Loans for SMEs

Loans for SMEs - m 17 2

Low-interest loans may be used to support investments. The granting of de minimis aid through loans is possible only if loans are secured against collateral. The 2008 Commission Communication on interest rates does not apply to subordinated, non-collateralised loans.



“Investment for growth” is the slogan which seems to be on everybody’s lips in Brussels. Last Friday, the European Council urged that the European Fund for Strategic Investment to be “fully deployable from mid-2015”. The EFSI was Jean-Claude Juncker’s initiative immediately after he took office as President of the Commission. A few days earlier at a conference in Bruges, one of the Vice-Presidents of the Commission, Jyrki Katainen, explained that one of the objectives of the EFSI would be to provide finance to SMEs. Mr Katainen clarified that although the initial amount committed by the Commission and the European Investment Bank was only EUR 21 billion, it was expected to leverage in private sector by a factor of 15 so that the total amount would grow to EUR 315 billion.

“Leveraging through financial engineering” seems to have gained the status of high policy mantra Brussels. The European structural funds have already incorporated the idea of private sector involvement in the financial instruments which will target mostly SMEs.

Irrespective of the form that all this funding will eventually take, it will have to comply with State aid rules. Therefore, this article examines a recent Commission decision in case SA.38674 concerning subordinated loans for SMEs in Saxony, Germany.[1]

Objective of the measure

The measure concerns State aid in the form of subordinated loans. It is assessed on the basis of the regional aid guidelines [RAG] for the period 2014-2020.

The measure aims to promote regional development in Saxony by supporting SMEs. Saxony is an area eligible for regional aid under Article 107(3)(c). The maximum permitted aid intensity for large undertakings is 10% GGE [20% for medium-sized firms, 30% for small firms].

Germany expects that the number of beneficiary SMEs to be more than 100 but fewer than 500. No loans are to be granted to firms with a rating below B- or to firms in difficulty. The measure complies with all the sectoral exclusions required by the RAG.

Form of aid

The aid is granted in the form of low interest rate, non-collateralised subordinated loans to SMEs. Quite importantly, the Commission notes in its decision that subordinated loans are not covered by the 2008 Communication on the method for setting the reference and discount rates, and hence “cannot be considered to constitute transparent forms of aid in the meaning of Article 5(1) of the 2014 General Block Exemption Regulation” [paragraph 6]. At this point the Commission refers to these previous decisions: SA.31690, subordinated loan scheme for undertakings with a rating in Sachsen-Anhalt; and N708/2009, Brandenburg.

This part of the decision is a bit ambiguous. The Commission does not explain why subordinated loans are not covered by the 2008 Communication. Decision SA.31690, mentioned above, is very short and only says that the aid in question was considered to be de minimis. Decision N 708/2009 exists only in German and also concludes that the aid was de minimis. The 2008 Communication indeed makes no mention of subordinated loans and therefore does not explain why subordinated loans are excluded from its scope.

One is left with the question why subordinated loans are not considered to be transparent. A possible answer is that the whole of a non-collateralised and subordinated loan is at risk and always ranks last on the list of creditors. Hence the whole of the loan is the GGE of the aid, unless it remains below the maximum de minimis amount of EUR 200,000.

One thing is sure, however. These loans cannot be used to grant de minimis aid because Article 4 of the de minimis Regulation 1407/2013 requires that loans are secured against collateral covering at least 50% of the loan and that the maximum amount of the loan does not exceed EUR 1 million over five years or EUR 0.5 million over ten years.

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Eligibility conditions

Eligible projects are limited to initial investment in the following forms:

  • setting-up a new establishment, or
  • extension of the capacity of an existing establishment, or
  • diversification of the output of an establishment into products not previously produced in the establishment, or
  • fundamental change in the overall production process of an existing establishment, or
  • acquisition of assets directly linked to an establishment provided the establishment has closed or would have closed if it had not been purchased and is bought by an investor unrelated to the seller.

Interestingly, Germany intends to ensure that the diversification of the output of an establishment into products not previously produced is genuine by requiring that the eligible costs exceed by at least 200% the book value of the assets that are reused, as registered in the fiscal year preceding the start of works.

For initial investment in the form of a fundamental change in the overall production process of an existing establishment, investment expenditure must exceed the annual average of the depreciation over the previous three years by at least 50%.

In the case of tangible assets, the value of the investment is established as a percentage on the basis of land, buildings and plant, machinery and equipment. However, the costs of preparatory studies or consultancy costs linked to the investment are not considered as eligible costs.

Where the eligible expenditure relates to intangible assets, it must relate to transfer of technology through the acquisition of patent rights, licenses, know-how or unpatented technical knowledge. Intangible assets must be used exclusively in the establishment receiving the aid, they must be amortisable, they must be purchased under market conditions from third parties and they must be included in the assets of the beneficiary for at least three years.

The measure is co-financed by the European Fund for Regional Development as an “investment priority 3d: Support for SMEs”. The scheme as notified will be in force until 31 December 2020. However, in view of the fact that the scheme is co-financed by the ERDF and is subject to the condition of reinvestment of profits, it will be prolonged so that it can comply with the reinvestment obligation beyond 2020.

Structure of the loans

The maximum amount of the loans is limited to 75% of the eligible costs incurred in acquiring or producing the fixed assets that form part of the initial investment project. The loans are granted for investments with eligible expenditure exceeding EUR 100,000. The minimum loan amount is EUR 20,000. The maximum loan amount is EUR 5 million per investment project. The beneficiary does not have to provide any collateral for the loan. The duration of the loans is for a maximum of 15 years, with a grace period of up to five years. Reimbursement takes place every three months in equal amounts.

The measure does not define a maximum annual interest-rate subsidy. The overall aid element of the loans will be calculated by taking into account their subordinated nature. The interest rate will be fixed at a level that ensures that the aid element from the interest-rate reduction does not exceed the applicable regional aid ceiling. The overall aid element will also include a grant because it is intended that the subordinated loans will be combined with an investment grant.

Method of calculating the aid element of the subordinated loan

Paragraphs 32 to 36 describe the method that will be used to calculate the GGE of the loans. First, the rating of the beneficiary is established on the basis of information from “hausbank” which is the main bank of the beneficiary. When the hausbank uses its own rating systems, they will be transferred into standard rating categories used by international rating agencies via the one-year probability of default.

Second, the rating is downgraded by one notch in order to reflect the higher risk of subordination compared to normal senior debt.

Third, a proxy for the market interest rate of the subordinated loan is derived by identifying which risk margin would result under the risk margin table indicated in the 2008 Communication for the column “low collateralisation” and the row “weak rating”. [A note should be added at this point. This step seems to contradict the initial position of the Commission that the method in the 2008 Communication does not apply to subordinated loans.]

Fourth, the resulting risk margin is added to the base rate defined by the Commission at the time of granting the loan.

Fifth, the annual aid element is the difference between the derived proxy rate and the interest rate actually payable under the loan scheme, multiplied by the outstanding amount of the loan at the start of the year.

Sixth, the overall amount of the aid is the sum of the discounted annual aid elements. The rate of discount, as stipulated by the 2008 Communication, is equal to the base rate applicable at the time of granting the loan, plus 100 basis points.

Assessment of compatibility with the 2014 RAG

There is no doubt that the ERDF funds are state resources and that the measure grants State aid to SMEs investing in Saxony.

Its compatibility was assessed on the basis of the 2014 RAG which applies the seven common assessment principles. The Commission noted that Germany provided evidence to prove the positive impact of other similar measures. In particular, “64 subordinated loans worth in total EUR 30,640,510 were granted on the basis of the previous scheme N 339/2010 as of 1 October 2014. Those loans led to investments worth EUR 136.5 million and creation of 456 new jobs. On average, therefore more than 7 jobs were created per one subordinated loan granted” [paragraph 54]. Because of the ERDF co-financing, the measure is incorporated in the operational programme for Saxony, so the Commission had little trouble concluding that it contributed to a common policy objective and is appropriate.

However, it has to be said that the ratio of jobs per loan is a very naïve method of determining the effectiveness of State aid and appears to contradict the logic of the common assessment principles according to which aid, among other things, must be appropriate and proportional. To see why this is so, consider the following example. If we assume that i) the loans of EUR 30.6 million were for a duration of 10 years at zero rate of interest, ii) the market rate was 5%, iii) there was no grace period and iv) they were repaid in straight monthly instalments, then the implied interest-rate subsidy would be about EUR 7.7 million. That implies an amount of aid that is about EUR 17,000 per job. The more interesting question is whether this amount was the minimum necessary for each extra job.

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With respect to the incentive effect of the aid, the Commission stressed that each beneficiary must engage “in additional activity contributing to the development of an area which it would not have engaged in without the aid or would only have engaged in such activity in a restricted or different manner or in another location. The aid must not subsidise the costs of an activity that an undertaking would have incurred in any event and must not compensate for the normal business risk of an economic activity.” [Paragraph 61]

More specifically, works on an individual investment can start only after the requesting undertaking submits the application form for aid. Applicants must explain in this form what would have happened, if they had not received the aid, indicating whether they would invest less, or nothing at all, or whether they would choose a different region. This is the counterfactual situation.

The Commission also noted that “(64) the granting authority must carry out a credibility check of the counterfactual and confirm that regional aid has the required incentive effect. A counterfactual is credible if it is genuine and relates to the decision-making factors prevalent at the time of the decision by the beneficiary regarding the investment.

Moreover, “(71) in line with the requirement from paragraphs 121 and 126 of the RAG […] when awarding aid under the scheme to individual projects, the granting authority will verify and confirm that without aid the investment would not have been located in a region with a regional aid intensity which is higher or the same as the target region.”

“(72) As required by paragraph 122 of the RAG, […] when awarding aid under the scheme to individual projects, the granting authority will notify individual aid grants in cases where the beneficiary has closed down the same or similar activity in another area in the EEA two years preceding the date of applying for aid or at the moment of the aid application has the intention to close down such an activity within a period of two years after the investment to be subsidised is completed.”

Since the aid is to be granted to SMEs, there is little risk of any undue distortion to competition. On the basis of the above considerations, the Commission concluded that the measure was compatible with the internal market.


This is an interesting case because it illustrates how financial instruments can be used to support tangible investments. At the same time, it is not up to the standard of rigour we have come to expect from the Commission because i) it does not explain why the 2008 Communication on interest rates was inapplicable while at the same time endorsing a methodology that relies on that Communication and ii) it uses assessment criteria that appear to be at odds with the common assessment principles.


[1] The full text of the Commission decision can be accessed at:



Phedon Nicolaides

Dr. Nicolaides was educated in the United States, the Netherlands and the United Kingdom. He has a PhD in Economics and a PhD in Law. He is professor at the University of Maastricht and the University of Nicosia. He has published extensively on European integration, competition policy and State aid. He is also on the editorial boards of several journals. Dr. Nicolaides has organised seminars and workshops in many different Member States, and has acted as consultant to several public authorities.

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