found for firms that perceived the cost of production or labor and regulation as a major problem for their business. The first two factors (customers and cost) have an impact on firm cash-flow, both in the inflows and outflows of liquidity, which lead to financing constraints. The significance of the third factor could mean that European or country-specific legislation could have an impact on the ease or difficulty of accessing finance, which could also explain why measures to facilitate access to equity or public support are important. 13 Firms could have launched one or several of the following types of innovation on the market: a) product or service; b) production process or method; c) organization of management; d) way of selling goods or services. Page 12

13 Regarding the main factors limiting financing for European firms, we can see from the magnitude of the coefficient that the non-availability of financing in the capital market and firms insufficient collateral or guarantee are the two most relevant factors. In addition to guarantees for loans, the model shows that measures to facilitate equity investments represent the second most relevant factor for obtaining finance. This reveals that in the absence of financing possibilities in the market, firms need to find alternative solutions for their growth ambitions, such as Venture Capital and Business Angels. Nevertheless, the private equity market in the EU is still undeveloped (PwC, 2015) and less attractive than in the USA (Groh, von Liechtenstein and Lieser, 2010) Assessing differences regarding innovative firms To assess differences between innovative and non-innovative firms, we performed a GLM complementary log-log model for each group (Table E3 Appendix E). As a complement and to evaluate differences between innovative firms by firm size, we also estimated a GLM cloglog model for each category: micro, small and medium-sized firms and non-smes (Table E4 Appendix E). The non-availability of financing in the capital market, firms insufficient collateral or guarantee and the price of financing are for both groups, innovative and non-innovative firms, the main obstacles explaining the difficulty of access to finance, whereas the loss of control and bureaucracy are two obstacles found to be positive and significant only for innovative firms. Concerning the importance of different factors in obtaining future financing, for innovative firms guarantees for loans and measures to facilitate equity investments are the most relevant factors, whereas for non-innovative firms export credit followed by guarantees for loans stand out (Table 3). Business support services are also only significant for non-innovative firms. Table 3. Important factors to obtain future financing by group The most important factors to obtain future Firm group financing Guarantees for loans Innovative firm Easier access to equity Export credit Non-Innovative firm Guarantees for loans Guarantees for loans Micro innovative firm Easier access to equity Guarantees for loans Small innovative firm Easier access to equity Guarantees for loans Medium innovative firm Easier access to equity Large (non-smes) innovative firm Business support services Source: Authors own elaboration based on data from Table E3 and E4 in Appendix E. Page 13

14 The importance of easy access to public support and tax incentives are in turn only significant for innovative firms but with an opposite impact. Easy access to public support has a positive impact on the level of financing constraints, but appears to be the least relevant factor, and tax incentives have a negative effect. These findings could suggest that on the one hand, firms for which tax incentives are a relevant factor in future financing are less financially constrained, perhaps because this policy measure implies financial compensation for an investment or an expenditure already made, so firms have a priori financial resources to do so. On the other hand, taking into account that financing constraints are essentially linked with liquidity problems, the lesser importance of public support and tax incentives could be due to the inappropriate use of this instrument in all stages of the firm s life and product cycle. Indeed, tax incentives and public support for R&D provide financial support at the starting point of the innovation process, but do not help firms in the next steps, to place innovation in the market 14. To obtain financial resources for cash flow, firms can usually resort to a credit line 15 or bank overdraft 16, but a recent study (see Santos et al., 2017) showed that innovative firms, due to their riskier activities, have to pay a higher interest rate and are more likely to see the collateral requirement increased than non-innovative firms. These conclusions are in line with the findings of the present paper, where guarantees for loans are one of the main causes of firms problems in accessing finance. Concerning differences among innovative firms (Table E4 Appendix E), there are more differences between SMEs and non-smes, than between categories of SMEs. For innovative SMEs, the nonavailability of financing and firms insufficient collateral or guarantee are the main obstacles explaining the difficulty of access to finance, whereas for innovative non-smes the main problem is the cost of financing. Guarantees for loans and measures to facilitate access to equity are for SMEs the most important factors explaining financing constraints, while for non-smes the most relevant factor is business support services. 5. Conclusion and policy recommendations Using survey data, the present paper provides evidence about which obstacles on the supply side of the financial market have a higher impact on firms financing constraints and what the solution can be to fill the market gap. After identifying that innovation behavior has a positive impact on the level of financing constraints, which is in line with Lee et al. (2015), we show that innovative and non- 14 Firms additional current expenditure linked with the introduction of innovation in the market, such as the cost of purchasing raw materials are not an eligible cost (for more details, see framework for State aid for R&D and innovation European Commission, 2014b). 15 Credit line is a pre-arranged loan that can be used, in full or in part, at discretion and with limited advance warning. The difference between a bank loan and credit line is that in the case of a bank loan, the precise amount of the loan and the dates of repayments are usually fixed, while in the case of a credit line, the borrower can draw only part of the money at discretion up to an agreed maximum balance, and interest is charged only on money actually withdrawn (SAFE, ECB). 16 Bank overdraft is a negative balance on a bank account with or without specific penalties (SAFE, ECB). Page 14

15 innovative firms are faced with similar obstacles in accessing external finance: the non-availability of finance in the capital market and firms insufficient collateral or guarantee. Nevertheless, both groups identify different important factors in obtaining future financing (Table 3). Innovative SMEs also report different needs to ensure access to financing, compared to non-innovative firms. While for SMEs, in addition to guarantee for loans, measures to make access to equity easier are important determinants, for non-smes ensuring business support services is revealed to be the most relevant factor. Concerning tax incentives and public support, surprisingly, these measures are not among the most important ways to overcome obstacles in the financial market, which is line with Silva and Carreira (2012) who found some evidence that subsidies cannot mitigate financing constraints. All these conclusions provide new suggestions for policy guidelines, in order to design effective policy orientation. As a complement to direct or indirect support for R&D and Innovation (more focused on investment in fixed assets), innovative companies also need financial support for daily activities. Launching a new product on the market has not only new production costs but also implies higher working capital needs, in order to pay suppliers and workers while the company finds new customers or markets and generates liquidity. Making venture capital operations easier, providing access to credit lines and guarantee for loans could complement direct and indirect support to reduce the financing pressure on innovative firms in Europe. References Altomonte, C.; Gamba, S. Mancusi, M. L. and Vezzulli, A. (2016). R&D investments, financing constraints, exporting and productivity, Economics of Innovation and New Technology, 25(3), pp DOI: / Beck, T. (2007). Financing constraints of SMEs in developing countries: Evidence, determinants and solutions, Tilburg University, p. 36. Available at: Beck, T., Demirgüç-Kunt, A. and Maksimovic, V. (2008). Financing patterns around the world: Are small firms different?,journal of Financial Economics, 89(3), pp Beck, T.; Demirgüç-Kunt, A., Laeven, L. and Maksimovic, V. (2006). The determinants of financing obstacles, Journal of International Money and Finance, 25(6), pp Brown, J. R. ; Martinsson, G. ; Petersen, B.C. (2012). Do financing constraints matter for R&D?,European Economic Review, 56(8), pp Canepa, A. and Stoneman, P. (2002). Financial constraints on innovation: a European cross country study, University of Warwick, EIFC - Technology and Finance Working Papers n , p. 41. Canepa, A. and Stoneman, P. (2008). Financial Constraints to Innovation in the UK: Evidence from CIS2 and CIS3, Oxford Economic Papers New Series, 60 (4), pp Capizzi, V.; Giovannini, R.; Pesic, V. (2011). The Role of Venture Capital and Private Equity for Innovation and Development of SMEs: Evidence from Italian Puzzle, Journal of Applied Finance & Banking, vol. 1 (3), pp Page 15

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18 Appendix Appendix A. Data description Table A1. Data description Variable name Variable description Dependent variable How much has been access to finance a pressing a problem for the firm in the past six months? Answer is on a scale of 1-10, Finance where 1 means it is not at all important and 10 means it is extremely important Innovation indicators = 1 if firms have launched in the past 12 months a new or improved product or services, developed a new or improved Innovative firm production process or method, introduced a new organization of management or a new way of selling their goods or services; 0 otherwise. N of innovation types introduced by firms (0-4) during the past 12 months. Zero means no innovation has been introduced in N of innovation type the market and firm is considered a non-innovative one. Firm size Firm size was divided in four categories (micro, small, medium and large-sized firms) taking into account the criteria: number of employees and amount of turnover, as reported in the Commission Recommendation 2003/361. Micro = 1 if micro firm; 0 otherwise. Small Medium Non-SMEs Firm s main activity sector Industry Trade Services Construction Firm s main ownership One or more natural person VC or business angel Public shareholders Other owner = 1 if small firm; 0 otherwise. = 1 if medium-sized firm; 0 otherwise. = 1 if non SMEs or large-sized firms; 0 otherwise. = 1 if firm s main activity is industry, which includes manufacturing, mining and electricity, gas and water supply; 0 otherwise. = 1 if firm s main activity is wholesale or retail trade; 0 otherwise. = 1 if firm s main activity is services to businesses or individuals, for example hotels and restaurants, IT services; 0 otherwise. = 1 if firm s main activity is construction; 0 otherwise. = 1 if firm s main ownership lies with one owner only, family or entrepreneurs; 0 otherwise. = 1 if firm s main ownership lies with venture capital enterprises or business angels; 0 otherwise. = 1 if firm s main ownership lies with public shareholders, as firm is listed on the stock market; 0 otherwise. = 1 if firm s main ownership lies with other enterprises, business associates or others not previously listed; 0 otherwise. Firm age Firm age was divided in three categories taking into account the criteria of Criscuolo et al. (2014). Young Mature Old Firm performance = 1 if it is a young firm less than 5 years old; 0 otherwise. = 1 if it is a mature firm between 5 and 10 years old; 0 otherwise. = 1 if it is an old firm more than 10 years old; 0 otherwise. Increase own capital = 1 if the firm has improved firm's capital provided by owners or shareholders; 0 otherwise. = 1 if it is a fast-growing firm; 0 otherwise. Fast growing firm According to Eurostat OECD (2007:61), fast-growing firms are all enterprises with average annualized growth greater than 20% per annum, over a three year period ( ) [and] growth can be measured by the number of employees or by turnover. Market conditions How important have the following problems been for firms in the past six months? Answer is on a scale of 1-10, where 1 means it is not at all important and 10 means it is extremely important Customer Finding customers. Cost Regulation Cost of production or labor, where labor costs include wages, employee benefits and payroll taxes paid. Regulation, for example, European and national laws, industrial regulations. Most important factor limiting access to future financing What do firms see as the most important limiting factor regarding future financing? Only one answer. Price Loss of control Bureaucracy Financing availability Collateral Other No obstacle = 1 if interest rates or price are too high; 0 otherwise. = 1 if reduced control over the enterprise; 0 otherwise. = 1 if too much paperwork is involved; 0 otherwise. = 1 if financing is not available at all; 0 otherwise. = 1 if collateral or guarantee is sufficient; 0 otherwise. = 1 if other; 0 otherwise. = 1 if there are no obstacles; 0 otherwise. Continued on the next page Page 18