Foreign Assistance: Enterprise Funds' Contributions to Private Sector
Development Vary (Letter Report, 09/14/1999, GAO/NSIAD-99-221).

A decade ago, the United States authorized enterprise funds as an
experimental model to support private sector development in Central and
Eastern Europe as those countries moved from centrally planned to
market-oriented economies. The funds, which are private, nonprofit U.S.
corporations, are supposed to make loans to, or investments in, small-
and medium-sized businesses in which other financial institutions are
reluctant to invest. With the breakup of the Soviet Union in 1991,
enterprise funds were established in the newly independent states. Ten
funds now operate in Central Europe and the former Soviet Union,
covering 19 countries with authorized funding of about $1.3 billion.
Enterprise funds receive their funding through the U.S. Agency for
International Development (USAID), which has primary responsibility for
monitoring the funds' operations. This report determines (1) whether
enterprise funds are assisting private sector development; (2) what
factors have affected the funds' ability to carry out their activities;
(3) whether funds still have a role in private sector development, in
light of other private investment and international donor efforts; (4)
whether the funds are more likely to recoup their authorized capital;
and (5) whether the funds are complying with recent changing in USAID's
reporting requirements.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  NSIAD-99-221
     TITLE:  Foreign Assistance: Enterprise Funds' Contributions to
	     Private Sector Development Vary
      DATE:  09/14/1999
   SUBJECT:  Foreign economic assistance
	     Financial management
	     Capital
	     Investments abroad
	     Foreign aid programs
	     Private sector
	     Reporting requirements
	     Economic growth
	     International economic relations
IDENTIFIER:  Polish-American Enterprise Fund
	     Czech and Slovak-American Enterprise Fund
	     Hungarian-American Enterprise Fund
	     Russian-American Enterprise Fund
	     Romanian-American Enterprise Fund
	     Baltic Enterprise Fund
	     Central Asian Enterprise Fund
	     Western Newly Independent States Enterprise Fund
	     Hungary
	     Poland
	     Bulgaria
	     Russia
	     Romania
	     Asia
	     Slovak Federal Republic
	     Czechoslovakia

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GAO/NSIAD-99-221

A
Report to Congressional Requesters
September 1999 FOREIGN ASSISTANCE
Enterprise Funds' Contributions to Private Sector
Development Vary
National Security and International Affairs Division
B- 283261 Letter September 14, 1999 The Honorable Benjamin A. Gilman Chairman, Committee on International Relations House of Representatives
The Honorable Doug Bereuter Chairman, Subcommittee on Asia and the Pacific Committee on International Relations House of Representatives
In 1989, the United States authorized enterprise funds as an experimental model to support private sector development in selected countries of Central and Eastern Europe as they transition from centrally planned to market- oriented economies. 1 The funds, which are private, nonprofit U. S. corporations, are supposed to make loans to, or investments in, small- and medium- sized businesses in which other financial institutions are reluctant to invest. With the breakup of the Soviet Union in 1991, enterprise funds were subsequently established in the newly independent states. Currently, 10 funds operate in Central Europe and the former Soviet Union, covering 19 countries with authorized funding of about $1.3 billion. 2 Enterprise
funds receive their funding through the U. S. Agency for International Development (USAID), and USAID has primary responsibility for monitoring the funds' operations. At your request, we determined (1) whether enterprise funds are assisting private sector development; (2) what factors have affected the funds' ability to carry out their activities; (3) whether funds still have a role in private sector development, given other private investment and international donor efforts; (4) whether the funds are likely to recoup their 1 The Support for East European Democracy (SEED) Act of 1989 (P. L. 101- 179) authorized the creation of enterprise funds in Poland and Hungary. Later, under the SEED Act and the FREEDOM Support Act of 1992 (P. L. 102- 511), eight additional funds were established in Central and Eastern Europe and the former Soviet Union. We reported on the first four enterprise funds in March 1994; see Enterprise Funds: Evolving Models for Private Sector Development in Central and Eastern Europe (

GAO/NSIAD-94-77
, Mar. 9, 1994).
2 Four funds operate in multiple countries. The Baltic fund includes Estonia, Latvia, and Lithuania; the Central Asian fund covers Kazakhstan, the Kyrgyz Republic, Tajikistan, Turkmenistan, and Uzbekistan; the Czech- Slovak fund operates primarily in the Slovak Republic, but also covers the Czech Republic; and the Western Newly Independent States fund covers Belarus, Moldova, and Ukraine.
authorized capital; and (5) whether the funds are complying with recent changes in USAID reporting requirements. In a separate letter, we address issues related to spin- off venture capital organizations that the Polish fund helped establish as well as U. S. government plans to use funds generated from the sale of Polish fund assets to help establish a foundation for further private sector development in Poland and to return some funds to the U. S. Treasury. 3 Differing economic conditions and legal and regulatory environments in each country and the length of time the respective funds have been operational make comparisons across funds difficult. To gain additional perspective and first- hand knowledge of fund operations, we visited the Russian and Romanian funds' in- country offices; toured investment sites; and met with U. S., host government, and fund officials. Both funds have been operational for about 4 to 5 years, with Russia being the largest fund ($ 440 million in authorized capital) and Romania one of the smaller funds ($ 50 million). Although the report contains information related to all 10 funds, we primarily relied on our examination of these 2 funds to address your interest in the continued relevance of enterprise funds. We also describe their investments, loans, and technical assistance activities in appendixes I and II, respectively. Results in Brief To varying degrees, enterprise funds in Central Europe and the former Soviet Union have engaged in investment activities that support private sector development in their host countries. Taken together, the 10
enterprise funds have made investments and loans in and provided technical assistance mainly to small- and medium- sized businesses totaling about $809 million through fiscal year 1998, using capital authorized in U. S. grants as well as investment proceeds. Nine funds have raised additional investment capital from investment partners on individual deals or by establishing private equity funds that attracted other investors. Capital raised this way totaled about $744 million, according to USAID. Most of the funds have taken steps to help strengthen financial institutions and encourage economic reforms. For example, the Polish, Russian, and Romanian funds trained bank personnel in credit risk evaluation and provided financing to small businesses; the Polish and Russian funds
initiated residential mortgage programs that did not previously exist in 3 See Foreign Assistance: Issues Concerning the Polish- American Enterprise Fund (GAO/ OGC- 99- 61R, Sept. 14, 1999).
their host countries; and the Polish, Romanian, and Albanian funds invested in host- country banks. Fund management and host- country legal, regulatory, and economic climates were key factors in the funds' ability to carry out their activities. According to U. S. and fund officials, the Polish fund was able to invest in the private sector and attract additional capital because, at least in part, the board and senior fund managers worked well together from the outset in managing the fund's assets. In contrast, U. S. officials characterized the Russian fund as slow to begin investing because its fund managers were
not initially located in- country and were not involved on a daily basis with fund operations. Other key factors included the recent Asian and Russian financial crises, which frightened away many private investors and curtailed some of the funds' investment activities, and, according to Russian fund officials, frequent changes in Russia's legal and tax codes, which made it difficult for the funds to enter into timely investment contracts. Based on our analysis of financial and investment patterns in Russia and Romania, the enterprise funds in both countries have a continuing development role for the foreseeable future. Despite private and international donor investments in these countries, the overall need for foreign investment capital and western business expertise in Russia and Romania continues unabated. For example, due in large measure to the recent financial crises, International Monetary Fund (IMF) statistics indicate that foreign direct investment in Russia decreased by 65 percent in 1998, underscoring the need for the fund's continued involvement. Furthermore, the nature of most foreign investment in Russia is different from much of the Russian fund's investments. Among other things, other foreign investment is predominantly in stocks and bonds and does not involve the direct transfer of western management skills. In contrast, the
Russian fund has focused on making direct investments in an attempt to influence long- term business and management reforms in the private sector. Determining whether enterprise funds will recoup their authorized capital is difficult because funds have 10- to 15- year life spans and, thus, long maturity periods for their investments. Enterprise funds are venture
capital- type funds that involve an inherent risk of financial loss individual investments will fail, but, in the long term, successful ventures are supposed to offset the losses. Although the Polish fund has not sold all its investments, it has finished making new investments and is expected to
recover its original authorized capital. Similarly, USAID officials expect the Hungarian and Romanian funds to recoup their authorized capital as well. In contrast, while the Czech- Slovak fund has not finished making new investments, U. S. and fund officials say that its early losses make it unlikely
that the fund can recoup its authorized capital. The enterprise funds were reporting financial and related information, as required. In 1997, USAID increased enterprise fund reporting requirements due to congressional concerns about the extent to which the U. S. government was monitoring fund progress, using a standard set of indicators. USAID now requires each fund to prepare a strategic framework matrix with multiyear investment projections and break- even analyses, as well as information on other key areas, such as investments in small- and medium- sized firms and other private capital raised. Background Enterprise funds are governed by boards of directors consisting of private citizens of the United States and host countries that have experience in areas such as investment banking or have geographical and other relevant expertise (see app. III). The fund boards are responsible for establishing their own operating and investment policies and directing their corporate affairs in accordance with U. S. legislation and grant agreements. The funds' senior managers are generally American. The funds' investment staffs, including senior investment officers and other investment professionals, are comprised of combinations of American, host- country, and third- country national employees. The funds are generally supposed to target viable small- to medium- sized private businesses in the funds' host countries. However, the Russian fund has the flexibility to invest in medium- to large- sized companies as well. 4 The funds can invest in start- up companies and privatized state- owned enterprises, and can invest solely or through joint ventures and separate private equity funds that attract other
U. S., host- country, third- country, or multilateral organization investors. The Department of State Coordinators of Assistance for Eastern Europe and the New Independent States are responsible for overall coordination of assistance activities in the region and are responsible for overseeing
4 The Russian fund was created in 1995 through the merger of two already existing funds the Russian- American Enterprise Fund and the Fund for Large Enterprises in Russia incorporated in 1993 and 1994, respectively. The first fund was supposed to operate like other enterprise funds, but the second focused on larger businesses and had less of a development focus than the others. When the two funds were merged, the new Russian fund assumed the roles of both.
enterprise funds on policy and other matters arising outside of the funds' grant agreements. USAID oversees the funds' operations. Funds Are Assisting The enterprise funds have assisted private sector development in their host Private Sector countries primarily by making investments and loans in and providing technical assistance to small- and medium- sized businesses, using capital Development authorized in U. S. grants and fund investment proceeds. Nearly all the funds have also raised additional investment capital by finding investment partners or establishing separate private equity funds that attract outside investors; however, the amounts of capital varied widely. Most of the funds have taken measures to help strengthen financial institutions and provide a
demonstration effect that encourages economic reforms through new, market- oriented activities in their host countries, although the types and extent of such efforts varied among the funds. Making and Providing The 10 enterprise funds in Central Europe and the former Soviet Union Investments, Loans, and have made investments and loans and provided technical assistance Technical Assistance
primarily to small- and medium- sized businesses totaling about $809 million as of September 30, 1998. Some funds have invested more than their authorized capital, using additional monies generated through their investment activities, while others have invested less than their
authorized capital. For example, as of September 30, 1998, the Polish fund had received nearly all of its $264 million in authorized capital and invested about $300 million, using a combination of its authorized capital and monies generated from investment proceeds. The Polish fund has stopped making new investments with U. S. grant funds and has begun liquidating some of its investments. As of the same date, the Hungarian fund had also received about 80 percent of its $72.5 million in authorized capital and invested about $81 million, also using a combination of both authorized capital and monies generated through investment activities. The Russian fund had received over one- third of its $440 million in authorized capital and invested about $125 million. The Romanian fund had received almost 70 percent of its $50 million in authorized capital and made investments totaling about $35 million. It is important to note that the funds are at varying stages of their life spans in 1998, the Polish and Hungarian funds were in their eighth years of operation, while the Romanian and Russian funds were in their fourth and fifth years, respectively. Most funds have also used funding to provide technical assistance to businesses in which they invest. Funds have provided employee training,
upgraded management information and financial reporting systems, and provided advice and technical support in a variety of other areas to such firms. However, according to USAID officials, funds often do not identify technical assistance activities separately from their investment activities, when such assistance is provided in support of specific investments. Therefore, figures shown for technical assistance provided do not fully reflect some funds' actual technical assistance activities. Table 1 shows the amount of capital authorized in USAID grants for each fund and the amounts that each of them invested or specifically identified as technical assistance provided as of September 30, 1998.
Table 1: Enterprise Fund Capital Authorized and Invested and Technical Assistance Provided as of September 30, 1998
Dollars in millions
Capital Total capital invested
Enterprise Year
authorized in Capital
Technical and technical
Fund incorporated USAID grants invested a assistance
assistance
Hungary 1990 $72.5 $75. 0 $6.2 $81.2
Poland 1990 264.0 284. 0 16.8 300.8
Czech- Slovak 1991 65.0 39. 3 3. 1 42.4
Bulgaria 1992 55.0 49. 0 1. 8 50.8
Russia 1993 440.0 123. 3 1.7 125.0
Baltic 1994 50.0 25. 1 1. 7 26.8
Central Asia 1994 150.0 76. 7 0 76.7
Romania 1994 50.0 33. 7 1. 0 34.7
Western Newly Independent States 1994 150.0 48. 7 3. 5 52.2
Albania 1995 30.0 18. 3 0. 3 18.6 Total $1,326.5 $773. 1 $36.1 $809.2
a The amount of capital that funds invest can include monies generated through investment activities and, thus, can be larger than the amount of authorized capital received from USAID grants. Source: USAID.
Most of the funds' investment activities are focused on a wide range of small- and medium- sized enterprises. However, the Russian fund has the flexibility to invest in somewhat larger enterprises. For example, the Russian fund's largest project was a $15.5- million direct investment in a brewing company. The average size of the fund's 28 equity investments as of September 30, 1998, was about $3.5 million. The Russian fund has invested in diverse industries, ranging from agribusiness to pharmaceuticals. The average size of the Romanian fund's 16 direct
investments as of the same date was $1.5 million. The Romanian fund has also invested in diverse areas, ranging from financial services to construction materials. Both of these funds also target much smaller companies through their various loan programs. For example, the average size of the Russian fund's 282 small business loans was about $75,000, and the average size of the Romanian fund's 61 such loans was about $63,000.
Raising Capital From Other In addition to their authorized capital, nearly all funds have raised Sources additional outside capital through the involvement of other investors. For
example, according to USAID, the Polish fund has raised additional capital of at least $328 million through a combination of finding outside investment partners for individual deals and helping establish separate private equity
funds that attracted outside investors. The Romanian and Hungarian funds have raised $80 million and $50 million, respectively, through a similar combination of methods. The Russian fund raised capital from outside investment partners totaling approximately $244 million. In contrast, the Baltic fund has not raised any outside private capital. Table 2 details the amount of capital raised from outside sources by each fund as a percentage of its authorized capital in USAID grants.
Table 2: Fund Capital Raised From Other Sources as a Percentage of Authorized Capital as of September 30, 1998
Dollars in millions
Capital authorized Capital raised
Other capital as a percent Enterprise fund Year incorporated in USAID grants from other sources of authorized capital
Hungary 1990 $72.5 $50. 0 69 Poland 1990 264.0 328. 0 124 Czech- Slovak 1991 65.0 3. 4 5 Bulgaria 1992 55.0 20. 1 37 Russia 1993 440.0 244. 3 56 Baltic 1994 50.0 0 0 Central Asia 1994 150.0 2. 9 2 Romania 1994 50.0 80. 0 160 Western Newly Independent States 1994 150.0 15. 2 10 Albania 1995 30.0 0. 4 1
Total $1,326.5 $744. 3 56
Source: USAID and enterprise funds.
Strengthening Financial Most of the funds have taken measures to help strengthen financial
Institutions and institutions and provide a demonstration effect that encourages Encouraging Economic
economic reforms through new, market- oriented activities in their host Reforms countries, although the types and extent of such efforts vary among the funds. All but the Western Newly Independent States fund have worked to strengthen financial institutions by undertaking activities such as training bank personnel and providing financing to businesses through partner
banks. All but the Czech- Slovak fund have provided a demonstration effect through activities such as delivering capital to previously underserved segments of the economy or establishing previously nonexistent market institutions such as mortgage and micro- sized loan programs. Table 3 lists some of the activities in which funds have engaged.
Table 3: Examples of Fund Activities to Strengthen Financial Institutions and Provide a Demonstration Effect Strengthening financial Enterprise fund institutions Demonstration effect
Albania Established (and wholly owns) the American Bank Established the American Bank of Albania, the first of Albania. western- style bank in Albania.
Baltic Established a residential mortgage program that Established a residential mortgage program that was was replicated by banks. replicated by banks; also one of few lenders to provide small- and medium- sized loans, a emphasizing women and rural areas.
Bulgaria Established (and wholly owns) the Created Home Mortgage Lending Program; also one of Bulgarian- American Credit Bank, which serves as few sources for medium- term financing (focusing on real a conduit for fund investments.
estate and hotels). Central Asia Established (and wholly owns) the Asian
Created micro- and small- sized loan programs. a Crossroads Loan Company, which serves as a conduit for loans to small- and medium- sized businesses.
Czech- Slovak Trained about 50 bankers in the loan application None. development process. Hungary Created micro- and small- sized loan programs Established the Hungarian Innovative Technologies Fund, that have been replicated by commercial banks. the first in the region devoted exclusively to funding small entrepreneurs and developing innovative technologies. Poland Created First Polish- American Bank; also trained
Established Polish- American Mortgage Bank for residential bankers in western- style corporate governance mortgages; also provided capital to housing developers. and financial management systems.
Romania Purchased Banca Romaneasca, which serves as Established micro-, small-, and medium- sized loan
a conduit for small- and medium- sized loan programs, a the only such funding mechanisms available to program; also trained bank personnel in cash- flow
Romanian entrepreneurs. lending techniques. (continued)
Strengthening financial Enterprise fund institutions Demonstration effect
Russia Used Russian partner banks for small- and Established one of the first residential mortgage programs medium- sized loan program; also trained bank
and the first auto loan program in Russia; also operates personnel in credit methodology and underwriting.
micro-, small-, and medium- sized loan programs. a Western Newly None. Received the first- ever license for a non- depository Independent States financial institution to make loans and leases in Ukraine.
a Enterprise fund micro-, small-, and medium- sized loans vary in size and other characteristics among the funds, including the two where we conducted case studies. The Russian fund's micro- sized loan program involves loans of between $1, 000 and $20,000 to enterprises with fewer than 20 employees, and its small- sized loan program involves loans of up to $150,000 to businesses with fewer than 100
employees. The Romanian fund's micro- sized loan program involves loans of between $2, 500 and $15,000 (with no requirement regarding the number of employees), and its small- and medium- sized loan program involves loans of up to $150, 000 to businesses with 200 or fewer employees.
Source: USAID and enterprise funds.
As illustrated in table 3, some funds have helped strengthen financial institutions by assisting selected banks. For example, the Russian and Romanian funds have developed relationships with partner banks and use these banks to implement loan programs. The Russian fund is providing technical assistance by training bank personnel in credit methodology and underwriting as well as other key skills. The Romanian fund has implemented training programs for bank staff that allow the consideration of a firm's earnings history and profit potential rather than using only a company's assets to determine loan eligibility, as Romanian banks had done in the past. Funds have also invested in host- country banks as a method of strengthening financial institutions. For example, the Polish fund bought a
controlling interest in a Polish bank and then merged the bank's operations with the fund's small business loan program. The Romanian fund invested about $5 million and is now the majority shareholder in a private Romanian bank with 12 branches throughout the country. Since taking controlling interest in the bank in December 1998, the Romanian fund now utilizes the bank as its partner institution to implement its entire small- and medium- sized loan program. The Albanian fund recently opened a bank that is wholly owned by the Albanian fund. Funds have provided capital to previously underserved segments of the economy. For example, the small- and medium- sized loans that the Russian and Romanian funds offer address a segment of the economy not previously served by financial institutions. According to Romanian and Russian fund officials, banks in their host countries traditionally made little effort to provide loans to small entrepreneurs, preferring to make loans to
large companies or to invest their capital in instruments such as government securities. Funds have also established previously nonexistent market institutions. For example, the Polish fund pioneered the concept of home mortgage lending in Poland and operates the Polish- American Mortgage Bank as a subsidiary of the fund. The Russian fund also operates a residential mortgage lending program and initiated the first auto loan program of its kind in Russia. The Romanian fund established a micro- sized loan program a new lending mechanism in Romania. The fund implements the
program through two U. S.- based, nongovernmental organizations, which have provided micro- sized loans to enterprises in many sectors of the economy, such as manufacturing, trade, and services.
Fund Management and Fund management's early involvement in fund activities and host- country Host- Country conditions play key roles in the funds' ability to execute their activities. Fund management was a key factor in the success of the Polish fund and Conditions Affect the early losses of the Czech- Slovak fund, and affected the investment pace
Funds' Activities at the two funds where we conducted case studies Russia and Romania. The legal and regulatory environment and economic conditions in the
funds' host countries affected fund operations as well. Fund Management USAID, State, and fund officials agreed that enterprise fund management plays a critical role in the funds' ability to execute their activities
especially at the outset. According to USAID and State officials, the Polish fund's success was due in part to having a well- functioning board of directors and good management from the beginning. Conversely, the officials said that a poor investment strategy and mismanagement of the Czech- Slovak fund's resources were major factors in that fund's early losses. One USAID evaluation cited the fund's decision to avoid the service and retail sectors of the economy as one reason the fund had not performed better financially. Another pointed to management's insufficient supervision of its investments and an operational strategy that emphasized saving costs over maintaining staffing continuity. Eventually, the entire board of directors was replaced, and the fund essentially terminated its activities in the Czech Republic, concentrating its remaining activities in the Slovak Republic.
Our case studies in Russia and Romania highlighted fund management's influence on investment pace. Fund officials in Romania told us that policy
and operational disagreements by board members and management delayed investment decisions and adversely affected staff morale. However, after key changes in management and on the board of directors, the pace of investment and staff morale improved. Russian fund officers and USAID and State officials said that an absence of in- country leadership and frequent senior management turnover contributed to the Russian fund's early slowness to invest. For example, fund officials in the United States and Russia told us that leadership and management turmoil had delayed the Russian fund's investment progress from 12 to 18 months. The current Chief Operating Officer of the Russian fund lives in- country, and fund officers and USAID and State officials told us that the fund's operations had improved significantly as a result of this change. In an attempt to measure management efficiency, we also examined the funds' operating expenses as a percent of their capital. Fund and private sector officials told us that private sector venture capital funds typically charge a management fee of 2 to 2.5 percent of authorized capital throughout the life of the fund to manage the fund. The combined rate of operating expenses for all enterprise funds was 2.8 percent during 1998. However, as shown in table 4, the rates varied widely from fund to fund. Fund and private sector officials said that operating expenses are normally
higher than 2.5 percent during the initial years of a fund's existence because of start- up costs and lower than 2 percent during the last few years of a fund's life.
Table 4: Enterprise Funds' Operating Expenses as a Percentage of Authorized Capital for 1998
Dollars in millions
Capital authorized Operating expenses as
Enterprise fund Year incorporated in USAID grants Operating expenses a percent of capital
Hungary 1990 $72.5 $2. 5 3. 4 a Poland 1990 264.0 2. 0 0.8 a Czech- Slovak 1991 65.0 1. 7 2.6 Bulgaria 1992 55.0 1. 8 3.2 Russia 1993 440.0 9. 0 2.0 Baltic 1994 50.0 2. 7 5.4 Central Asia 1994 150.0 7. 5 5.0 Romania 1994 50.0 3. 4 6.8 Western Newly Independent States 1994 150.0 6. 2 4.1 Albania 1995 30.0 0. 8 3.0
Total $1,326.5 $37. 7 2.8
a Hungarian and Polish fund operating costs are shared with the funds' associated private equity funds. Source: USAID and enterprise funds.
Host- country Conditions Economic conditions and host- country legal and regulatory environments, over which funds have little control, also affected fund operations. Immediately following the August 1998 Russian financial crisis, the Russian fund halted many of its activities for 30 days and focused its efforts on protecting its existing portfolio by restructuring loans and assisting its portfolio companies in developing post- crisis strategies and restructuring plans. Financial documents that we reviewed during our visit to Russia indicated that the 1998 Asian and Russian financial crises had substantially
negative effects on nearly all of the Russian fund's portfolio companies. For example, the fund had to increase its loss reserves to about 17 percent of its total direct investment portfolio and 22 percent of its small loan portfolio. As a result, the fund reported loan and investment losses totaling over $13 million for the fiscal year ended September 30, 1998. Romanian fund officials told us that high tax rates consume large amounts of private firms' working capital and discourage investment in that country. Similarly, Russian fund officials told us that frequent changes in the Russian legal and tax codes make it time- consuming to address issues of law and taxation in investment contracts. USAID officials told us that poor economic conditions had caused a number of funds to exercise caution in
making investments in order to safeguard fund assets. For example, the Bulgarian fund pursued a cautious investment strategy in the early years of its operations due to economic uncertainties in that country. Later, as economic conditions improved, fund officials accelerated their investment pace. Russian and Romanian The overall capital needs in Russia and Romania can accommodate the Funds Have a
activities of all investors, even with occasional competition. The Russian and Romanian enterprise funds have a continuing development role, Continuing despite other private investment flows and other donors that provide equity Development Role
and debt financing in those countries. For example, foreign investment by private investors in Russia is predominantly portfolio investment in stocks and bonds, without the substantial influence on company operations and transfer of western financial and management expertise that the Russian fund's direct investments entail. Also, the funds' direct investment programs employ different operating approaches and target different market segments than those of other donors. Capital Needs in Russia and The overall capital needs in Russia and Romania are large. One way to Romania
view a country's capital needs is by considering the country's investment levels in the context of its population. Per capita foreign direct investment in Russia and Romania is relatively less than investment in other countries in the region. For example, IMF statistics indicate that in 1997 the year in which Russia's foreign investment was at its peak its foreign direct investment was only $42 per capita compared to $127 in Poland, where the enterprise fund is only beginning to curtail its operations. Romanian per capita foreign direct investment was $54 in 1997, less than half of Poland's and slightly more than Russia's. In 1998, foreign direct investment in Russia decreased significantly due to the Asian and Russian financial crises. The country's $2.2 billion in foreign direct investment during 1998 was 65 percent less than the $6.2 billion that it received in 1997. On a per capita basis, 1998 foreign direct investment in Russia was only $15, compared to $163 in Poland. USAID, State, and Russian fund officials said that the dramatic drop in foreign direct investment in Russia underscored the need for the fund's continued involvement in that country. During the first 9 months of 1998, Romania's foreign direct investment was 11 percent less than it was for a comparable period in 1997. However, the
U. N. Economic Commission for Europe reported that the Romanian government sold several large, state- owned enterprises at attractive prices to foreign investors at the end of the year because of its need for funds. 5 This skewed the 1998 year- end total of foreign direct investment in that country upward to $1. 6 billion, or 32 percent more than the $1.2 billion that it received in 1997. Despite these unusual investment flows, per capita foreign direct investment in Romania was only $71 in 1998, less than half of Poland's. The funds have occasionally competed with other private investors and donors in Russia and Romania. For example, Romanian fund officials said that a private investor made an equity investment in a pharmaceuticals packaging and distribution firm that the fund was prepared to make. The
Russian and Romanian funds' small business financing programs' approaches and targets are similar to those of other donors. For example, the European Bank for Reconstruction and Development (EBRD) 6 has programs in Russia and Romania that provide loans to small businesses through intermediary banks, as do the Russian and Romanian funds. Officials for two companies that we visited in Russia said that they had actively considered similar loans from an intermediary bank associated with EBRD but that they chose the Russian fund's loan because the terms were better and the funding could be provided in a more timely fashion. The International Finance Corporation (IFC) 7 also has an in- country program that provides loans to small businesses through intermediary banks in Russia. IFC, which recently opened an office in Romania, provided a $5- million loan commitment to assist the Romanian fund in expanding its small loan program. Officials from EBRD, IFC, the Russian and Romanian funds, USAID, and State all said that the market for small business financing in Russia and Romania is large enough for all donors. They added that some competition among donor organizations is healthy and normal at the working level. None of these officials said that the competition diminished the relevance
of any of their programs. Moreover, Russian fund officials said that the 5 Economic Survey of Europe, 1999 No. 1 (New York and Geneva: Secretariat of the Economic Commission for Europe, United Nations, 1999), p. 169. 6 EBRD promotes private sector development through lending, investment, and other activities in 26 countries in Central Europe and the former Soviet Union. 7 IFC is affiliated with the World Bank and promotes the growth of the private sector through lending, investment, and other activities in its 174 member countries.
competition for individual direct investments has greatly diminished since the Russian and Asian financial crises, when many investors left Russia.
Foreign Investment in Foreign investment in Russia has been dominated by portfolio investment Russia (stocks and bonds), not direct investment. For example, in 1998, total
foreign investment in Russia amounted to $10. 9 billion. Approximately $8.7 billion, or about 80 percent of this amount, was comprised of portfolio investment, which is oriented toward short- term profits and does not entail investor participation in governing the recipient firms. During the same
year, only $2.2 billion, or about 20 percent of Russia's total foreign investment, consisted of direct investment, which targets long- term opportunities and entails investor involvement in the recipient companies. In contrast, the Russian fund's equity investments are generally direct investments. Russian fund officials told us that the fund normally attempts to acquire a large enough share in recipient companies to have a significant influence on their operations. The Romanian officials told us that they
follow the same approach. 8 USAID and fund officials consider this type of active involvement as an essential tool for influencing market- oriented reforms in the recipient firms of transition countries. Other Donor Programs The funds' direct investment programs tend to make smaller investments, target smaller companies, or employ different investment instruments than other donors. For example, in Russia and Romania, EBRD invests in large infrastructure projects in the form of loans in sectors such as energy and telecommunications as the core of its activity. These projects are generally much larger than the Russian and Romanian funds' equity investments. For example, an EBRD official in Russia told us that the size of the bank's major infrastructure projects range upward to about $1 billion, whereas the
Russian fund's investments range in size from $75,000 to about $15 million. In Romania, EBRD's average investment for similar projects is nearly $64 million, while the Romanian fund's investments range from about $42,000 to almost $5 million.
In addition to large infrastructure projects, EBRD has regional venture capital funds that operate in Russia and Romania. However, Russian fund officials told us that the EBRD program targets firms smaller than those 8 Unlike Russia, foreign direct investment represents the largest share of foreign investment in Romania.
that the fund currently focuses on through its direct investment program. Romanian fund and EBRD officials told us that, although the potential for competition between the fund and EBRD exists because they are targeting similar investments, it has not presented a problem to date because of the large, unsatisfied demand for capital.
IFC has direct investment programs and offices in Russia and Romania. However, according to IFC officials in Russia, IFC does not compete with the Russian fund because IFC's direct investment program targets larger investments than the Russian fund. Further, IFC's investments are in areas such as energy and general manufacturing, which are not areas the fund emphasizes. The largest part of IFC's direct investment program in Romania focuses on public infrastructure projects and other investments
that are larger than most enterprise fund investments. IFC provides additional capital to existing private venture capital companies for investments in Romania that are comparable in size to some Romanian fund investments. However, Romanian fund and IFC officials said that these private funds do not compete with the Romanian fund because, like with EBRD, of the large, unsatisfied demand for private equity capital in that country. The Overseas Private Investment Corporation 9 (OPIC) also has a private investment fund program that operates in transition countries in Central and Eastern Europe and the former Soviet Union. However, the objectives and focus of its program are different from enterprise funds. OPIC operates its program through existing American venture capital companies, using long- term, secured loan guaranties and loans to help the firms establish and capitalize regional investment funds. 10 OPIC's objective is primarily to support and protect U. S. companies and investors, while enhancing U. S. development objectives and furthering stability in foreign countries. However, the individual private investment funds make
commercially based investment decisions in order to realize a profit and do not have the same development mandate as enterprise funds. 9 OPIC is an independent U. S. government corporation that assists U. S. investors overseas by providing political risk insurance, financing, and other investment services. 10 As of March 31, 1999, including accrued interest, OPIC had made loan guaranties and loans of about $677 million in Russia and $22 million in Romania, of which about $330 million and $16 million, respectively, had been invested.
Whether Funds Will Current USAID guidance to enterprise funds is that the funds should aim to Recoup Authorized have assets worth at least the amount of their original grants when they
terminate their operations. This expectation has evolved over time. When Capital Is Problematic enterprise funds were first established, many U. S. officials did not expect funds to recoup their original grants. In 1993 and 1994, USAID made changes to its grant agreements with the funds, setting forth options for the use of remaining fund assets upon termination of operations. Over time, as the likelihood increased that some of the more mature funds might recover
their original authorized capital, USAID raised the target to the same level for the other funds.
USAID currently expects that at least three funds will recover their authorized capital through their investments and one will not. The Polish fund has finished making new investments with U. S. government funds and
has begun to liquidate some of its investments. USAID expects the Polish fund to recover its original authorized capital. The fund's estimated net worth was $270 million$ 15.5 million more than the amount that it received through its authorized grant as of September 30, 1998. Currently, USAID officials also expect the Hungarian and Romanian funds to eventually recoup their original authorized capital. In contrast, although the Czech- Slovak fund has not finished making new investments, it sold the Czech portion of its portfolio at a loss of 92 percent of its invested capital in 1997, making it unlikely that the fund can recoup its original authorized capital when it eventually ceases operations. For the other funds, determining whether they will ultimately recoup their original authorized capital is not reasonably possible until they are closer to liquidating their investments. According to enterprise fund and other private venture capital officials, markets for the funds' investments and a way to determine fair market value often do not exist in the transition countries where the funds operate. Also, the funds have intended life spans of 10 to 15 years, and, therefore, potentially long periods for their
investments to be profitable. Table 5 shows the funds' assets as of September 30, 1998.
Table 5: Enterprise Funds' Grant Amounts and Estimated Asset Valuation as of September 30, 1998
Dollars in millions
Capital authorized Grant amount
Enterprise fund Year incorporated in USAID grants received Net asset value
Hungary 1990 $72.5 $56.6 $28.2 Poland 1990 264.0 254.5 270.0 Czech- Slovak 1991 65.0 46.2 12.5 Bulgaria 1992 55.0 44.5 28.7 Russia 1993 440.0 165.0 89.6 Baltic 1994 50.0 31.1 22.4 Central Asia 1994 150.0 87.0 38.4 Romania 1994 50.0 35.2 28.2 Western Newly Independent States 1994 150.0 64.3 39.0 Albania 1995 30.0 16.0 14.0
Total $1,326.5 $800.4 $571.0
Source: USAID and enterprise funds.
Enterprise fund investment decisions are supposed to balance financial soundness with the funds' development mandate. Making investments where traditional financial institutions are reluctant to invest means some investments will not be successful, especially in the early stages of a fund's operations. However, by the end of a fund's operations, the successes are supposed to outweigh the failures. Individual investments made by the Russian fund illustrate the element of risk involved in enterprise fund investments.
 In 1995, the Russian fund wrote off the entire amount of its $3. 8 million investment in U. S. Global Health, which operated a western- style medical clinic in Moscow. The clinic failed because lower than expected revenues combined with start- up and operating costs depleted the firm's capital before it was able to make a profit. 11  In 1996 and 1997, the fund also wrote off approximately $3 million it invested in ZAO Giant, Ltd. a supermarket chain in the Vladivostock 11 This investment was originally made in 1994 by the Fund for Large Enterprises in Russia, which merged with the Russian- American Enterprise Fund in 1995 to form the current Russian fund. The
USAID Inspector General reported on the reasons for this investment failure in March 1997: Audit of the Request for Review of the U. S. Russian Investment Fund's Investment in U. S. Global Health Limited, Audit Report No. A- 00097- 003P (Washington, D. C.: USAID, Office of the Inspector General, Mar. 26, 1997).
and Nakhodka regions of the Russian Far East before the company had ever stocked its stores with initial inventory. Fund officials said that it refused further support of the company when it became clear that the company had not put appropriate managers and financial controls in place to address serious operating and expenditure problems that were
occurring in setting up the operation. 12  More recently, in 1999, fund officials feared that the fund's 1998 $2.4 million investment in Lomonosov Porcelain a porcelain tableware producer in St. Petersburg could deteriorate considerably in value because the company's general director and senior managers opposed the fund's and other investors' takeover of the firm. However, fund officials said that they have since established a working relationship with the company's managers and expect, along with other investors, to assume control of the company shortly. The officials added that the
company now has an excellent opportunity to significantly increase its sales, production volumes, and profitability. Similarly, investments made by the Romanian fund also demonstrate the uncertain nature of enterprise fund investment operations.  The fund's 1996 investment of $471, 000 in Multiprint a commercial printing company in Northeast Romania encountered financial
difficulties due to factors such as late payments from the firm's debtors and the overall decline of the Romanian economy.  The fund's 1996 investment of $229,000 in Doriela a Bucharest farm
equipment services and leasing firm performed poorly because of a decrease in demand. The fund reported that the purchasing power of potential buyers had diminished and that expected agricultural
subsidies had not materialized in Romania.  The fund's 1996 investment in Multicolor a label and packaging plant in northeast Romania demonstrated weak performance because of poor management, stronger than expected competition, and other
factors. A fund- financed evaluation of Multicolor's difficulties led the company to negotiate the rescheduling of its debt payments, replace its general manager, and completely restructure its maintenance department. 12 The original commitment for this investment was made in 1995 by the Russian- American Enterprise
Fund.
Funds Are Complying Since we reported on enterprise funds in 1994, 13 USAID has increased fund With Increased reporting requirements due to concerns about the extent to which the U. S. government was systematically monitoring fund progress using a standard Reporting
set of indicators. In 1995, the USAID Inspector General reported that Requirements USAID had not established a comprehensive set of specific objectives and measures by which the performance of the funds could be judged. 14 In 1997, partly in response to these concerns, USAID strengthened its semiannual reviews of the funds by asking the funds to submit a strategic framework matrix providing data on fund activities in key areas, such as investments in small- and medium- sized enterprises and capital raised from other sources. The matrix also included other data, such as multiyear investment projections and break- even analyses.
According to USAID and State officials, the economic conditions in each host country, the length of time the respective funds have been operational, and the substantial operational latitude that funds were given in responding to their host- country situations make it difficult to establish clear and objective standards that can be applied equally to all of the funds. Therefore, USAID does not use the matrixes to hold funds to standardized performance targets or to make comparisons across funds. However, it does work with each fund to independently establish investment projections and target dates for breaking even.
We found that the funds are providing the information requested, although the information has not always been in the requested format. For example, while some funds may not have fully completed sections of the strategic framework matrix, they provided the required information in other reporting documents.
USAID and State officials told us that the additional reporting requirements had enhanced their ability to oversee the funds' activities. Russian and Romanian fund officials also told us that the current level of oversight is appropriate. They said that they have a responsibility to safeguard U. S. government funds that are provided to them in the form of grants and added that the reporting requirements are not burdensome. In addition, much of the information reported to USAID is data that the funds would 13 Enterprise Funds: Evolving Models for Private Sector Development in Central and Eastern Europe. 14 Audit of the Economy and Efficiency of Four Central and Eastern Europe Enterprise Funds, Audit Report No. 8- 180- 95- 015 (Washington, D. C.: USAID, Office of the Inspector General, Aug. 25, 1995).
collect in their normal course of managing fund activities and is similar to information that private investors would expect to have available. Conclusions The enterprise funds in Central Europe and the former Soviet Union have
supported private sector development in their host countries. Most have also helped strengthen financial institutions and encouraged economic reforms. A fund's success is largely dependent on its management's early
involvement in the fund's operations and host- country legal, regulatory, and economic climates. Based on our analysis of financial and investment patterns in Russia and Romania, the enterprise funds in both countries have a continuing development role for the foreseeable future, and the overall need for investment capital in these countries continues unabated. Determining whether enterprise funds will recoup their authorized capital is problematic; yet, U. S. officials expect several funds to recoup their authorized capital and have raised expectations that other funds will do the same. Finally, due to congressional concerns about U. S. oversight of the funds, USAID increased enterprise fund reporting requirements in 1997. We found that the funds are providing the requested information, and USAID and State officials told us the additional information has enhanced their ability to oversee the funds' operations.
Scope and We reviewed the activities of all 10 enterprise funds in Central Europe and Methodology
the former Soviet Union. To gain a first- hand view of fund operations, we also visited the Russian and Romanian funds' U. S. and host- country offices; toured in- country investment sites; and met with U. S., host government, and fund officials. These funds were selected based on congressional interest, to provide geographical coverage in both Central Europe and the former Soviet Union, and to offer contrasting fund sizes. We traveled to Romania and Russia in January 1999.
To determine whether enterprise funds are assisting private sector development and what factors have affected the funds' ability to carry out these activities, we interviewed cognizant officials and analyzed program documentation. Specifically,  In Washington, D. C., we interviewed officials in the offices of the Department of State Coordinators of Assistance for Eastern Europe and the New Independent States, USAID's Bureau for Eastern Europe and
the New Independent States, and the Romanian fund's U. S. offices. We also met with members of the Romanian fund's board of directors and interviewed other private venture capital firm officials. We reviewed enterprise fund grant agreements, annual fund reports, fund semiannual review documents, and other reporting documents; USAID evaluations of enterprise funds; and USAID Inspector General reports. In New York City, we interviewed officials in the Russian fund's U. S. offices and met with members of the Russian fund's board of directors and other private venture capital firm officials. From our analysis, we determined the type and extent of enterprise fund activities that support private sector development in host countries as they progress from centrally planned to market- oriented economies as well as the critical elements that facilitated or impeded funds in executing these activities.
 In Russia and Romania, we interviewed enterprise fund senior managers and investment officers, reviewed the funds' investment and loan portfolios and fund technical assistance activities, and visited fund investment sites. We also discussed the fund's private sector development activities with senior officials at the U. S. embassies and USAID missions as well as host government officials. In addition, we attended the Russian fund's January 1999 semiannual review meeting. To determine whether funds still have a role in private sector development, given other private investment and international donor efforts, we primarily relied on our case studies of the Russian and Romanian funds. We analyzed foreign investment flows in these two countries and discussed with U. S. officials the activities of other private investors and international donors there. We also interviewed Russian and Romanian fund officials, recipients of Russian and Romanian fund assistance, host government officials, and other international donors to determine the similarities and differences among the various activities of the funds, other investors, and other donors.
To determine whether the funds are likely to recoup their authorized capital, we discussed with U. S. officials their expectations regarding the ultimate financial outcomes of individual funds and discussed with private venture capital firm officials the practice of valuing international venture capital- type investment portfolios. We also reviewed annual fund reports, fund semiannual review documents, other reporting documents, and State
and USAID documents. To determine whether funds are complying with recent changes in USAID reporting requirements, we interviewed State and USAID officials and
reviewed enterprise fund reporting for the two most recent semiannual review periods.
Also, in response to a specific question from your staff, we identified the primary law firms that enterprise funds currently employ. This information is in appendix IV.
We performed our work from September 1998 to August 1999 in accordance with generally accepted government auditing standards. Agency Comments The Department of State and USAID provided written comments on a draft of this report (see apps. V and VI, respectively). State said that the report was a well- written and balanced analysis of the effectiveness of enterprise
funds; USAID noted that the report detailed many accomplishments and development impacts of enterprise funds in Central Europe and the former Soviet Union. USAID also provided technical comments that we have incorporated, as appropriate. Unless you publicly announce its contents earlier, we plan no further
distribution of this report until 30 days after its issue date. At that time, we will send copies of this report to the Honorable Madeleine K. Albright, the Secretary of State; the Honorable J. Brady Anderson, the Administrator of USAID; and interested congressional committees. We will make copies available to others upon request.
Please contact me at (202) 512- 4128 if you or your staff have any questions about this report. Other GAO contacts and staff acknowledgments are listed in appendix VII.
Benjamin F. Nelson Director, International Relations and
Trade Issues
Letter 1 Appendix I
28 Romanian Fund Investments, Loans, and Technical Assistance
Appendix II 30
Russian Fund Investments, Loans, and Technical Assistance
Appendix III 33
Romanian and Russian Fund Boards of Directors Appendix IV
37 Enterprise Fund Law Firms
Appendix V 38
Comments From the Department of State
Appendix VI 39
Comments From the U. S. Agency for International
Development Appendix VII
41 GAO Contacts and Staff
Acknowledgments Tables Table 1: Enterprise Fund Capital Authorized and Invested and Technical
Assistance Provided as of September 30, 1998 6 Table 2: Fund Capital Raised From Other Sources as a Percentage of Authorized Capital as of September 30, 1998 7
Table 3: Examples of Fund Activities to Strengthen Financial Institutions and Provide a Demonstration Effect 8 Table 4: Enterprise Funds' Operating Expenses as a Percentage of Authorized Capital for 1998 12 Table 5: Enterprise Funds' Grant Amounts and Estimated Asset
Valuation as of September 30, 1998 18 Table I. 1: Romanian Fund Direct Investment Program as of
September 30, 1998 28 Table I. 2: Romanian Fund Loan and Other Small- and Medium- sized Business Program Disbursements as of September 30, 1998 29
Table I. 3: Examples of Romanian Fund Technical Assistance Projects 29 Table II. 1: Russian Fund Direct Investment Program as of
September 30, 1998 30 Table II. 2: Russian Fund Loan Program Disbursements as of
September 30, 1998 31 Table II. 3: Examples of Russian Fund Technical Assistance Projects 32 Table IV. 1: Enterprise Fund Primary Law Firms 37
Abbreviations
EBRD European Bank for Reconstruction and Development IFC International Finance Corporation IMF International Monetary Fund OPIC Overseas Private Investment Corporation USAID U. S. Agency for International Development
Romanian Fund Investments, Loans, and Appendi I x Technical Assistance As of September 30, 1998, the Romanian fund had made investments and loans in and provided technical assistance to Romanian businesses totaling about $30 million. Most of the fund's investments (nearly $23 million) were in Romanian small- and medium- sized businesses, including agribusiness and manufacturing of chemical products, technical rubber, and machine
parts. The average size of the fund's 17 direct equity investments was about $1.3 million, but over 40 percent of its investments was concentrated in two firms. The fund's largest investment was $5 million in a paint manufacturing company, and the smallest was $42,000 in a financial services firm. Table I. 1 shows the fund's direct investments, including the recipient firms, types of businesses, and amounts invested.
Table I. 1: Romanian Fund Direct Investment Program as of September 30, 1998
Dollars in thousands
Name of firm Type of business Amount invested
Avicola Crevedia Agribusiness $200 Comtel Hotel development 1, 300 Connecticut Manufacturing Machine parts manufacturing 1, 373 Doriela Agricultural services 229 Dunarea Textile manufacturing 500 Hobas Tub Commercial pipe manufacturing 1, 700 IPEC Porcelain manufacturing 680 Logic Telecom Telecommunications services 1, 800 MotorActive Leasing services 100 Multicolor Label and package manufacturing 345 Multiprint Printing 471 Policolor Paint manufacturing 4, 988 Regisco Financial services 42 Rolast Technical rubber manufacturing 4, 125 TEC Miaco Agribusiness 2, 500 Titan Mar a Construction materials production 800 Transdata Telecommunications services 1, 442
Total $22, 595
a Includes purchase of Marmosim. Source: Romanian fund. As shown in table I. 2, the Romanian fund had invested about $6.2 million in loans and other lending programs. Over half (about $3.2 million) of the
investments were made through the fund's small- and medium- sized loan program.
Table I. 2: Romanian Fund Loan and Other Small- and Medium- sized Business Program Disbursements as of September 30, 1998
Dollars in thousands
Program Amount disbursed
Small- and medium- sized loans $3, 171 Micro- sized loans 2, 430 Other small- and medium- sized business programs 554
Total $6, 155
Source: Romanian fund.
The Romanian fund had provided about $650,000 in technical assistance, most of which supported the fund's investments. Table I. 3 offers some examples of technical assistance activities in which the fund engaged in support of its own investments or private sector development.
Table I. 3: Examples of Romanian Fund Technical Assistance Projects Name of firm Description of assistance
Multicolor Evaluated operations, finance, and human resource functions, and recommended changes in management personnel and inventory controls Policolor Trained managers and marketing and sales personnel in marketing techniques and product distribution
Rolast Reviewed project planning and subsequently trained top management in methods for instituting organizational changes
Titan Mar Provided strategic consulting and advice on operations and technology
Transdata Evaluated human resources and helped establish performance- based incentive packages for managers and employees Source: Romanian fund.
Russian Fund Investments, Loans, and Appe ndi I I x Technical Assistance As of September 30, 1998, the Russian fund had made investments and loans in and provided technical assistance to Russian businesses totaling about $125 million. Most of the fund's investments were in small- and medium- sized businesses, but the fund had invested in some larger businesses as well. The Russian fund had made 28 direct equity investments totaling over $97 million in businesses in Russia, ranging from agribusiness to telecommunications. The average size of the fund's direct investments was about $3. 5 million, but over half of its total investments was concentrated in seven companies. The fund's largest direct investment was $15.5 million in a brewing and bottling company, and the fund's smallest was $75,000 in a dental clinic. Table II. 1 details the fund's direct investment program, including the recipient firms, the types of businesses they operate, and the amounts that the fund invested in them.
Table II. 1: Russian Fund Direct Investment Program as of September 30, 1998
Dollars in thousands
Name of firm Type of business Amount invested
Agribusiness Partners International L. P. Agribusiness industry direct investment fund $5, 000 Bitech Petroleum Corporation Petroleum production 3, 000 Dieselprom Diesel engine manufacturing 3, 660 Financial Center Financial services 600 Frank's Siberian Supreme Ice cream production 211 FunTech Xerox copy operations and distribution of Xerox products 2, 000 Genesee- Volkhov Connection, Inc. Photo processing center 900 Independent Network Television Holding Commercial network broadcasting 4, 378 International Business Communication Systems, Inc. Telecommunications 5, 000 Interstom Dental clinic 75 Invacorp Pharmaceutical distribution 5, 000 Lomonosov Porcelain Factory Porcelain tableware production 2, 375 Marine Resources Company International Seafood production and fishing vessel refitting 8, 250 Nizhny Newsprint Holdings Newsprint and paper production 4, 140 Phargo Alphagraphics business services 2, 500 Plyko L. L. C. Plywood manufacturing 5, 825 Polygrafoformlenie Packaging 2, 799 Russian Petroleum Investor, Inc. Publishing and information services for oil and gas industry 1, 950 Saint Springs Water Limited Production and distribution of bottled water 3, 500 Segol RadioPage Wireless messaging systems 2, 500
(continued)
Dollars in thousands
Name of firm Type of business Amount invested
StoryFirst Communications Radio and television broadcasting 5, 000 SUN Brewing Limited Brewing and bottling facilities 15, 500 Time Women's clothing production 204 TsUM Retail department store 500 U. S. Global Health Medical clinic 3, 770 Vita Plus Pharmaceutical distribution 5, 000 ZAO Giant, Ltd. Supermarket chain 2, 980 Zapsibinvest Wood processing and packaging 970
Total $97, 587
Source: Russian fund.
The Russian fund had made over $25 million in small- to medium- sized loans, consumer auto loans, residential mortgage loans, and micro- sized loans to entrepreneurs. However, over 80 percent of the fund's lending activities were concentrated in loans to small businesses through the fund's partner banks. Table II. 2 shows the amount of loans disbursed through the fund's various loan programs.
Table II. 2: Russian Fund Loan Program Disbursements as of September 30, 1998
Dollars in thousands
Program Amount disbursed
Bank partner program and other small- and medium- sized loans $20, 863 Auto loans 4, 000 Mortgage loans 250 Micro- sized loan program 438
Total $25, 551
Source: Russian fund.
The fund had also provided about $1.7 million in technical assistance, most of which was in support of the fund's own investments. Table II. 3 offers some examples of technical assistance activities in which the fund engaged in support of its own investments.
Table II. 3: Examples of Russian Fund Technical Assistance Projects Name of firm Description of assistance
FunTech Installed management information and financial reporting systems Genesee- Volkhov Installed a management information system Connection, Inc. Invacorp Upgraded the company's existing management information
system Plyko L. L. C. Installed a management information system and retained
an engineering consultant to assist in the installation of a new production line and recommend operational improvements
Saint Springs Water Limited Trained company employees in management development, strategic planning, and team building Source: Russian fund.
Romanian and Russian Fund Boards of Appendi I I I x Directors The members of the Romanian and Russian funds' boards of directors are
private citizens of the United States or the host country. Although the members' backgrounds are varied, they generally have experience in areas such as investment banking and business or other relevant expertise.
Romanian Fund The Romanian fund's board of directors is comprised of 10 members. The members include several attorneys and others who have experience in the financial sector or investment banking, two former U. S. ambassadors, and one current and one former Romanian government official. Information on all 10 board members follows. Director and Chairman of the Board Mr. Harry G. Barnes, Jr. Director, Conflict Resolution Program and Chair, Human Rights Committee, The Carter Center Former U. S. Ambassador to India, Chile, and Romania
Director, President, and Chief Executive Officer Mr. I. John Klipper Former President of IVEX Corporation Romanian native
Former insurance and venture capital company executive Directors Mr. Mugur Isarescu Governor, National Bank of Romania
Mr. Robert D. Joffe Presiding Partner, Cravath, Swaine, and Moore Board Member, Lawyers Committee for Human Rights Executive Committee Member, Association of the Bar of the City of New York
Ms. Judy H. Mello President and Chief Executive Officer, World Learning Former Managing Director, Cambridge International Partners
Mr. David M. Roth Managing Partner, Levy & Droney
Ms. Ida F. S. Schmertz Co- Chair, Volkhov International Business Incubator and Training Center of the Alliance of Russian and American Women Principal, Strategic Investment International
Mr. Theodor Stolojan Senior Economist, World Bank Former Prime Minister of Romania
Mr. Richard N. Viets Vice President and General Manager, Web Tools Division, Secure Computing Corporation Former U. S. Ambassador to Jordan and Tanzania
Mr. Gregory A. White Chief Operating Officer, ValueQuest/ TA Former Executive Director, Massachusetts State Pension Fund
Russian Fund The Russian fund's board of directors is currently comprised of nine members. The members include several individuals with experience in investment banking, venture capital, and financial services and others who have experience in business, law, and government, including a former assistant secretary of state and a former U. S. ambassador at large. The fund does not currently include any host- country citizens. Information on all nine board members follows.
Director and Chairman Patricia M. Cloherty President and General Partner of Patricof & Co., Ventures, Inc., a private venture capital company operating in six countries Former President and Chairman of the National Venture Capital Association Member of the Council on Foreign Relations
Director, President, and Chief Executive Officer David A. Jones Former President of Clarendon Capital, an investment banking and consulting firm Founding Partner of Dougery, Jones & Wilder, a venture capital firm Former Vice President of Citicorp Venture Capital Ltd.
Directors Frank J. Caufield General Partner and Founder of Kleiner Perkins Caufield & Byers, a venture capital firm Former President of the National Venture Capital Association Former President of the Western Association of Venture Capitalists
Arthur DelVesco, Cofounder of Wind Point Partners, a venture capital firm Former Director of Republic Telecom Systems Corporation Former Senior Investment Manager at First Chicago Equity Group
D. Jeffrey Hirschberg Vice Chairman and Senior International Counselor, Ernst & Young, LLP. Former Special Attorney to the Deputy Attorney General Director of the U. S.- Russia Business Council
Robert D. Hormats Vice Chairman of Goldman, Sachs International Board Member of the Council on Foreign Relations Former Assistant Secretary of State for Economic and Business Affairs Former U. S. Deputy Trade Representative
Karen N. Horn Senior Managing Director and Head of International Private Banking at Bankers Trust Company Former Chairman of the Board of Bank One, Cleveland, NA
J. Bruce Llewellyn Chairman of Philadelphia Coca Cola Bottling Co. Former President of OPIC Former U. S. Ambassador at Large
Richard D. Turner Executive Vice President of South Shore Bank of Chicago Creator of Polish- American Enterprise Fund small loan program
Appendi I V x Enterprise Fund Law Firms As shown in table IV. 1, four law firms provide the primary legal counsel for 9 of the 10 enterprise funds in Central Europe and the former Soviet Union. 1 One such firm Weil, Gotshal & Manges of Washington, D. C. is the primary law firm for five of the funds, while another firm Arnold & Porter of Washington, D. C. is the primary law firm for two funds. According to U. S. Agency for International Development (USAID) officials, only the Albanian fund retains no primary law firm and, instead, contracts for legal services on an as- needed basis. In addition to their primary law firms, most funds employ host- country or other specialized law firms for individual investment deals and a variety of other legal matters requiring specific expertise that is not available from one firm. According to USAID officials, the funds have employed over 50 different law firms on a variety of legal matters since they began operations.
Table IV. 1: Enterprise Fund Primary Law Firms Law firm Corporate or business location Enterprise fund
Weil, Gotshal & Manges Washington, D. C. Baltic Hungary Poland Romania Russia
Arnold & Porter Washington, D. C. Czech- Slovak Western Newly Independent States
Kirkland & Ellis Chicago, IL Bulgaria McDermott, Will & Emery New York, NY Central Asia
Source: USAID.
1 Two additional enterprise funds that we did not include in our review the Defense Enterprise Fund and the Southern African Enterprise Fund also employ primary law firms. The Defense Enterprise Fund's primary law firm is Weil, Gotshal, and Manges of Washington, D. C., and the Southern African Enterprise Fund's primary law firm is Long, Aldridge, and Norman of Atlanta, GA.
Appe ndi V x Comments From the Department of State
Comments From the U. S. Agency for Appendi VI x International Development
Appendi VI x I GAO Contacts and Staff Acknowledgments GAO Contacts Jess Ford, (202) 512- 4268
A. H. Huntington, III, (202) 512- 4140 Acknowledgments In addition to those named above, Michael Courts, Lee Kaukas, Jim Strus, George Taylor, Bruce Kutnick, and Richard Seldin made key contributions to this report.
GAO United States General Accounting Office
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Appendix I Romanian Fund Investments, Loans, and Technical Assistance
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Appendix II
Appendix II Russian Fund Investments, Loans, and Technical Assistance
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Appendix III
Appendix III Romanian and Russian Fund Boards of Directors
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Appendix III Romanian and Russian Fund Boards of Directors
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Appendix IV
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Appendix VI
Appendix VI Comments From the U. S. Agency for International Development
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Appendix VII
(711353) Let t e r
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NS99221.book A Report to Congressional Requesters September 1999
FOREIGN ASSISTANCE Enterprise Funds' Contributions to Private
Sector Development Vary National Security and International
Affairs Division B-283261 Letter September 14, 1999 The Honorable
Benjamin A. Gilman Chairman, Committee on International Relations
House of Representatives The Honorable Doug Bereuter Chairman,
Subcommittee on Asia and the Pacific Committee on International
Relations House of Representatives In 1989, the United States
authorized enterprise funds as an experimental model to support
private sector development in selected countries of Central and
Eastern Europe as they transition from centrally planned to
market- oriented economies. 1 The funds, which are private,
nonprofit U. S. corporations, are supposed to make loans to, or
investments in, small- and medium- sized businesses in which other
financial institutions are reluctant to invest. With the breakup
of the Soviet Union in 1991, enterprise funds were subsequently
established in the newly independent states. Currently, 10 funds
operate in Central Europe and the former Soviet Union, covering 19
countries with authorized funding of about $1.3 billion. 2
Enterprise funds receive their funding through the U. S. Agency
for International Development (USAID), and USAID has primary
responsibility for monitoring the funds' operations. At your
request, we determined (1) whether enterprise funds are assisting
private sector development; (2) what factors have affected the
funds' ability to carry out their activities; (3) whether funds
still have a role in private sector development, given other
private investment and international donor efforts; (4) whether
the funds are likely to recoup their 1 The Support for East
European Democracy (SEED) Act of 1989 (P. L. 101- 179) authorized
the creation of enterprise funds in Poland and Hungary. Later,
under the SEED Act and the FREEDOM Support Act of 1992 (P. L. 102-
511), eight additional funds were established in Central and
Eastern Europe and the former Soviet Union. We reported on the
first four enterprise funds in March 1994; see Enterprise Funds:
Evolving Models for Private Sector Development in Central and
Eastern Europe (  GAO/NSIAD-94-77 , Mar. 9, 1994). 2 Four funds
operate in multiple countries. The Baltic fund includes Estonia,
Latvia, and Lithuania; the Central Asian fund covers Kazakhstan,
the Kyrgyz Republic, Tajikistan, Turkmenistan, and Uzbekistan; the
Czech- Slovak fund operates primarily in the Slovak Republic, but
also covers the Czech Republic; and the Western Newly Independent
States fund covers Belarus, Moldova, and Ukraine. authorized
capital; and (5) whether the funds are complying with recent
changes in USAID reporting requirements. In a separate letter, we
address issues related to spin- off venture capital organizations
that the Polish fund helped establish as well as U. S. government
plans to use funds generated from the sale of Polish fund assets
to help establish a foundation for further private sector
development in Poland and to return some funds to the U. S.
Treasury. 3 Differing economic conditions and legal and regulatory
environments in each country and the length of time the respective
funds have been operational make comparisons across funds
difficult. To gain additional perspective and first- hand
knowledge of fund operations, we visited the Russian and Romanian
funds' in- country offices; toured investment sites; and met with
U. S., host government, and fund officials. Both funds have been
operational for about 4 to 5 years, with Russia being the largest
fund ($ 440 million in authorized capital) and Romania one of the
smaller funds ($ 50 million). Although the report contains
information related to all 10 funds, we primarily relied on our
examination of these 2 funds to address your interest in the
continued relevance of enterprise funds. We also describe their
investments, loans, and technical assistance activities in
appendixes I and II, respectively. Results in Brief To varying
degrees, enterprise funds in Central Europe and the former Soviet
Union have engaged in investment activities that support private
sector development in their host countries. Taken together, the 10
enterprise funds have made investments and loans in and provided
technical assistance mainly to small- and medium- sized businesses
totaling about $809 million through fiscal year 1998, using
capital authorized in U. S. grants as well as investment proceeds.
Nine funds have raised additional investment capital from
investment partners on individual deals or by establishing private
equity funds that attracted other investors. Capital raised this
way totaled about $744 million, according to USAID. Most of the
funds have taken steps to help strengthen financial institutions
and encourage economic reforms. For example, the Polish, Russian,
and Romanian funds trained bank personnel in credit risk
evaluation and provided financing to small businesses; the Polish
and Russian funds initiated residential mortgage programs that did
not previously exist in 3 See Foreign Assistance: Issues
Concerning the Polish- American Enterprise Fund (GAO/OGC-99-61R,
Sept. 14, 1999). their host countries; and the Polish, Romanian,
and Albanian funds invested in host- country banks. Fund
management and host- country legal, regulatory, and economic
climates were key factors in the funds' ability to carry out their
activities. According to U. S. and fund officials, the Polish fund
was able to invest in the private sector and attract additional
capital because, at least in part, the board and senior fund
managers worked well together from the outset in managing the
fund's assets. In contrast, U. S. officials characterized the
Russian fund as slow to begin investing because its fund managers
were not initially located in- country and were not involved on a
daily basis with fund operations. Other key factors included the
recent Asian and Russian financial crises, which frightened away
many private investors and curtailed some of the funds' investment
activities, and, according to Russian fund officials, frequent
changes in Russia's legal and tax codes, which made it difficult
for the funds to enter into timely investment contracts. Based on
our analysis of financial and investment patterns in Russia and
Romania, the enterprise funds in both countries have a continuing
development role for the foreseeable future. Despite private and
international donor investments in these countries, the overall
need for foreign investment capital and western business expertise
in Russia and Romania continues unabated. For example, due in
large measure to the recent financial crises, International
Monetary Fund (IMF) statistics indicate that foreign direct
investment in Russia decreased by 65 percent in 1998, underscoring
the need for the fund's continued involvement. Furthermore, the
nature of most foreign investment in Russia is different from much
of the Russian fund's investments. Among other things, other
foreign investment is predominantly in stocks and bonds and does
not involve the direct transfer of western management skills. In
contrast, the Russian fund has focused on making direct
investments in an attempt to influence long- term business and
management reforms in the private sector. Determining whether
enterprise funds will recoup their authorized capital is difficult
because funds have 10- to 15- year life spans and, thus, long
maturity periods for their investments. Enterprise funds are
venture capital- type funds that involve an inherent risk of
financial loss individual investments will fail, but, in the long
term, successful ventures are supposed to offset the losses.
Although the Polish fund has not sold all its investments, it has
finished making new investments and is expected to recover its
original authorized capital. Similarly, USAID officials expect the
Hungarian and Romanian funds to recoup their authorized capital as
well. In contrast, while the Czech- Slovak fund has not finished
making new investments, U. S. and fund officials say that its
early losses make it unlikely that the fund can recoup its
authorized capital. The enterprise funds were reporting financial
and related information, as required. In 1997, USAID increased
enterprise fund reporting requirements due to congressional
concerns about the extent to which the U. S. government was
monitoring fund progress, using a standard set of indicators.
USAID now requires each fund to prepare a strategic framework
matrix with multiyear investment projections and break- even
analyses, as well as information on other key areas, such as
investments in small- and medium- sized firms and other private
capital raised. Background Enterprise funds are governed by boards
of directors consisting of private citizens of the United States
and host countries that have experience in areas such as
investment banking or have geographical and other relevant
expertise (see app. III). The fund boards are responsible for
establishing their own operating and investment policies and
directing their corporate affairs in accordance with U. S.
legislation and grant agreements. The funds' senior managers are
generally American. The funds' investment staffs, including senior
investment officers and other investment professionals, are
comprised of combinations of American, host- country, and third-
country national employees. The funds are generally supposed to
target viable small- to medium- sized private businesses in the
funds' host countries. However, the Russian fund has the
flexibility to invest in medium- to large- sized companies as
well. 4 The funds can invest in start- up companies and privatized
state- owned enterprises, and can invest solely or through joint
ventures and separate private equity funds that attract other U.
S., host- country, third- country, or multilateral organization
investors. The Department of State Coordinators of Assistance for
Eastern Europe and the New Independent States are responsible for
overall coordination of assistance activities in the region and
are responsible for overseeing 4 The Russian fund was created in
1995 through the merger of two already existing funds the Russian-
American Enterprise Fund and the Fund for Large Enterprises in
Russia incorporated in 1993 and 1994, respectively. The first fund
was supposed to operate like other enterprise funds, but the
second focused on larger businesses and had less of a development
focus than the others. When the two funds were merged, the new
Russian fund assumed the roles of both. enterprise funds on policy
and other matters arising outside of the funds' grant agreements.
USAID oversees the funds' operations. Funds Are Assisting The
enterprise funds have assisted private sector development in their
host Private Sector countries primarily by making investments and
loans in and providing technical assistance to small- and medium-
sized businesses, using capital Development authorized in U. S.
grants and fund investment proceeds. Nearly all the funds have
also raised additional investment capital by finding investment
partners or establishing separate private equity funds that
attract outside investors; however, the amounts of capital varied
widely. Most of the funds have taken measures to help strengthen
financial institutions and provide a demonstration effect that
encourages economic reforms through new, market- oriented
activities in their host countries, although the types and extent
of such efforts varied among the funds. Making and Providing The
10 enterprise funds in Central Europe and the former Soviet Union
Investments, Loans, and have made investments and loans and
provided technical assistance Technical Assistance primarily to
small- and medium- sized businesses totaling about $809 million as
of September 30, 1998. Some funds have invested more than their
authorized capital, using additional monies generated through
their investment activities, while others have invested less than
their authorized capital. For example, as of September 30, 1998,
the Polish fund had received nearly all of its $264 million in
authorized capital and invested about $300 million, using a
combination of its authorized capital and monies generated from
investment proceeds. The Polish fund has stopped making new
investments with U. S. grant funds and has begun liquidating some
of its investments. As of the same date, the Hungarian fund had
also received about 80 percent of its $72.5 million in authorized
capital and invested about $81 million, also using a combination
of both authorized capital and monies generated through investment
activities. The Russian fund had received over one- third of its
$440 million in authorized capital and invested about $125
million. The Romanian fund had received almost 70 percent of its
$50 million in authorized capital and made investments totaling
about $35 million. It is important to note that the funds are at
varying stages of their life spans in 1998, the Polish and
Hungarian funds were in their eighth years of operation, while the
Romanian and Russian funds were in their fourth and fifth years,
respectively. Most funds have also used funding to provide
technical assistance to businesses in which they invest. Funds
have provided employee training, upgraded management information
and financial reporting systems, and provided advice and technical
support in a variety of other areas to such firms. However,
according to USAID officials, funds often do not identify
technical assistance activities separately from their investment
activities, when such assistance is provided in support of
specific investments. Therefore, figures shown for technical
assistance provided do not fully reflect some funds' actual
technical assistance activities. Table 1 shows the amount of
capital authorized in USAID grants for each fund and the amounts
that each of them invested or specifically identified as technical
assistance provided as of September 30, 1998. Table 1: Enterprise
Fund Capital Authorized and Invested and Technical Assistance
Provided as of September 30, 1998 Dollars in millions Capital
Total capital invested Enterprise Year authorized in Capital
Technical and technical Fund incorporated USAID grants invested a
assistance assistance Hungary 1990 $72.5 $75. 0 $6.2 $81.2 Poland
1990 264.0 284. 0 16.8 300.8 Czech- Slovak 1991 65.0 39. 3 3. 1
42.4 Bulgaria 1992 55.0 49. 0 1. 8 50.8 Russia 1993 440.0 123. 3
1.7 125.0 Baltic 1994 50.0 25. 1 1. 7 26.8 Central Asia 1994 150.0
76. 7 0 76.7 Romania 1994 50.0 33. 7 1. 0 34.7 Western Newly
Independent States 1994 150.0 48. 7 3. 5 52.2 Albania 1995 30.0
18. 3 0. 3 18.6 Total $1,326.5 $773. 1 $36.1 $809.2 a The amount
of capital that funds invest can include monies generated through
investment activities and, thus, can be larger than the amount of
authorized capital received from USAID grants. Source: USAID. Most
of the funds' investment activities are focused on a wide range of
small- and medium- sized enterprises. However, the Russian fund
has the flexibility to invest in somewhat larger enterprises. For
example, the Russian fund's largest project was a $15.5- million
direct investment in a brewing company. The average size of the
fund's 28 equity investments as of September 30, 1998, was about
$3.5 million. The Russian fund has invested in diverse industries,
ranging from agribusiness to pharmaceuticals. The average size of
the Romanian fund's 16 direct investments as of the same date was
$1.5 million. The Romanian fund has also invested in diverse
areas, ranging from financial services to construction materials.
Both of these funds also target much smaller companies through
their various loan programs. For example, the average size of the
Russian fund's 282 small business loans was about $75,000, and the
average size of the Romanian fund's 61 such loans was about
$63,000. Raising Capital From Other In addition to their
authorized capital, nearly all funds have raised Sources
additional outside capital through the involvement of other
investors. For example, according to USAID, the Polish fund has
raised additional capital of at least $328 million through a
combination of finding outside investment partners for individual
deals and helping establish separate private equity funds that
attracted outside investors. The Romanian and Hungarian funds have
raised $80 million and $50 million, respectively, through a
similar combination of methods. The Russian fund raised capital
from outside investment partners totaling approximately $244
million. In contrast, the Baltic fund has not raised any outside
private capital. Table 2 details the amount of capital raised from
outside sources by each fund as a percentage of its authorized
capital in USAID grants. Table 2: Fund Capital Raised From Other
Sources as a Percentage of Authorized Capital as of September 30,
1998 Dollars in millions Capital authorized Capital raised Other
capital as a percent Enterprise fund Year incorporated in USAID
grants from other sources of authorized capital Hungary 1990 $72.5
$50. 0 69 Poland 1990 264.0 328. 0 124 Czech- Slovak 1991 65.0 3.
4 5 Bulgaria 1992 55.0 20. 1 37 Russia 1993 440.0 244. 3 56 Baltic
1994 50.0 0 0 Central Asia 1994 150.0 2. 9 2 Romania 1994 50.0 80.
0 160 Western Newly Independent States 1994 150.0 15. 2 10 Albania
1995 30.0 0. 4 1 Total $1,326.5 $744. 3 56 Source: USAID and
enterprise funds. Strengthening Financial Most of the funds have
taken measures to help strengthen financial Institutions and
institutions and provide a demonstration effect that encourages
Encouraging Economic economic reforms through new, market-
oriented activities in their host Reforms countries, although the
types and extent of such efforts vary among the funds. All but the
Western Newly Independent States fund have worked to strengthen
financial institutions by undertaking activities such as training
bank personnel and providing financing to businesses through
partner banks. All but the Czech- Slovak fund have provided a
demonstration effect through activities such as delivering capital
to previously underserved segments of the economy or establishing
previously nonexistent market institutions such as mortgage and
micro- sized loan programs. Table 3 lists some of the activities
in which funds have engaged. Table 3: Examples of Fund Activities
to Strengthen Financial Institutions and Provide a Demonstration
Effect Strengthening financial Enterprise fund institutions
Demonstration effect Albania Established (and wholly owns) the
American Bank Established the American Bank of Albania, the first
of Albania. western- style bank in Albania. Baltic Established a
residential mortgage program that Established a residential
mortgage program that was was replicated by banks. replicated by
banks; also one of few lenders to provide small- and medium- sized
loans, a emphasizing women and rural areas. Bulgaria Established
(and wholly owns) the Created Home Mortgage Lending Program; also
one of Bulgarian- American Credit Bank, which serves as few
sources for medium- term financing (focusing on real a conduit for
fund investments. estate and hotels). Central Asia Established
(and wholly owns) the Asian Created micro- and small- sized loan
programs. a Crossroads Loan Company, which serves as a conduit for
loans to small- and medium- sized businesses. Czech- Slovak
Trained about 50 bankers in the loan application None. development
process. Hungary Created micro- and small- sized loan programs
Established the Hungarian Innovative Technologies Fund, that have
been replicated by commercial banks. the first in the region
devoted exclusively to funding small entrepreneurs and developing
innovative technologies. Poland Created First Polish- American
Bank; also trained Established Polish- American Mortgage Bank for
residential bankers in western- style corporate governance
mortgages; also provided capital to housing developers. and
financial management systems. Romania Purchased Banca Romaneasca,
which serves as Established micro-, small-, and medium- sized loan
a conduit for small- and medium- sized loan programs, a the only
such funding mechanisms available to program; also trained bank
personnel in cash- flow Romanian entrepreneurs. lending
techniques. (continued) Strengthening financial Enterprise fund
institutions Demonstration effect Russia Used Russian partner
banks for small- and Established one of the first residential
mortgage programs medium- sized loan program; also trained bank
and the first auto loan program in Russia; also operates personnel
in credit methodology and underwriting. micro-, small-, and
medium- sized loan programs. a Western Newly None. Received the
first- ever license for a non- depository Independent States
financial institution to make loans and leases in Ukraine. a
Enterprise fund micro-, small-, and medium- sized loans vary in
size and other characteristics among the funds, including the two
where we conducted case studies. The Russian fund's micro- sized
loan program involves loans of between $1, 000 and $20,000 to
enterprises with fewer than 20 employees, and its small- sized
loan program involves loans of up to $150,000 to businesses with
fewer than 100 employees. The Romanian fund's micro- sized loan
program involves loans of between $2, 500 and $15,000 (with no
requirement regarding the number of employees), and its small- and
medium- sized loan program involves loans of up to $150, 000 to
businesses with 200 or fewer employees. Source: USAID and
enterprise funds. As illustrated in table 3, some funds have
helped strengthen financial institutions by assisting selected
banks. For example, the Russian and Romanian funds have developed
relationships with partner banks and use these banks to implement
loan programs. The Russian fund is providing technical assistance
by training bank personnel in credit methodology and underwriting
as well as other key skills. The Romanian fund has implemented
training programs for bank staff that allow the consideration of a
firm's earnings history and profit potential rather than using
only a company's assets to determine loan eligibility, as Romanian
banks had done in the past. Funds have also invested in host-
country banks as a method of strengthening financial institutions.
For example, the Polish fund bought a controlling interest in a
Polish bank and then merged the bank's operations with the fund's
small business loan program. The Romanian fund invested about $5
million and is now the majority shareholder in a private Romanian
bank with 12 branches throughout the country. Since taking
controlling interest in the bank in December 1998, the Romanian
fund now utilizes the bank as its partner institution to implement
its entire small- and medium- sized loan program. The Albanian
fund recently opened a bank that is wholly owned by the Albanian
fund. Funds have provided capital to previously underserved
segments of the economy. For example, the small- and medium- sized
loans that the Russian and Romanian funds offer address a segment
of the economy not previously served by financial institutions.
According to Romanian and Russian fund officials, banks in their
host countries traditionally made little effort to provide loans
to small entrepreneurs, preferring to make loans to large
companies or to invest their capital in instruments such as
government securities. Funds have also established previously
nonexistent market institutions. For example, the Polish fund
pioneered the concept of home mortgage lending in Poland and
operates the Polish- American Mortgage Bank as a subsidiary of the
fund. The Russian fund also operates a residential mortgage
lending program and initiated the first auto loan program of its
kind in Russia. The Romanian fund established a micro- sized loan
program a new lending mechanism in Romania. The fund implements
the program through two U. S.- based, nongovernmental
organizations, which have provided micro- sized loans to
enterprises in many sectors of the economy, such as manufacturing,
trade, and services. Fund Management and Fund management's early
involvement in fund activities and host- country Host- Country
conditions play key roles in the funds' ability to execute their
activities. Fund management was a key factor in the success of the
Polish fund and Conditions Affect the early losses of the Czech-
Slovak fund, and affected the investment pace Funds' Activities at
the two funds where we conducted case studies Russia and Romania.
The legal and regulatory environment and economic conditions in
the funds' host countries affected fund operations as well. Fund
Management USAID, State, and fund officials agreed that enterprise
fund management plays a critical role in the funds' ability to
execute their activities especially at the outset. According to
USAID and State officials, the Polish fund's success was due in
part to having a well- functioning board of directors and good
management from the beginning. Conversely, the officials said that
a poor investment strategy and mismanagement of the Czech- Slovak
fund's resources were major factors in that fund's early losses.
One USAID evaluation cited the fund's decision to avoid the
service and retail sectors of the economy as one reason the fund
had not performed better financially. Another pointed to
management's insufficient supervision of its investments and an
operational strategy that emphasized saving costs over maintaining
staffing continuity. Eventually, the entire board of directors was
replaced, and the fund essentially terminated its activities in
the Czech Republic, concentrating its remaining activities in the
Slovak Republic. Our case studies in Russia and Romania
highlighted fund management's influence on investment pace. Fund
officials in Romania told us that policy and operational
disagreements by board members and management delayed investment
decisions and adversely affected staff morale. However, after key
changes in management and on the board of directors, the pace of
investment and staff morale improved. Russian fund officers and
USAID and State officials said that an absence of in- country
leadership and frequent senior management turnover contributed to
the Russian fund's early slowness to invest. For example, fund
officials in the United States and Russia told us that leadership
and management turmoil had delayed the Russian fund's investment
progress from 12 to 18 months. The current Chief Operating Officer
of the Russian fund lives in- country, and fund officers and USAID
and State officials told us that the fund's operations had
improved significantly as a result of this change. In an attempt
to measure management efficiency, we also examined the funds'
operating expenses as a percent of their capital. Fund and private
sector officials told us that private sector venture capital funds
typically charge a management fee of 2 to 2.5 percent of
authorized capital throughout the life of the fund to manage the
fund. The combined rate of operating expenses for all enterprise
funds was 2.8 percent during 1998. However, as shown in table 4,
the rates varied widely from fund to fund. Fund and private sector
officials said that operating expenses are normally higher than
2.5 percent during the initial years of a fund's existence because
of start- up costs and lower than 2 percent during the last few
years of a fund's life. Table 4: Enterprise Funds' Operating
Expenses as a Percentage of Authorized Capital for 1998 Dollars in
millions Capital authorized Operating expenses as Enterprise fund
Year incorporated in USAID grants Operating expenses a percent of
capital Hungary 1990 $72.5 $2. 5 3. 4 a Poland 1990 264.0 2. 0 0.8
a Czech- Slovak 1991 65.0 1. 7 2.6 Bulgaria 1992 55.0 1. 8 3.2
Russia 1993 440.0 9. 0 2.0 Baltic 1994 50.0 2. 7 5.4 Central Asia
1994 150.0 7. 5 5.0 Romania 1994 50.0 3. 4 6.8 Western Newly
Independent States 1994 150.0 6. 2 4.1 Albania 1995 30.0 0. 8 3.0
Total $1,326.5 $37. 7 2.8 a Hungarian and Polish fund operating
costs are shared with the funds' associated private equity funds.
Source: USAID and enterprise funds. Host- country Conditions
Economic conditions and host- country legal and regulatory
environments, over which funds have little control, also affected
fund operations. Immediately following the August 1998 Russian
financial crisis, the Russian fund halted many of its activities
for 30 days and focused its efforts on protecting its existing
portfolio by restructuring loans and assisting its portfolio
companies in developing post- crisis strategies and restructuring
plans. Financial documents that we reviewed during our visit to
Russia indicated that the 1998 Asian and Russian financial crises
had substantially negative effects on nearly all of the Russian
fund's portfolio companies. For example, the fund had to increase
its loss reserves to about 17 percent of its total direct
investment portfolio and 22 percent of its small loan portfolio.
As a result, the fund reported loan and investment losses totaling
over $13 million for the fiscal year ended September 30, 1998.
Romanian fund officials told us that high tax rates consume large
amounts of private firms' working capital and discourage
investment in that country. Similarly, Russian fund officials told
us that frequent changes in the Russian legal and tax codes make
it time- consuming to address issues of law and taxation in
investment contracts. USAID officials told us that poor economic
conditions had caused a number of funds to exercise caution in
making investments in order to safeguard fund assets. For example,
the Bulgarian fund pursued a cautious investment strategy in the
early years of its operations due to economic uncertainties in
that country. Later, as economic conditions improved, fund
officials accelerated their investment pace. Russian and Romanian
The overall capital needs in Russia and Romania can accommodate
the Funds Have a activities of all investors, even with occasional
competition. The Russian and Romanian enterprise funds have a
continuing development role, Continuing despite other private
investment flows and other donors that provide equity Development
Role and debt financing in those countries. For example, foreign
investment by private investors in Russia is predominantly
portfolio investment in stocks and bonds, without the substantial
influence on company operations and transfer of western financial
and management expertise that the Russian fund's direct
investments entail. Also, the funds' direct investment programs
employ different operating approaches and target different market
segments than those of other donors. Capital Needs in Russia and
The overall capital needs in Russia and Romania are large. One way
to Romania view a country's capital needs is by considering the
country's investment levels in the context of its population. Per
capita foreign direct investment in Russia and Romania is
relatively less than investment in other countries in the region.
For example, IMF statistics indicate that in 1997 the year in
which Russia's foreign investment was at its peak its foreign
direct investment was only $42 per capita compared to $127 in
Poland, where the enterprise fund is only beginning to curtail its
operations. Romanian per capita foreign direct investment was $54
in 1997, less than half of Poland's and slightly more than
Russia's. In 1998, foreign direct investment in Russia decreased
significantly due to the Asian and Russian financial crises. The
country's $2.2 billion in foreign direct investment during 1998
was 65 percent less than the $6.2 billion that it received in
1997. On a per capita basis, 1998 foreign direct investment in
Russia was only $15, compared to $163 in Poland. USAID, State, and
Russian fund officials said that the dramatic drop in foreign
direct investment in Russia underscored the need for the fund's
continued involvement in that country. During the first 9 months
of 1998, Romania's foreign direct investment was 11 percent less
than it was for a comparable period in 1997. However, the U. N.
Economic Commission for Europe reported that the Romanian
government sold several large, state- owned enterprises at
attractive prices to foreign investors at the end of the year
because of its need for funds. 5 This skewed the 1998 year- end
total of foreign direct investment in that country upward to $1. 6
billion, or 32 percent more than the $1.2 billion that it received
in 1997. Despite these unusual investment flows, per capita
foreign direct investment in Romania was only $71 in 1998, less
than half of Poland's. The funds have occasionally competed with
other private investors and donors in Russia and Romania. For
example, Romanian fund officials said that a private investor made
an equity investment in a pharmaceuticals packaging and
distribution firm that the fund was prepared to make. The Russian
and Romanian funds' small business financing programs' approaches
and targets are similar to those of other donors. For example, the
European Bank for Reconstruction and Development (EBRD) 6 has
programs in Russia and Romania that provide loans to small
businesses through intermediary banks, as do the Russian and
Romanian funds. Officials for two companies that we visited in
Russia said that they had actively considered similar loans from
an intermediary bank associated with EBRD but that they chose the
Russian fund's loan because the terms were better and the funding
could be provided in a more timely fashion. The International
Finance Corporation (IFC) 7 also has an in- country program that
provides loans to small businesses through intermediary banks in
Russia. IFC, which recently opened an office in Romania, provided
a $5- million loan commitment to assist the Romanian fund in
expanding its small loan program. Officials from EBRD, IFC, the
Russian and Romanian funds, USAID, and State all said that the
market for small business financing in Russia and Romania is large
enough for all donors. They added that some competition among
donor organizations is healthy and normal at the working level.
None of these officials said that the competition diminished the
relevance of any of their programs. Moreover, Russian fund
officials said that the 5 Economic Survey of Europe, 1999 No. 1
(New York and Geneva: Secretariat of the Economic Commission for
Europe, United Nations, 1999), p. 169. 6 EBRD promotes private
sector development through lending, investment, and other
activities in 26 countries in Central Europe and the former Soviet
Union. 7 IFC is affiliated with the World Bank and promotes the
growth of the private sector through lending, investment, and
other activities in its 174 member countries. competition for
individual direct investments has greatly diminished since the
Russian and Asian financial crises, when many investors left
Russia. Foreign Investment in Foreign investment in Russia has
been dominated by portfolio investment Russia (stocks and bonds),
not direct investment. For example, in 1998, total foreign
investment in Russia amounted to $10. 9 billion. Approximately
$8.7 billion, or about 80 percent of this amount, was comprised of
portfolio investment, which is oriented toward short- term profits
and does not entail investor participation in governing the
recipient firms. During the same year, only $2.2 billion, or about
20 percent of Russia's total foreign investment, consisted of
direct investment, which targets long- term opportunities and
entails investor involvement in the recipient companies. In
contrast, the Russian fund's equity investments are generally
direct investments. Russian fund officials told us that the fund
normally attempts to acquire a large enough share in recipient
companies to have a significant influence on their operations. The
Romanian officials told us that they follow the same approach. 8
USAID and fund officials consider this type of active involvement
as an essential tool for influencing market- oriented reforms in
the recipient firms of transition countries. Other Donor Programs
The funds' direct investment programs tend to make smaller
investments, target smaller companies, or employ different
investment instruments than other donors. For example, in Russia
and Romania, EBRD invests in large infrastructure projects in the
form of loans in sectors such as energy and telecommunications as
the core of its activity. These projects are generally much larger
than the Russian and Romanian funds' equity investments. For
example, an EBRD official in Russia told us that the size of the
bank's major infrastructure projects range upward to about $1
billion, whereas the Russian fund's investments range in size from
$75,000 to about $15 million. In Romania, EBRD's average
investment for similar projects is nearly $64 million, while the
Romanian fund's investments range from about $42,000 to almost $5
million. In addition to large infrastructure projects, EBRD has
regional venture capital funds that operate in Russia and Romania.
However, Russian fund officials told us that the EBRD program
targets firms smaller than those 8 Unlike Russia, foreign direct
investment represents the largest share of foreign investment in
Romania. that the fund currently focuses on through its direct
investment program. Romanian fund and EBRD officials told us that,
although the potential for competition between the fund and EBRD
exists because they are targeting similar investments, it has not
presented a problem to date because of the large, unsatisfied
demand for capital. IFC has direct investment programs and offices
in Russia and Romania. However, according to IFC officials in
Russia, IFC does not compete with the Russian fund because IFC's
direct investment program targets larger investments than the
Russian fund. Further, IFC's investments are in areas such as
energy and general manufacturing, which are not areas the fund
emphasizes. The largest part of IFC's direct investment program in
Romania focuses on public infrastructure projects and other
investments that are larger than most enterprise fund investments.
IFC provides additional capital to existing private venture
capital companies for investments in Romania that are comparable
in size to some Romanian fund investments. However, Romanian fund
and IFC officials said that these private funds do not compete
with the Romanian fund because, like with EBRD, of the large,
unsatisfied demand for private equity capital in that country. The
Overseas Private Investment Corporation 9 (OPIC) also has a
private investment fund program that operates in transition
countries in Central and Eastern Europe and the former Soviet
Union. However, the objectives and focus of its program are
different from enterprise funds. OPIC operates its program through
existing American venture capital companies, using long- term,
secured loan guaranties and loans to help the firms establish and
capitalize regional investment funds. 10 OPIC's objective is
primarily to support and protect U. S. companies and investors,
while enhancing U. S. development objectives and furthering
stability in foreign countries. However, the individual private
investment funds make commercially based investment decisions in
order to realize a profit and do not have the same development
mandate as enterprise funds. 9 OPIC is an independent U. S.
government corporation that assists U. S. investors overseas by
providing political risk insurance, financing, and other
investment services. 10 As of March 31, 1999, including accrued
interest, OPIC had made loan guaranties and loans of about $677
million in Russia and $22 million in Romania, of which about $330
million and $16 million, respectively, had been invested. Whether
Funds Will Current USAID guidance to enterprise funds is that the
funds should aim to Recoup Authorized have assets worth at least
the amount of their original grants when they terminate their
operations. This expectation has evolved over time. When Capital
Is Problematic enterprise funds were first established, many U. S.
officials did not expect funds to recoup their original grants. In
1993 and 1994, USAID made changes to its grant agreements with the
funds, setting forth options for the use of remaining fund assets
upon termination of operations. Over time, as the likelihood
increased that some of the more mature funds might recover their
original authorized capital, USAID raised the target to the same
level for the other funds. USAID currently expects that at least
three funds will recover their authorized capital through their
investments and one will not. The Polish fund has finished making
new investments with U. S. government funds and has begun to
liquidate some of its investments. USAID expects the Polish fund
to recover its original authorized capital. The fund's estimated
net worth was $270 million$ 15.5 million more than the amount that
it received through its authorized grant as of September 30, 1998.
Currently, USAID officials also expect the Hungarian and Romanian
funds to eventually recoup their original authorized capital. In
contrast, although the Czech- Slovak fund has not finished making
new investments, it sold the Czech portion of its portfolio at a
loss of 92 percent of its invested capital in 1997, making it
unlikely that the fund can recoup its original authorized capital
when it eventually ceases operations. For the other funds,
determining whether they will ultimately recoup their original
authorized capital is not reasonably possible until they are
closer to liquidating their investments. According to enterprise
fund and other private venture capital officials, markets for the
funds' investments and a way to determine fair market value often
do not exist in the transition countries where the funds operate.
Also, the funds have intended life spans of 10 to 15 years, and,
therefore, potentially long periods for their investments to be
profitable. Table 5 shows the funds' assets as of September 30,
1998. Table 5: Enterprise Funds' Grant Amounts and Estimated Asset
Valuation as of September 30, 1998 Dollars in millions Capital
authorized Grant amount Enterprise fund Year incorporated in USAID
grants received Net asset value Hungary 1990 $72.5 $56.6 $28.2
Poland 1990 264.0 254.5 270.0 Czech- Slovak 1991 65.0 46.2 12.5
Bulgaria 1992 55.0 44.5 28.7 Russia 1993 440.0 165.0 89.6 Baltic
1994 50.0 31.1 22.4 Central Asia 1994 150.0 87.0 38.4 Romania 1994
50.0 35.2 28.2 Western Newly Independent States 1994 150.0 64.3
39.0 Albania 1995 30.0 16.0 14.0 Total $1,326.5 $800.4 $571.0
Source: USAID and enterprise funds. Enterprise fund investment
decisions are supposed to balance financial soundness with the
funds' development mandate. Making investments where traditional
financial institutions are reluctant to invest means some
investments will not be successful, especially in the early stages
of a fund's operations. However, by the end of a fund's
operations, the successes are supposed to outweigh the failures.
Individual investments made by the Russian fund illustrate the
element of risk involved in enterprise fund investments.  In 1995,
the Russian fund wrote off the entire amount of its $3. 8 million
investment in U. S. Global Health, which operated a western- style
medical clinic in Moscow. The clinic failed because lower than
expected revenues combined with start- up and operating costs
depleted the firm's capital before it was able to make a profit.
11  In 1996 and 1997, the fund also wrote off approximately $3
million it invested in ZAO Giant, Ltd. a supermarket chain in the
Vladivostock 11 This investment was originally made in 1994 by the
Fund for Large Enterprises in Russia, which merged with the
Russian- American Enterprise Fund in 1995 to form the current
Russian fund. The USAID Inspector General reported on the reasons
for this investment failure in March 1997: Audit of the Request
for Review of the U. S. Russian Investment Fund's Investment in U.
S. Global Health Limited, Audit Report No. A- 00097- 003P
(Washington, D. C.: USAID, Office of the Inspector General, Mar.
26, 1997). and Nakhodka regions of the Russian Far East before the
company had ever stocked its stores with initial inventory. Fund
officials said that it refused further support of the company when
it became clear that the company had not put appropriate managers
and financial controls in place to address serious operating and
expenditure problems that were occurring in setting up the
operation. 12  More recently, in 1999, fund officials feared that
the fund's 1998 $2.4 million investment in Lomonosov Porcelain a
porcelain tableware producer in St. Petersburg could deteriorate
considerably in value because the company's general director and
senior managers opposed the fund's and other investors' takeover
of the firm. However, fund officials said that they have since
established a working relationship with the company's managers and
expect, along with other investors, to assume control of the
company shortly. The officials added that the company now has an
excellent opportunity to significantly increase its sales,
production volumes, and profitability. Similarly, investments made
by the Romanian fund also demonstrate the uncertain nature of
enterprise fund investment operations.  The fund's 1996 investment
of $471, 000 in Multiprint a commercial printing company in
Northeast Romania encountered financial difficulties due to
factors such as late payments from the firm's debtors and the
overall decline of the Romanian economy.  The fund's 1996
investment of $229,000 in Doriela a Bucharest farm equipment
services and leasing firm performed poorly because of a decrease
in demand. The fund reported that the purchasing power of
potential buyers had diminished and that expected agricultural
subsidies had not materialized in Romania.  The fund's 1996
investment in Multicolor a label and packaging plant in northeast
Romania demonstrated weak performance because of poor management,
stronger than expected competition, and other factors. A fund-
financed evaluation of Multicolor's difficulties led the company
to negotiate the rescheduling of its debt payments, replace its
general manager, and completely restructure its maintenance
department. 12 The original commitment for this investment was
made in 1995 by the Russian- American Enterprise Fund. Funds Are
Complying Since we reported on enterprise funds in 1994, 13 USAID
has increased fund With Increased reporting requirements due to
concerns about the extent to which the U. S. government was
systematically monitoring fund progress using a standard Reporting
set of indicators. In 1995, the USAID Inspector General reported
that Requirements USAID had not established a comprehensive set of
specific objectives and measures by which the performance of the
funds could be judged. 14 In 1997, partly in response to these
concerns, USAID strengthened its semiannual reviews of the funds
by asking the funds to submit a strategic framework matrix
providing data on fund activities in key areas, such as
investments in small- and medium- sized enterprises and capital
raised from other sources. The matrix also included other data,
such as multiyear investment projections and break- even analyses.
According to USAID and State officials, the economic conditions in
each host country, the length of time the respective funds have
been operational, and the substantial operational latitude that
funds were given in responding to their host- country situations
make it difficult to establish clear and objective standards that
can be applied equally to all of the funds. Therefore, USAID does
not use the matrixes to hold funds to standardized performance
targets or to make comparisons across funds. However, it does work
with each fund to independently establish investment projections
and target dates for breaking even. We found that the funds are
providing the information requested, although the information has
not always been in the requested format. For example, while some
funds may not have fully completed sections of the strategic
framework matrix, they provided the required information in other
reporting documents. USAID and State officials told us that the
additional reporting requirements had enhanced their ability to
oversee the funds' activities. Russian and Romanian fund officials
also told us that the current level of oversight is appropriate.
They said that they have a responsibility to safeguard U. S.
government funds that are provided to them in the form of grants
and added that the reporting requirements are not burdensome. In
addition, much of the information reported to USAID is data that
the funds would 13 Enterprise Funds: Evolving Models for Private
Sector Development in Central and Eastern Europe. 14 Audit of the
Economy and Efficiency of Four Central and Eastern Europe
Enterprise Funds, Audit Report No. 8- 180- 95- 015 (Washington, D.
C.: USAID, Office of the Inspector General, Aug. 25, 1995).
collect in their normal course of managing fund activities and is
similar to information that private investors would expect to have
available. Conclusions The enterprise funds in Central Europe and
the former Soviet Union have supported private sector development
in their host countries. Most have also helped strengthen
financial institutions and encouraged economic reforms. A fund's
success is largely dependent on its management's early involvement
in the fund's operations and host- country legal, regulatory, and
economic climates. Based on our analysis of financial and
investment patterns in Russia and Romania, the enterprise funds in
both countries have a continuing development role for the
foreseeable future, and the overall need for investment capital in
these countries continues unabated. Determining whether enterprise
funds will recoup their authorized capital is problematic; yet, U.
S. officials expect several funds to recoup their authorized
capital and have raised expectations that other funds will do the
same. Finally, due to congressional concerns about U. S. oversight
of the funds, USAID increased enterprise fund reporting
requirements in 1997. We found that the funds are providing the
requested information, and USAID and State officials told us the
additional information has enhanced their ability to oversee the
funds' operations. Scope and We reviewed the activities of all 10
enterprise funds in Central Europe and Methodology the former
Soviet Union. To gain a first- hand view of fund operations, we
also visited the Russian and Romanian funds' U. S. and host-
country offices; toured in- country investment sites; and met with
U. S., host government, and fund officials. These funds were
selected based on congressional interest, to provide geographical
coverage in both Central Europe and the former Soviet Union, and
to offer contrasting fund sizes. We traveled to Romania and Russia
in January 1999. To determine whether enterprise funds are
assisting private sector development and what factors have
affected the funds' ability to carry out these activities, we
interviewed cognizant officials and analyzed program
documentation. Specifically,  In Washington, D. C., we interviewed
officials in the offices of the Department of State Coordinators
of Assistance for Eastern Europe and the New Independent States,
USAID's Bureau for Eastern Europe and the New Independent States,
and the Romanian fund's U. S. offices. We also met with members of
the Romanian fund's board of directors and interviewed other
private venture capital firm officials. We reviewed enterprise
fund grant agreements, annual fund reports, fund semiannual review
documents, and other reporting documents; USAID evaluations of
enterprise funds; and USAID Inspector General reports. In New York
City, we interviewed officials in the Russian fund's U. S. offices
and met with members of the Russian fund's board of directors and
other private venture capital firm officials. From our analysis,
we determined the type and extent of enterprise fund activities
that support private sector development in host countries as they
progress from centrally planned to market- oriented economies as
well as the critical elements that facilitated or impeded funds in
executing these activities.  In Russia and Romania, we interviewed
enterprise fund senior managers and investment officers, reviewed
the funds' investment and loan portfolios and fund technical
assistance activities, and visited fund investment sites. We also
discussed the fund's private sector development activities with
senior officials at the U. S. embassies and USAID missions as well
as host government officials. In addition, we attended the Russian
fund's January 1999 semiannual review meeting. To determine
whether funds still have a role in private sector development,
given other private investment and international donor efforts, we
primarily relied on our case studies of the Russian and Romanian
funds. We analyzed foreign investment flows in these two countries
and discussed with U. S. officials the activities of other private
investors and international donors there. We also interviewed
Russian and Romanian fund officials, recipients of Russian and
Romanian fund assistance, host government officials, and other
international donors to determine the similarities and differences
among the various activities of the funds, other investors, and
other donors. To determine whether the funds are likely to recoup
their authorized capital, we discussed with U. S. officials their
expectations regarding the ultimate financial outcomes of
individual funds and discussed with private venture capital firm
officials the practice of valuing international venture capital-
type investment portfolios. We also reviewed annual fund reports,
fund semiannual review documents, other reporting documents, and
State and USAID documents. To determine whether funds are
complying with recent changes in USAID reporting requirements, we
interviewed State and USAID officials and reviewed enterprise fund
reporting for the two most recent semiannual review periods. Also,
in response to a specific question from your staff, we identified
the primary law firms that enterprise funds currently employ. This
information is in appendix IV. We performed our work from
September 1998 to August 1999 in accordance with generally
accepted government auditing standards. Agency Comments The
Department of State and USAID provided written comments on a draft
of this report (see apps. V and VI, respectively). State said that
the report was a well- written and balanced analysis of the
effectiveness of enterprise funds; USAID noted that the report
detailed many accomplishments and development impacts of
enterprise funds in Central Europe and the former Soviet Union.
USAID also provided technical comments that we have incorporated,
as appropriate. Unless you publicly announce its contents earlier,
we plan no further distribution of this report until 30 days after
its issue date. At that time, we will send copies of this report
to the Honorable Madeleine K. Albright, the Secretary of State;
the Honorable J. Brady Anderson, the Administrator of USAID; and
interested congressional committees. We will make copies available
to others upon request. Please contact me at (202) 512- 4128 if
you or your staff have any questions about this report. Other GAO
contacts and staff acknowledgments are listed in appendix VII.
Benjamin F. Nelson Director, International Relations and Trade
Issues Letter 1 Appendix I 28 Romanian Fund Investments, Loans,
and Technical Assistance Appendix II 30 Russian Fund Investments,
Loans, and Technical Assistance Appendix III 33 Romanian and
Russian Fund Boards of Directors Appendix IV 37 Enterprise Fund
Law Firms Appendix V 38 Comments From the Department of State
Appendix VI 39 Comments From the U. S. Agency for International
Development Appendix VII 41 GAO Contacts and Staff Acknowledgments
Tables Table 1: Enterprise Fund Capital Authorized and Invested
and Technical Assistance Provided as of September 30, 1998 6 Table
2: Fund Capital Raised From Other Sources as a Percentage of
Authorized Capital as of September 30, 1998 7 Table 3: Examples of
Fund Activities to Strengthen Financial Institutions and Provide a
Demonstration Effect 8 Table 4: Enterprise Funds' Operating
Expenses as a Percentage of Authorized Capital for 1998 12 Table
5: Enterprise Funds' Grant Amounts and Estimated Asset Valuation
as of September 30, 1998 18 Table I. 1: Romanian Fund Direct
Investment Program as of September 30, 1998 28 Table I. 2:
Romanian Fund Loan and Other Small- and Medium- sized Business
Program Disbursements as of September 30, 1998 29 Table I. 3:
Examples of Romanian Fund Technical Assistance Projects 29 Table
II. 1: Russian Fund Direct Investment Program as of September 30,
1998 30 Table II. 2: Russian Fund Loan Program Disbursements as of
September 30, 1998 31 Table II. 3: Examples of Russian Fund
Technical Assistance Projects 32 Table IV. 1: Enterprise Fund
Primary Law Firms 37 Abbreviations EBRD European Bank for
Reconstruction and Development IFC International Finance
Corporation IMF International Monetary Fund OPIC Overseas Private
Investment Corporation USAID U. S. Agency for International
Development Romanian Fund Investments, Loans, and Appendi I x
Technical Assistance As of September 30, 1998, the Romanian fund
had made investments and loans in and provided technical
assistance to Romanian businesses totaling about $30 million. Most
of the fund's investments (nearly $23 million) were in Romanian
small- and medium- sized businesses, including agribusiness and
manufacturing of chemical products, technical rubber, and machine
parts. The average size of the fund's 17 direct equity investments
was about $1.3 million, but over 40 percent of its investments was
concentrated in two firms. The fund's largest investment was $5
million in a paint manufacturing company, and the smallest was
$42,000 in a financial services firm. Table I. 1 shows the fund's
direct investments, including the recipient firms, types of
businesses, and amounts invested. Table I. 1: Romanian Fund Direct
Investment Program as of September 30, 1998 Dollars in thousands
Name of firm Type of business Amount invested Avicola Crevedia
Agribusiness $200 Comtel Hotel development 1, 300 Connecticut
Manufacturing Machine parts manufacturing 1, 373 Doriela
Agricultural services 229 Dunarea Textile manufacturing 500 Hobas
Tub Commercial pipe manufacturing 1, 700 IPEC Porcelain
manufacturing 680 Logic Telecom Telecommunications services 1, 800
MotorActive Leasing services 100 Multicolor Label and package
manufacturing 345 Multiprint Printing 471 Policolor Paint
manufacturing 4, 988 Regisco Financial services 42 Rolast
Technical rubber manufacturing 4, 125 TEC Miaco Agribusiness 2,
500 Titan Mar a Construction materials production 800 Transdata
Telecommunications services 1, 442 Total $22, 595 a Includes
purchase of Marmosim. Source: Romanian fund. As shown in table I.
2, the Romanian fund had invested about $6.2 million in loans and
other lending programs. Over half (about $3.2 million) of the
investments were made through the fund's small- and medium- sized
loan program. Table I. 2: Romanian Fund Loan and Other Small- and
Medium- sized Business Program Disbursements as of September 30,
1998 Dollars in thousands Program Amount disbursed Small- and
medium- sized loans $3, 171 Micro- sized loans 2, 430 Other small-
and medium- sized business programs 554 Total $6, 155 Source:
Romanian fund. The Romanian fund had provided about $650,000 in
technical assistance, most of which supported the fund's
investments. Table I. 3 offers some examples of technical
assistance activities in which the fund engaged in support of its
own investments or private sector development. Table I. 3:
Examples of Romanian Fund Technical Assistance Projects Name of
firm Description of assistance Multicolor Evaluated operations,
finance, and human resource functions, and recommended changes in
management personnel and inventory controls Policolor Trained
managers and marketing and sales personnel in marketing techniques
and product distribution Rolast Reviewed project planning and
subsequently trained top management in methods for instituting
organizational changes Titan Mar Provided strategic consulting and
advice on operations and technology Transdata Evaluated human
resources and helped establish performance- based incentive
packages for managers and employees Source: Romanian fund. Russian
Fund Investments, Loans, and Appe ndi I I x Technical Assistance
As of September 30, 1998, the Russian fund had made investments
and loans in and provided technical assistance to Russian
businesses totaling about $125 million. Most of the fund's
investments were in small- and medium- sized businesses, but the
fund had invested in some larger businesses as well. The Russian
fund had made 28 direct equity investments totaling over $97
million in businesses in Russia, ranging from agribusiness to
telecommunications. The average size of the fund's direct
investments was about $3. 5 million, but over half of its total
investments was concentrated in seven companies. The fund's
largest direct investment was $15.5 million in a brewing and
bottling company, and the fund's smallest was $75,000 in a dental
clinic. Table II. 1 details the fund's direct investment program,
including the recipient firms, the types of businesses they
operate, and the amounts that the fund invested in them. Table II.
1: Russian Fund Direct Investment Program as of September 30, 1998
Dollars in thousands Name of firm Type of business Amount invested
Agribusiness Partners International L. P. Agribusiness industry
direct investment fund $5, 000 Bitech Petroleum Corporation
Petroleum production 3, 000 Dieselprom Diesel engine manufacturing
3, 660 Financial Center Financial services 600 Frank's Siberian
Supreme Ice cream production 211 FunTech Xerox copy operations and
distribution of Xerox products 2, 000 Genesee- Volkhov Connection,
Inc. Photo processing center 900 Independent Network Television
Holding Commercial network broadcasting 4, 378 International
Business Communication Systems, Inc. Telecommunications 5, 000
Interstom Dental clinic 75 Invacorp Pharmaceutical distribution 5,
000 Lomonosov Porcelain Factory Porcelain tableware production 2,
375 Marine Resources Company International Seafood production and
fishing vessel refitting 8, 250 Nizhny Newsprint Holdings
Newsprint and paper production 4, 140 Phargo Alphagraphics
business services 2, 500 Plyko L. L. C. Plywood manufacturing 5,
825 Polygrafoformlenie Packaging 2, 799 Russian Petroleum
Investor, Inc. Publishing and information services for oil and gas
industry 1, 950 Saint Springs Water Limited Production and
distribution of bottled water 3, 500 Segol RadioPage Wireless
messaging systems 2, 500 (continued) Dollars in thousands Name of
firm Type of business Amount invested StoryFirst Communications
Radio and television broadcasting 5, 000 SUN Brewing Limited
Brewing and bottling facilities 15, 500 Time Women's clothing
production 204 TsUM Retail department store 500 U. S. Global
Health Medical clinic 3, 770 Vita Plus Pharmaceutical distribution
5, 000 ZAO Giant, Ltd. Supermarket chain 2, 980 Zapsibinvest Wood
processing and packaging 970 Total $97, 587 Source: Russian fund.
The Russian fund had made over $25 million in small- to medium-
sized loans, consumer auto loans, residential mortgage loans, and
micro- sized loans to entrepreneurs. However, over 80 percent of
the fund's lending activities were concentrated in loans to small
businesses through the fund's partner banks. Table II. 2 shows the
amount of loans disbursed through the fund's various loan
programs. Table II. 2: Russian Fund Loan Program Disbursements as
of September 30, 1998 Dollars in thousands Program Amount
disbursed Bank partner program and other small- and medium- sized
loans $20, 863 Auto loans 4, 000 Mortgage loans 250 Micro- sized
loan program 438 Total $25, 551 Source: Russian fund. The fund had
also provided about $1.7 million in technical assistance, most of
which was in support of the fund's own investments. Table II. 3
offers some examples of technical assistance activities in which
the fund engaged in support of its own investments. Table II. 3:
Examples of Russian Fund Technical Assistance Projects Name of
firm Description of assistance FunTech Installed management
information and financial reporting systems Genesee- Volkhov
Installed a management information system Connection, Inc.
Invacorp Upgraded the company's existing management information
system Plyko L. L. C. Installed a management information system
and retained an engineering consultant to assist in the
installation of a new production line and recommend operational
improvements Saint Springs Water Limited Trained company employees
in management development, strategic planning, and team building
Source: Russian fund. Romanian and Russian Fund Boards of Appendi
I I I x Directors The members of the Romanian and Russian funds'
boards of directors are private citizens of the United States or
the host country. Although the members' backgrounds are varied,
they generally have experience in areas such as investment banking
and business or other relevant expertise. Romanian Fund The
Romanian fund's board of directors is comprised of 10 members. The
members include several attorneys and others who have experience
in the financial sector or investment banking, two former U. S.
ambassadors, and one current and one former Romanian government
official. Information on all 10 board members follows. Director
and Chairman of the Board Mr. Harry G. Barnes, Jr. Director,
Conflict Resolution Program and Chair, Human Rights Committee, The
Carter Center Former U. S. Ambassador to India, Chile, and Romania
Director, President, and Chief Executive Officer Mr. I. John
Klipper Former President of IVEX Corporation Romanian native
Former insurance and venture capital company executive Directors
Mr. Mugur Isarescu Governor, National Bank of Romania Mr. Robert
D. Joffe Presiding Partner, Cravath, Swaine, and Moore Board
Member, Lawyers Committee for Human Rights Executive Committee
Member, Association of the Bar of the City of New York Ms. Judy H.
Mello President and Chief Executive Officer, World Learning Former
Managing Director, Cambridge International Partners Mr. David M.
Roth Managing Partner, Levy & Droney Ms. Ida F. S. Schmertz Co-
Chair, Volkhov International Business Incubator and Training
Center of the Alliance of Russian and American Women Principal,
Strategic Investment International Mr. Theodor Stolojan Senior
Economist, World Bank Former Prime Minister of Romania Mr. Richard
N. Viets Vice President and General Manager, Web Tools Division,
Secure Computing Corporation Former U. S. Ambassador to Jordan and
Tanzania Mr. Gregory A. White Chief Operating Officer, ValueQuest/
TA Former Executive Director, Massachusetts State Pension Fund
Russian Fund The Russian fund's board of directors is currently
comprised of nine members. The members include several individuals
with experience in investment banking, venture capital, and
financial services and others who have experience in business,
law, and government, including a former assistant secretary of
state and a former U. S. ambassador at large. The fund does not
currently include any host- country citizens. Information on all
nine board members follows. Director and Chairman Patricia M.
Cloherty President and General Partner of Patricof & Co.,
Ventures, Inc., a private venture capital company operating in six
countries Former President and Chairman of the National Venture
Capital Association Member of the Council on Foreign Relations
Director, President, and Chief Executive Officer David A. Jones
Former President of Clarendon Capital, an investment banking and
consulting firm Founding Partner of Dougery, Jones & Wilder, a
venture capital firm Former Vice President of Citicorp Venture
Capital Ltd. Directors Frank J. Caufield General Partner and
Founder of Kleiner Perkins Caufield & Byers, a venture capital
firm Former President of the National Venture Capital Association
Former President of the Western Association of Venture Capitalists
Arthur DelVesco, Cofounder of Wind Point Partners, a venture
capital firm Former Director of Republic Telecom Systems
Corporation Former Senior Investment Manager at First Chicago
Equity Group D. Jeffrey Hirschberg Vice Chairman and Senior
International Counselor, Ernst & Young, LLP. Former Special
Attorney to the Deputy Attorney General Director of the U. S.-
Russia Business Council Robert D. Hormats Vice Chairman of
Goldman, Sachs International Board Member of the Council on
Foreign Relations Former Assistant Secretary of State for Economic
and Business Affairs Former U. S. Deputy Trade Representative
Karen N. Horn Senior Managing Director and Head of International
Private Banking at Bankers Trust Company Former Chairman of the
Board of Bank One, Cleveland, NA J. Bruce Llewellyn Chairman of
Philadelphia Coca Cola Bottling Co. Former President of OPIC
Former U. S. Ambassador at Large Richard D. Turner Executive Vice
President of South Shore Bank of Chicago Creator of Polish-
American Enterprise Fund small loan program Appendi I V x
Enterprise Fund Law Firms As shown in table IV. 1, four law firms
provide the primary legal counsel for 9 of the 10 enterprise funds
in Central Europe and the former Soviet Union. 1 One such firm
Weil, Gotshal & Manges of Washington, D. C. is the primary law
firm for five of the funds, while another firm Arnold & Porter of
Washington, D. C. is the primary law firm for two funds. According
to U. S. Agency for International Development (USAID) officials,
only the Albanian fund retains no primary law firm and, instead,
contracts for legal services on an as- needed basis. In addition
to their primary law firms, most funds employ host- country or
other specialized law firms for individual investment deals and a
variety of other legal matters requiring specific expertise that
is not available from one firm. According to USAID officials, the
funds have employed over 50 different law firms on a variety of
legal matters since they began operations. Table IV. 1: Enterprise
Fund Primary Law Firms Law firm Corporate or business location
Enterprise fund Weil, Gotshal & Manges Washington, D. C. Baltic
Hungary Poland Romania Russia Arnold & Porter Washington, D. C.
Czech- Slovak Western Newly Independent States Kirkland & Ellis
Chicago, IL Bulgaria McDermott, Will & Emery New York, NY Central
Asia Source: USAID. 1 Two additional enterprise funds that we did
not include in our review the Defense Enterprise Fund and the
Southern African Enterprise Fund also employ primary law firms.
The Defense Enterprise Fund's primary law firm is Weil, Gotshal,
and Manges of Washington, D. C., and the Southern African
Enterprise Fund's primary law firm is Long, Aldridge, and Norman
of Atlanta, GA. Appe ndi V x Comments From the Department of State
Comments From the U. S. Agency for Appendi VI x International
Development Appendi VI x I GAO Contacts and Staff Acknowledgments
GAO Contacts Jess Ford, (202) 512- 4268 A. H. Huntington, III,
(202) 512- 4140 Acknowledgments In addition to those named above,
Michael Courts, Lee Kaukas, Jim Strus, George Taylor, Bruce
Kutnick, and Richard Seldin made key contributions to this report.
GAO United States General Accounting Office GAO/NSIAD-99-221 Page
1 GAO/NSIAD-99-221 Foreign Assistance United States General
Accounting Office Washington, D. C. 20548 Let t er B-283261 Page 2
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19 GAO/NSIAD-99-221 Foreign Assistance B-283261 Page 20 GAO/NSIAD-
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Page 24 GAO/NSIAD-99-221 Foreign Assistance Contents Contents Page
25 GAO/NSIAD-99-221 Foreign Assistance Contents Page 26 GAO/NSIAD-
99-221 Foreign Assistance Page 27 GAO/NSIAD-99-221 Foreign
Assistance Page 28 GAO/NSIAD-99-221 Foreign Assistance Appendix I
Appendix I Romanian Fund Investments, Loans, and Technical
Assistance Page 29 GAO/NSIAD-99-221 Foreign Assistance Page 30
GAO/NSIAD-99-221 Foreign Assistance Appendix II Appendix II
Russian Fund Investments, Loans, and Technical Assistance Page 31
GAO/NSIAD-99-221 Foreign Assistance Appendix II Russian Fund
Investments, Loans, and Technical Assistance Page 32 GAO/NSIAD-99-
221 Foreign Assistance Page 33 GAO/NSIAD-99-221 Foreign Assistance
Appendix III Appendix III Romanian and Russian Fund Boards of
Directors Page 34 GAO/NSIAD-99-221 Foreign Assistance Appendix III
Romanian and Russian Fund Boards of Directors Page 35 GAO/NSIAD-
99-221 Foreign Assistance Appendix III Romanian and Russian Fund
Boards of Directors Page 36 GAO/NSIAD-99-221 Foreign Assistance
Page 37 GAO/NSIAD-99-221 Foreign Assistance Appendix IV Page 38
GAO/NSIAD-99-221 Foreign Assistance Appendix V Page 39 GAO/NSIAD-
99-221 Foreign Assistance Appendix VI Appendix VI Comments From
the U. S. Agency for International Development Page 40 GAO/NSIAD-
99-221 Foreign Assistance Page 41 GAO/NSIAD-99-221 Foreign
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