Although Germany has plenty of business ideas, there is a shortage of courageous founders who are willing to implement these ideas, transform them into products, and introduce those products onto the market. Not until that is achieved can ideas become innovations. And every country would like to have as many innovations as possible.
However, having the courage to establish one’s own company is only one factor in the equation, since large amounts of start-up capital are also needed to ensure an idea’s success. Banks don’t give loans for vague projects. Help might be obtained from the government, which grants wage subsidies, and foundations sometimes provide funding for interesting projects. Assistance might also be forthcoming from “business angels” — wealthy private individuals who frequently come from same field as the founder and therefore can share their experiences and expertise as well as provide lots of funding to develop the idea.
Venture capital firms frequently begin to express an interest in a new company once it has taken its first steps, built at least one prototype, and even sold some products. These venture capital firms are mostly funds that collect money from investors by promising them high returns of 15% to 30% per project funded. Although this might sound like a lot, the investors also face great risks because the funds sometimes buy up companies whose innovations fail. To offset these losses, the successful companies therefore have to generate especially high returns.
Germany needs to catch up
The funds use the venture capital to finance new companies by purchasing shares in the businesses. The funds also provide the companies with strategic support over a period of many years, after which they sell the shares to other investors or as part of an IPO, hoping to make a big profit in the process.
Venture capital is not yet very widespread in Germany, and providers of this kind of capital were only able to raise EUR 260 million from German investors in 2009. By contrast, the figure for North America was $15 billion, and even the French managed to raise EUR 730 million in venture capital. In Germany, insurance companies and pension funds in particular tended to be more cautious in 2009 than in previous years. That is confirmed by the chief economist of KfW Bankengruppe, Norbert Irsch, who points out that “venture capital providers currently find it very difficult to raise new funds.”
In addition, legislation is currently being considered in the European Union that would restrict the flow of money even further, affecting funds in other countries as well. The legislation would increase the companies’ reporting requirements, which might reduce the returns on the projects and thus make some investors even less willing to provide funding for risky ideas.
The founders are not always enthusiastic about venture capital either since it is the most expensive way of obtaining funding. “Venture capital funds expect a good return on their investment and want to be given a major voice in a company’s day-to-day operations,” says Stefan Wagner, who is engaged in innovation research at Ludwig Maximilians University in Munich.
In the 1980s, a special kind of venture capital financing was introduced in Germany. Known as corporate venture capital (CVC), it involves large, well-established corporations buying a minority interest in new companies from their own industry. CVC is a more lucrative alternative to low-interest-rate bank accounts for companies that want to use cash for which they have no other investment plans at the moment. However, the main reason why corporations provide CVC is to gain long-term access to new products and product ideas, as new trends are often generated by start-up companies. In this respect, providers of CVC differ from traditional venture capital companies, which make investments solely on the basis of the expected returns.