Venture Capital

In Germany, as elsewhere, venture capital is an increasingly important corporate-finance tool, particularly for new, high-tech companies, which frequently lack solid financial backing. Their own financial resources are limited, and they can only obtain debt financing if they have the necessary collateral. But there often is no collateral in a new business that requires significant capital expenditures and can offer only uncertain returns.

In such cases, company founders tend to look for outside investors who are willing to put up venture capital (VC) in return for an equity stake. The terms and conditions attached to the investment (the amount of VC, the size of the investors– equity stake, and especially whether the investors have a say in how the company is managed) are a matter for negotiation between the parties.

VC financing is appropriate for the following three stages of a enterprise

1. Early-stage financing
2. Expansion financing
3. Late-stage financing (for restructuring).

1. Early-stage financing is for entrepreneurs and innovators. They commonly need funding to develop their ideas into fully-fledged business plans. There are three types of financing for the earliest stages of a business venture:

• Seed capital;
• Start-up financing;
• First-stage financing.

While the capital requirements for these early stages are often relatively low, the company's business idea tends to be in its infancy and the risks correspondingly high. Many VC firms avoid early-stage investments. There are, however, companies that specialise in providing seed capital and start-up financing. Such firms are typically referred to as seed-capital companies, business angels, and incubators.

2. Expansion financing

Most VC firms focus on expansion financing. Their main objectives are to assemble a portfolio of promising, high-growth companies and to have as many IPOs as possible from their stable of investments. Most VC firms only invest from the second-stage onwards and subsequently provide their portfolio companies with third-stage/mezzanine and bridge financing.

In addition to VC firms, there is also a variety of financing providers who specialise in financing small and medium-sized enterprises (SMEs). In Germany, these investors are known as KBGs and MBGs.

3. Financing for restructuring processes

The VC sector also includes companies which specialise in management buy-outs (MBOs) and management buy-ins (MBIs). An MBO is when a business or part of a business is sold to the existing management team; an MBI is when an outside management team buys a stake in an existing business. Financing for MBOs and MBIs is by definition late-stage financing. Some late-stage VC financing is used to finance innovations, but the overwhelming majority is used to fund restructuring measures, changes in ownership structure, and succession arrangements.

Features of the relationship between a VC firm and its portfolio company

• Most VC firms take minority stakes and cannot actively influence their portfolio company's management.
• The two companies must, however, define how the VC firm will participate in the processes of and obtain information about its portfolio company.
• Regular reporting on the portfolio company's business development.
• Consultancy services provided by the VC firm, if required.
• The relationship between the parties is limited to specific development stages of the portfolio company; the VC firm drops out of the picture once these phases are complete.
• In some cases, the VC firm has a direct equity interest and receives a portion of the portfolio company's annual profits; in others, it is a silent partner and charges an ongoing venture capital fee.

Similar to shareholders– capital, the funds provided by a VC firm are subordinate to the debts owed to creditors.

How to find the right VC firm

Define your financing requirements (the industry you are in, the financing stage, the financing volume, key investment areas, geographic preferences).

• Use these parameters to search lists and directories provided by the Hamburg Chamber of Commerce, the German Venture Capital Association (BVK), and similar organisations.
• Contact the VC firm that best fits your parameters; never use circulars or mail-outs.

If initial contact proves fruitful, send the VC firm a copy of your business plan.

Business plans

A business plan should include a concise, factual account of the strengths of your business idea. Keep technical details to a minimum and focus instead on topics like innovation and marketing. Business plans are typically 30 to 50 pages long and consist of the following elements:

• Executive Summary: brief account of your business idea, company profile, products/services, market environment, and capital requirements.
• Company history and current status: the object of your company, products, success factors, sales, and profit performance.
• Company objectives and strategy: definition of your company's objectives, strategic plan, information on alliances and partnerships, strengths, and weaknesses.
• Management and organisation: profile of the management team, description of management style, staff motivation system, employees.
• Products and services: how they work, product benefits, advantages over competing products, development possibilities.
• Market/competition situation: market volume, market data and growth, competitors– market shares, positioning, market risks and opportunities.
• Marketing and sales: sales plan, sales staff, market launch, pricing policy, conditions, customer services, advertising.
• Production: processes, make or buy, capacity, QA.
• Budget: projected sales and earnings, capital investments, financial planning, presentation of various scenarios (best-case, realistic, worst-case).
• Annexed documents: extract from register of companies, annual financial statements, trade investments, CVs for key personnel, brochures, and so forth.

Key VC addresses

German Venture Capital Association (BVK)
Reinhardtstrasse 27 c - 10117 Berlin, Germany
Tel: +49 (0)30-3069 82 0 - Fax: +49 (0)30-3069 82 20

Reconstruction Loan Corporation (KfW)
Palmengartenstr. 5-9 - 60325 Frankfurt, Germany
Tel: +49 (0)69-7431 0 - Fax: +49 (0)69-7431 2944

tbg Technology Venture Capital Corporation
Ludwig-Erhard-Platz 3, 53179 Bonn, Germany
Tel: +49 (0)228-831 2290, Fax: +49 (0)228-831 2493

Business Angels Netzwerk Deutschland (BAND)

European Private Equity and Venture Capital Assciation (EVCA)
Minervastraat 6, B-1930 Zaventem, Brussels, Belgium Tel: +32 (0)27-1500 20 Fax: +32 (0)27 2507 04
E-mail: evca@evca.com