Recently I was a mentor at a startup event taking place at WHU University. The WHU is the famous business school from which the Samwer brothers decided to enter the startup ecosystem to which they brought a lot of value. It is the place where it feels so out of place to wear a tie, even when you meet a professor to discuss his lecture about entrepreneurship and global economics.
We recently heard Oliver Samwer at a conference, stating that in 2012 he was able to raise $1 billion in total for all his portfolio companies, an astonishing achievement attained by him and the Rocket team. Similarly, we hear about fundraising of a few VCs from limited partners in the ranges of single-digit billion dollar amounts. This is not new – it comes along with discussions about the Series A crunch and the end of the traditional Venture Capital model. On our recent “Pirates on a Plane” – Trip to London, Sean from PROFounders Capital shared his point of view with us regarding this topic.
The idea of an end of the traditional VC model generates subsequent questions. It is obvious that for certain startups – those with capital-intensive business cases – the traditional VC model still works. Those Startups cannot grow a large customer base on lower costs for cloud based IT systems and viral marketing via facebook and twitter. These companies need to build slowly but sustainable businesses and grow along the way while taking up external capital to fund their activities until reaching break-even. It will not be the larger part of the startup ecosystem but it will be a significant part bringing high exits to those companies and investors.
The more interesting question following the end of the traditional VC model is:
How will the ‘New VC Model’ look like and why will it be superior?
This maybe a long shot, but there are indications that the new model will evolve similar to the economic model known in Germany as “Mittelstand”. If so, Germany will take a leading part in developing these new concepts around the new VC model.
When looking at recent funding rounds we have seen a lot of involvement of corporations in the financing of bigger startups: Coke invested in Spotify, Starbucks in Square, Mastercard in iZettle, Daimler in myTaxi, Richard Branson in Hailo and there are more examples to testify that corporations – not corporate VCs – are putting their money in the startup ecosystems around the world. Following this trend we have seen a lot of new corporate venture fund activities recently: Softbank, BP and Axel Springer invested in an Plug&Play incubator, Universal Music in a new Cologne based VC fund and Gruner & Jahr put $100m for investments in startups aside – just to name a few.
From this indication it is fair to say that corporations see both a threat and an opportunity in getting involved with the startup ecosystem companies and their products. As a recent financial study by Steria Mummert in Germany revealed, more and more startups are claiming parts of the traditional value chain of banks and financial institutions. On the other side, none of those banks or insurance companies has started an investment activity or built a corporate venture fund yet. (DISCLOSURE: I am working at the corporate venture fund of Deutsche Telekom myself, however, these findings are not putting emphasis on corporate venture as part of the new VC model.)
In Germany we have a long tradition of corporations taking over a leading role to build and develop the national economy. There is a pyramid of corporations in Germany – roughly 30 very large corporations dominating certain industry segments across all industries. This is the tip of the pyramid. The larger parts of the pyramid till down to its base are supported by a large number of small and medium sized businesses with employee numbers from 100 to 10,000. This part is known as the Mittelstand. It supports our economy, creates jobs and brings innovation and new technologies to our ecosystem.
In the new VC model we see a few heavyweight VC firms with almost two-digit billion dollar funds. This will be the tip of the Funding Capital Pyramid. Below this, we have some medium VC firms and the rest will come from corporations. Corporations will contribute either through their VC funds or capital from their balance sheets managed by innovation and/or finance departments. Still all parties in this pyramid from top to bottom will play along the standard VC terms. Those times of joint venture models for smaller companies are gone. JVs are valid and useful for bigger projects between heavyweights in core strategic parts of their businesses. Driving innovation with startups from the ecosystem does not need complicated and highly political JVs.
So why is Germany in the front row of establishing such a new VC model together with Japan and the US?
The answer is that it is just in our DNA to build those highly efficient economies. The US and Japan will play an important role because the main part of the capital lies in these economies. However, the US are dominated by heavyweights both in VC firms and large corporations. Japan is mainly dominated by large corporations and very few corporate VCs but has no medium sized VCs. Germany does not have heavyweight VC firms and only a few large corporations including some corporate VCs. But Germany has a bunch of medium sized organizations – the Mittelstand – that are desperate for innovation. Germany’s economy is built on production and export. To fuel this efficient engine of producing high value products, these products need to be enhanced and reinvented. There is a need to integrate connectivity and value added services around our cars, our solar and wind power devices, retail, logistics, and aviation industries. All these big industries have a lot of smaller suppliers developing accessories and parts for the products Germany is well known for. To keep up the speed with global innovation and the big startup ecosystems, Germany needs to avoid being placed into a defending position. We need to be in the lead – guiding the process to bring our products to the next level of the digital age. Doing so, German corporations have established the model of buying minority shares in promising startups. They know “the fast will eat the slow and not the big will eat the small” from our heritage. The Mittelstand is successful in Germany because it is small compared to the large corporations, but far more flexible. Those companies adapt very fast to crises like the Lehman breakdown and the Euro crisis. Germany kept its financial strength through these years because this strong but flexible backbone of our economy was able to enter new markets, change their products and create new jobs when other jobs were gone.
Building a strong Funding Capital Pyramid in the heart of Europe could be the opportunity for Europe as a whole to get back on our feet after the Euro crisis. The advantage of funding capital is its flexibility and location independence. If in parallel, politicians can find a way to make cross border investments even easier than they already are from a VC perspective today, we will get an additional push for the EU member countries’ economies to get back on track. It is on us to help those newbies in the investment scene to find their way around. Be open for them and their needs for access to innovation and mentor them in regards of VC terms and contracts. We all learned it at some point in the past, so sit down with them and explain the basic rules of the VC game and what founders want. If founders can innovate and build successful companies, we all will profit from that in the future.
This is what we need to keep in mind when putting a tie on for the first time after several years to meet those corporations and show our respect for what they have achieved. It will be worth it.
Picture: © shutterstock, photographer: dabjola