Growth Fund A Helping Hand for Startups

A tech growth fund, set up in cooperation with the state KfW Bank, would provide promising German startups with financing in their key growth phase.
Germany wants to ramp up its efforts in the battle for luring startups to the country by boosting financing.

Young, dynamic companies in particular repeatedly complain that the supply of venture capital in Germany continues to be too scarce.

With its bank-based financial system, the country is traditionally not considered to be a vibrant hub for risk financing. But is Germany perhaps better than its reputation?

From 2013 to 2015, the venture-financing market in Germany quadrupled to more than €3 billion; but during the same period, the U.S. market doubled to more than €50 billion. Within Europe, Germany is in third place behind Great Britain and Sweden.

Accordingly, the goal of the German government is to make sufficient capital available to rapidly growing, innovative firms in all phases of their development.

It is clear that the German value-creation model is confronted with enormous challenges through digitalization and disruptive business models at the moment. Today, more than 3 billion people in the world are online for an average of six hours per day. Sales in e-commerce have risen a hundredfold in the last 15 years. But the digitalization of many value-creation processes is only in its infancy.

Young, innovative companies are often the driving force behind these processes. But even in such a dynamic environment, around three out of every four startups fail. While 90 percent of firms financed with venture capital will never make a profit – others will achieve astronomical results. On the other hand, the valuations of such firms today are significantly better than shortly before the bubble burst at the turn of the millennium.

One significant piece of progress is the development of the law for losses carried forward by corporations. In the future, a company will no longer lose its losses carried forward simply because a new investor acquires a stake in it or company-owned shares are sold. Young, innovative firms will also benefit from this new regulation.

When providing financing, we do so with a particular focus on market-oriented approaches. In the “pari-passu” approach, we finance innovative firms together with and under the same conditions as commercial investors. Only in cases where the market genuinely fails – for example, in the early seed phase – do we provide additional financing with a governmental grant. At the moment, more than €2 billion is available for investments in Germany.

There is a lack of sufficient capital especially in the phase when companies want to and must grow quickly. Matthias Machig and Jens Spahn, German government officials

By using public money to provide urgently needed capital, we simultaneously mobilize private capital. Many funds we have co-financed over the years would have been too small without governmental participation and therefore would never have been set up in the first place. This strategy of double support pays off. The goal is to crowd in through expansion of the market instead of crowding out private involvement.

There is a lack of sufficient capital especially in the phase when companies want to and must grow quickly. In the spring of 2016, the federal economics ministry provided funding, together with a special fund of the European Recovery Program (ERP) and the European Investment Fund, to achieve a volume of €500 million to promote growth.

With this capital, we join private investors in large rounds of financing, injecting several tens of millions of euros into individual companies. We hope that the coming years will bring the establishment of more and more well-endowed venture-capital funds.

When companies grow successfully, they become attractive to banks as customers at some point. One link between the venture-capital market and the banking market is the still narrowly developed venture-debt market: an instrument for bringing outside capital into growing start-ups.

The instrument of venture debt is characterized by short terms, regular interest- and liquidation rates, first-class collateralization of all the assets of a growth company, as well as risk-adjusted fixed-interest agreements, along with an additional stake of the venture-debt provider in the valorization of the financed company.

This niche market, still quite young in Germany, nonetheless deserves to be promoted by public policy and offers a high growth potential. The German government intends to support this development.

In recent years, we participated in a first venture-debt fund together with the European Investment Fund. Moreover, thanks to the ERP funds-investment program of the KfW development bank, it has become possible to co-finance venture-debt funds along with venture-capital funds since the beginning of the year.

In order to further strengthen this market segment, we are working together with the KfW to set up a Tech Growth Fund to provide companies worthy of support with venture debt for their follow-up financing in the growth phase. The goal is to mobilize several billion euros over several years for additional startup financing.

Boosting the success of young, innovative firms in their growth phase is important in order to strengthen Germany as a commercial location and to guarantee competitive and high-quality jobs over the long term. We will continue to attentively monitor market developments and the various forms of capital requirements and will adapt our portfolio of venture-capital products to changing requirements.

To contact the authors: [email protected]