Berlin is Germany’s primary hub for startups. The city has the highest rate of founding activity (i.e. 16.1 percent of German startups are located there), its startups participate in 37 percent of financial rounds and receive 59 percent of Euros invested. In fact, Berlin stands among the top three entrepreneurial hotspots in Europe (together with London and Paris) in terms of number of financing rounds and volume.
However, COVID-19 has had a wide-spread effect: a survey found that 91.1 percent of German startups’ business activities have been affected and among those, 69.7 percent foresee their existence threatened within the next six months unless measures are taken. Given the tremendous potential of startups for fostering innovation and generating employment, it is imperative that actors in the startup ecosystem and the government find smart ways to help them navigate successfully through the crisis.
In the wake of the pandemic, startups shall need to reshuffle their business activities and daily working routines to comply with measures by the government and health authorities. These, combined with a fall in consumer demand due to high economic uncertainty, are expected to lead to a decline in revenue. Startups, especially early-stage ones, tend to have low financial reserves and find it hard to secure loans from banks. Professional venture capital investors play an important role in financing startups, but the volatile economic environment has led them to focus on supporting their current portfolio companies. They are taking a very selective approach towards new investments, leading to an expected 46 percent drop in the number of deals in the second quarter of 2020. Therefore, the pandemic can plunge even competitive start-up enterprises into an existential crisis.
How shall they survive? First, it is clear that only the fittest and most resilient — those which are flexible and find ways to adapt to the new circumstances — shall make it. This will require startups to reflect on their business models, evaluate where changes are necessary, and act accordingly. Cutting expenses will be inevitable in many cases, but they can also be proactive by, for instance, extending their offering or finding new channels of distribution.
Further support must come from other actors in the ecosystem. The provision of office space or rooms to host events is one key element of startup support, but less relevant in a time when most are working from home. However, startup-support organisations, such as incubators and accelerators, can reach out to their clients and organise virtual get-togethers. These can facilitate peer-to-peer learning between startups, which is crucial in a time of unprecedented challenges. A second key element of startup support is business advice. To that end, support organisations and investors can gather and share relevant information and best practices, or connect them to external experts. Startups can be mentored through calls and webinars. A third element of startup support is the provision of funding and assistance with fundraising, but this is currently insufficient, due to cautious investor sentiment.
Therefore, the COVID-19 pandemic has prompted policy responses from German federal and state governments. In April, the federal government announced a 2 billion Euro relief package specifically targeted to startups, resting on two pillars. The first pillar is called the ‘Corona Matching Facility’, whereby investment subsidiaries of State-owned development banks (i.e. KfW Capital, IBB Beteiligungsgesellschaft) and the European Investment Bank offer venture capital investors the opportunity to co-invest. In order to ensure continued funding for promising startups, investments are topped up with public funding by up to 70 percent of the value of a financial round. The instrument is based on the idea that investors, based on their in-depth market expertise, can best determine which investments are worthwhile. In return, public investment bodies receive convertible loans (Wandeldarlehen), whereby they can benefit from expected increases in value later.
The second pillar addresses startups which are not financed through venture capital and thus have no access to the matching facility. In collaboration with State institutions (in particular, State-owned development banks), the federal government provides money via loans to expand existing initiatives such as Berlin’s ‘GründungsBONUS’ and ‘Start-up Stipend’ programmes. The eligibility criteria of the first programme have been relaxed and startups are granted advance payments and an additional Corona bonus of 5,000 Euro. The latter programme allocates funding to startups centres and incubators to extend their business support. Both focus on startups with technological innovations as well as those that promote ecological and charitable goals.
In addition to the major package introduced by the federal government, Berlin has two further emergency aid programmes in place, which are also open to startups. They are administered through the State-owned Investitionsbank Berlin and their aim is to help companies overcome liquidity shortages caused by the pandemic. One programme provides SMEs with ‘Corona rescue loans’ that have a maximum value of 500,000 Euro and help them pay their rent, personnel expenses and other liabilities. The second programme allocates ‘Corona grants’ to self-employed people and smaller businesses. The amount of the grant, which aim to cover personnel costs and salaries as well as operational expenses, depends on the number of employees and lies in the range between 9,000 and 25,000 Euro.
In addition to the policy responses injecting liquidity, many startups are using the short-time working instrument (Kurzarbeit) whereby employee working hours are reduced, while the government replaces some of the employees’ lost incomes. This is to avoid companies having to lay off their employees during the economic downturn.
To sum up, the exchange of information and best practices, as well as the provision of liquidity are the most crucial elements of startup support during this time. Financial support must be tailored to the needs of different startups in order to be effective, and public funds should be provided in a targeted manner to help startups with promising business models. Thereby, the situation can be taken as an opportunity to specifically support startups, which develop social innovations and innovations that promote climate protection and sustainability.
Ultimately, startups also have potential to contribute to fighting the pandemic, as the initiative ‘Startups against Corona’ (a crowdsourcing platform that connects incumbent firms as solution-seekers for Corona-related problems and startups as solution-providers) demonstrates.
(This article appeared in the ORF)Sabrina Korreck is a Senior Fellow, Observer Research Foundation. Her research focuses on the digital economy and she tracks developments in startup ecosystems. Views are personal.