The writer is founder of Sifted, an FT-backed site about European start-ups
At the start of this century, a visiting investor from Mars might well have bet big on Germany emerging as one of the winners of the internet revolution. Crammed with world-leading engineers, industry-friendly bankers and hustling entrepreneurs, the country looked strongly placed to flip its mastery of hardware into software. But it has not turned out that way. As two recent reports make clear, at least one critical cog has been missing when it comes to turning smart start-up ideas into global digital businesses: growth capital.
Germany lags well behind the US, China and the UK in creating tech unicorns, or start-ups valued at more than $1bn. Although the country has many giant pension funds, they only allocate a tiny fraction of their money to venture capital, which provides most of the rocket fuel for start-ups. Across Europe, VC funds invested €77bn last year, far less than the US total of €188bn. But even within Europe, Germany was underweight: as a proportion of GDP, VC investment in the country amounted to just 0.25 per cent last year, compared with 0.33 per cent across Europe and 0.78 per cent in the US.
Does this matter? After all, Germany remains a conspicuously successful economy with a strong manufacturing base and dynamic export sector. Besides, the ability to create fast-growing, but often lossmaking, tech unicorns may hardly be the best metric of economic, let alone societal, success. Many Germans would argue that the Facebooks, Airbnbs, and Ubers of this world externalise problems, eroding communal values and labour rights.
Yet Germany could still create and control a far punchier tech sector by learning from US financial virtues without copying its perceived vices. For reasons of both sovereignty and prosperity, Germany needs to mobilise far more growth capital.
As a report from the Germany Private Equity and Venture Capital Association (BVK) and the Internet Economy Foundation notes, Germany’s economic miracle of the 1950s to 1970s was largely fuelled by strong investment in new companies and medium-sized enterprises, the fabled Mittelstand. During those years, bank lending to this sector amounted to 4 per cent of GDP. But the comparable figure today is just 1 per cent. Germany is still living off the glories of its past, and is not investing enough in the wonders of tomorrow.
What is even more galling is that North American investors, which back both US and German VCs, have a higher exposure to German start-ups than the country’s own pension funds. That means the centre of gravity for the German economy may increasingly shift across the Atlantic, compromising technological sovereignty. “If you are not represented in the later-stage funding rounds then the governance is exported to where the money comes from,” says Klaus Hommels, chair of the VC fund Lakestar.
Take Flix, a Munich-founded start-up that runs an international transport platform. According to an analysis by the VC firm Redstone, US pension funds indirectly own about 12 per cent of Flix, whereas their German counterparts own just 0.3 per cent. In total, Redstone estimates that US pension funds own 10 per cent of Germany’s tech unicorns, worth a collective €47bn, compared with 0.2 per cent held by German pension funds. “Until we have a stronger capital base, the fruits of these businesses will be distributed there and not here,” says Jeannette zu Fürstenberg, co-founder of the VC firm La Famiglia.
As an investor, zu Fürstenberg says she is excited by a new crop of start-ups, such as Celonis, Personio and Vay, which show that world-class software companies can be built in Germany. But she looks admiringly across the border to France, where the government is successfully mobilising institutional investment for the tech sector. The so-called Tibi initiative has helped create new pools of growth capital. “France is doing an incredible job and there is so much we can learn from them,” she says.
Software engineers sometimes talk about “Frankensteining” a problem, meaning they can bring a project to life by stitching together different body parts. Europe has a chance to Frankenstein its start-up sector by combining the inventiveness of Germany (which boasts one-third more patent applications per person than the US), with the vibrancy of the UK’s government-incentivised early-stage investment scene, and the growing strength of France’s scale-up financing institutions.
The only difference from Mary Shelley’s mythical tale is that this Frankenstein “monster” would strengthen, rather than destroy, its creators.