Munich: Financing growth will be a major challenge for German companies, according to new research by Roland Berger.
- Economic growth in Germany looks likely to slow, but not slump: companies need financing to continue growing
- Small and medium-sized companies are increasingly turning to private equity investments and SME bonds for additional funding
- Selection criteria for financing instruments: low financing costs and low risk
- Euro crisis has raised awareness of country risks
Due to the growing level of government debt in some EU countries, there are signs of a slowdown, but not a slump, in economic growth in Germany.
For example, German companies still need fresh capital to continue growing. This is why businesses — especially SMEs — are increasingly turning to financial investors and SME bonds. It is not just cost, but also risk assessment that is governing the choice of financing instruments: the financial instability of some EU countries and the threat to the stability of the euro has made companies more aware of country risks.
These are the results of a new study entitled "Growth-Financing Challenges for Companies in the Current Market Environment" by Roland Berger Strategy Consultants, for which about 1,200 German companies were interviewed.
Although companies have been able to improve their profitability and reduce debt since 2009, the ongoing euro crisis is already having initial effects on the real economy: first signs of an economic slowdown are appearing. Yet the mood among German companies remains positive: 54% of them expect to grow by between 3% and 10% per annum up to 2013. "We are currently seeing a kind of divergence in companies' growth expectations," explains Sascha Haghani, Roland Berger Partner and Head of the Corporate Finance Competence Center. "Although many companies are skeptical when it comes to the development of the economy as a whole, they are optimistic about their own growth prospects. German businesses want to continue growing. And for that they need the corresponding funding and structures."
Principal bankers as the preferred source of support
Exports, primarily to Western and Eastern Europe, were again the driver of growth for German companies in the first half of 2011. German companies are also planning their future growth mainly abroad, focusing on Western Europe (56%), China (40%), Asia (33%) and Eastern Europe (25%) as their core growth regions. "German companies rely primarily on their principal bankers to obtain the capital they need to grow," says Jürgen Müller of Roland Berger. "Banks with branches abroad, in particular, are preferred by almost 65% of German companies, because having strong links to one main bank makes it easier for the companies to access funds — also when they want to invest abroad." Unlike in the case of business activities in Asia and South America, in Western and Eastern Europe nearly half of the respondents also resort to national financing partners in the target country.
SMEs are increasingly looking to private equity and SME bonds
However, medium-sized companies are increasingly turning to equity financing by financial investors — a trend that has increased significantly. Compared to 2010, when fewer than 15% of respondents were in favor of this option, today about 80% of companies are looking to external investors — although 55% of the respondents prefer a minority stake. "Small and medium-sized companies only want to sell a limited share of their business to financial investors, because they don't want to lose control of their own companies," Haghani explains. "As a rule, however, private equity investors want a controlling interest. There is a lot of potential here on both sides."
Alternatively, SMEs are increasingly looking to debt instruments like bonds. However, compliance with minimum requirements, e.g. an external rating, is an essential prerequisite for gaining investors' confidence. "However, many companies also use their internal cash flow to expand further. In the wake of the last financial crisis, many companies have learned to preserve a certain degree of independence in their financing and therefore make use of their own internal financing power for further growth," says Müller.
Important selection criteria: low financing costs and low risk
Low financing costs (88%) and low risk (87%) are at the top of the priority list for companies when choosing individual financing instruments. "The last financial crisis and the high level of sovereign debt in some European countries have forced German companies to be more cautious when it comes to choosing the right kind of funding," explains Haghani.
Above all, the issue of country risks plays a key role for 55% of companies: "Problems such as high government debt, the risk of customers or creditors defaulting on receivables, and possible exchange-rate fluctuations have a direct impact on the development of many companies," says Haghani. Larger SMEs are more seriously affected here because they are more likely to operate at the international level. Yet smaller companies are also increasingly feeling the fallout from the instability of some countries because of the increasing cross-linkage between flows of goods and capital.
"About 70% of German companies now hedge against country risks," says Müller. "And 32% of companies opt to specifically build production facilities in the respective sales markets to counteract possible exchange-rate fluctuations." In addition to this natural hedge, 28% of respondents also use financial derivatives and 12% funding in the respective foreign currency.