INNOVATION AND

ENTREPRENEURSHIP
DLMBIE01-01
INNOVATION AND
ENTREPRENEURSHIP
 MASTHEAD

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2
 TABLE OF CONTENTS
INNOVATION AND ENTREPRENEURSHIP

Introduction
Signposts Throughout the Course Book . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Basic Reading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
Required Reading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Further Reading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Learning Objectives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12

Unit 1
Entrepreneurship 13

1.1 Entrepreneurship and Entrepreneurs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14

1.2 Theories of Entrepreneurship . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
1.3 The Significance of Entrepreneurship for the Economy . . . . . . . . . . . . . . . . . . . . . . . . . . 21

Unit 2
Strategy for Starting a Business 29

2.1 Opportunities for Business Start-Ups . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30

2.2 The Entrepreneur . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
2.3 Business Model and Strategy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36

Unit 3
Innovation and Innovation Management 43

3.1 Innovation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
3.2 Innovation Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
3.3 The Protection of Intellectual Property . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55
3.4 The BMW Empathic Design . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60

Unit 4
Legal Structures in International Comparison 65

4.1 Germany . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66
4.2 USA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73

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 Unit 5
The Financing of Entrepreneurial Activity I: Sources of Funding 77

5.1 Incubators, Accelerators, and Crowdfunding . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78

5.2 Business Angels . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81
5.3 Private Equity and Venture Capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83
5.4 Public Support for Start-Ups . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 84

Unit 6
The Financing of Entrepreneurial Activity II: Financing Processes 87

6.1 The Investor’s Perspective: Deal Sourcing and Deal Screening . . . . . . . . . . . . . . . . . . . . 88

6.2 The Entrepreneurial View: Negotiations With Investors . . . . . . . . . . . . . . . . . . . . . . . . . . 90
6.3 The Evaluation of Business Start-Ups . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 92

Unit 7
The Business Plan 97

7.1 Purpose and Objectives of the Business Plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 98

7.2 Expectations in Relation to the Business Plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 99
7.3 Structure and Content of the Business Plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 101
7.4 Guidelines for Creating a Business Plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 107

Unit 8
Digital Business Models and Artificial Intelligence 109

8.1 E-Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 110

8.2 Artificial Intelligence . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 114
8.3 Globotics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 117

Unit 9
Cooperative Strategy: Alliances and Joint Ventures 123

9.1 Cooperative Strategy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 124

9.2 The Right Fit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 127
9.3 The Right “Form” . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 129

Unit 10
Family Business 131

10.1 Definition . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 132

10.2 Economic Significance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 137
10.3 Strengths and Weaknesses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 139

Appendix
List of References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 144
List of Tables and Figures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 152

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INTRODUCTION
 WELCOME
SIGNPOSTS THROUGHOUT THE COURSE BOOK

This course book contains the core content for this course. Additional learning materials
can be found on the learning platform, but this course book should form the basis for your
learning.

The content of this course book is divided into units, which are divided further into sec-
tions. Each section contains only one new key concept to allow you to quickly and effi-
ciently add new learning material to your existing knowledge.

At the end of each section of the digital course book, you will find self-check questions.
These questions are designed to help you check whether you have understood the con-
cepts in each section.

For all modules with a final exam, you must complete the knowledge tests on the learning
platform. You will pass the knowledge test for each unit when you answer at least 80% of
the questions correctly.

When you have passed the knowledge tests for all the units, the course is considered fin-
ished and you will be able to register for the final assessment. Please ensure that you com-
plete the evaluation prior to registering for the assessment.

Good luck!

6
 BASIC READING
Mariotti, S., & Glackin, C. (2016). Entrepreneurship: Starting & operating a small business
(4th ed.). Pearson.

Parker, S. C. (2009). The economics of entrepreneurship (pp. 1–28). Cambridge University

Press.

Scarborough, N. M., & Cornwall, J. R. (2019). Essentials of entrepreneurship and small busi-
ness management (9th ed.). Pearson.

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 REQUIRED READING
UNIT 1

Lee, B. (2019). Human capital and labor: The effect of entrepreneur characteristics on ven-
ture success. International Journal of Entrepreneurial Behavior & Research, 25(1), 29–
49.

Stephan, U. (2018). Entrepreneurs’ mental health and well-being: A review and research
agenda. Academy of Management Perspectives, 32(3), 290–322.

UNIT 2

Euchner, J. (2019). Business model innovation: An interview with Alex Osterwalder.

Research Technology Management, 62(4), 12–18.

Rezvani, M., Lashgari, M., & Farsi, J. Y. (2019). International entrepreneurial alertness in
opportunity discovery for market entry. Journal of Research in Marketing and Entrepre-
neurship, 21(2), 76–102.

UNIT 3

Cooper, R. G., & Sommer, A. F. (2018). Agile-stage-gate for manufacturers. Changing the
way new products are developed. Research Technology Management, 61(2), 17–26.

Mattelmäki, T., Vaajakallio, K., & Koskinen, I. (2014). What happened to empathic design?
Design Issues, 30(1), 67–77.

UNIT 4

Hilb, M. (2016). New corporate governance: Successful board management tools (manage-
ment for professionals) (pp. 61–65). Springer Gabler.

Sankar, R. (2019). Factors influencing sole proprietors’ business performance. Journal of

Entrepreneurship and Management, 8(3), 55–70.

UNIT 5

Gvetadze, S., Pal, K., & Torfs, W. (2020). The business angel portfolio under the European
Angels Fund: An empirical analysis. (EIF Working Paper No. 2020/62). European Invest-
ment Fund (EIF).

8
UNIT 6

De Oliveira, F. B., & Zotes, L. P. (2018). Valuation methodologies for business startups: A
bibliographical study and survey. Brazilian Journal of Operations & Production Man-
agement, 15(1),96–111.

Klonowski, D. (2015). Strategic entrepreneurial finance: From value creation to realization

(pp. 1–41). Routledge.

UNIT 7

Galai, D., Hillel, L., & Wiener, D. (2016). How to create a successful business plan. For entre-
preneurs, scientists, managers and students (pp. 175–182). World Scientific.

Watson, K., & McGowan, P. (2019). Emergent perspectives towards the business plan
among nascent entrepreneur start-up competition participants. Journal of Small Busi-
ness and Enterprise Development, 26(3), 421–440.

UNIT 8

Davenport, T. H., & Michelman, P. (2018). The AI advantage: How to put the artificial intelli-
gence revolution to work (pp. 129–148). MIT Press.

UNIT 9

Tjemkes, B., Vos, P., & Burgers, K. (2017). Strategic alliance management (2nd ed., pp. 1–
30). Routledge.

UNIT 10

Zellweger, T. (2017). Managing the family business (pp. 4–22 & 36–42). Edward Elgar Pub-
lishing.

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 FURTHER READING
UNIT 1

Ekanem, I. (2019). Understanding internationalisation approaches and mechanisms of

diaspora entrepreneurs in emerging economies as a learning process. International
Journal of Entrepreneurial Behavior & Research, 25(5), 819–841.

Shaw, K., & Sørensen, A. (2019). The productivity advantage of serial entrepreneurs. ILR
Review, 72(5), 1225–1261.

UNIT 2

Muegge, S. (2012). Business model discovery by technology entrepreneurs. Technology

Innovation Management Review, 2(4), 5–16.

Ruiz-Ramirez, J. A., Reyes-Cancino, D. F., & Arenas-Castro, C. J. (2019). Business model

canvas as an analytical tool for the evaluation of companies: Case study for the audio-
visual industry in Bogotá, Colombia. South African Journal of Industrial Engineering,
30(40), 118–130.

UNIT 3

Meek, W., & Williams, D. W. (2018). Venture creation persistence: Overcoming stage-gate
issues. International Journal of Entrepreneurial Behavior & Research, 24(5), 1016–1035.

Postma, C., Lauche, K., & Stappers, P. J. (2012). Social theory as a thinking tool for
empathic design. Design Issues, 28(1 ), 30–49.

UNIT 4

Khoo, T. A., & Tan, C. K. G. (2014). Corporatisation or sole proprietorship? Business vehicles
for new businesses. IS Chartered Accountant, 54–56.

Lenoir, N. (2008). The Societas Europaea (SE) in Europe - A promising start and an option
with good prospects. Utrecht Law Review, 4(1), 13–21.

UNIT 5

Mason, C., Botelho, T., & Harrison, R. (2016). The transformation of the business angel mar-
ket: Empirical evidence and research implications. Venture Capital, 18(4), 321–344.

10
UNIT 6

Fuchs, F., Füss, R., Jenkinson, T., & Morkoetter, S. (2016). Winning a deal in private equity:
Do educational ties matter? [Working paper no. 2017/15]. Proceedings of the Paris
Finance Meeting EUROFIDAI/AFFI in December 2016. University of St. Gallen, School of
Finance Working Paper Series.

Klonowski, D. (2015). Strategic entrepreneurial finance: From value creation to realization

(pp. 1–41). Routledge.

UNIT 7

Cant, C. (2018). Blueprint for a business plan competition: Can it work? Journal of Contem-
porary Management Issues, 23(2), 141–155.

De Andreis, F. (2019). Developing an effective strategic business plan. International Journal

of Management Sciences and Business Research, 8(4), 55–59.

UNIT 8

Baldwin, R. E., & Forslid, R. (2019). Globotics and development: When manufacturing is job-
less and services are tradable. WIDER Working Paper 2019/94. UNU-WIDER.

UNIT 9

Pidun, U. (2019). Corporate strategy: Theory and practice. Springer Gabler.

UNIT 10

Berkel, H. G. (2007). Father to son: The mediation of family firm succession conflict (pp. 11–
42). Springer Gabler.

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 LEARNING OBJECTIVES
This course on Innovation and Entrepreneurship first gives an overview of the most
important elements of the field, including the basic understanding of entrepreneurship,
entrepreneurial theories, and economic significance. Building on this, you will become
familiar with the entrepreneurial opportunities, goals, motives, and characteristics of
founders, as well as business models and strategies of start-ups.

This is followed by reflections on innovations in the entrepreneurial context, the under-

standing of innovation management and the design of the innovation process, questions
of legal protection, and empathic design. In addition, legal structures of companies in Ger-
many and the USA are described, along with the selection criteria founders use when
deciding on their legal form.

The financing of entrepreneurial activities will be examined, first looking at the sources of
finance and then at the financing processes. For this purpose, the various forms of support
provided by incubators, accelerators, crowdfunding, business angels, private equity, and
corporate venture capital are explained, as is public support for start-ups. The process of
investing, including negotiations, and the evaluation of business start-ups, will also be
covered. You will learn the purpose and objectives of business plans, what expectations
are attached, and how a plan should be designed.

How digital business models and artificial intelligence have a place in entrepreneurship is
reflected upon by presenting the basic understanding of e-business, artificial intelligence,
and globotics. The increasing number of collaborations is also considered in describing
cooperation strategies with a particular focus on entering into alliances and joint ven-
tures, as well as on the selection and forming of inter-company cooperation. Finally, the
special features of family businesses, their economic significance, and their strengths and
weaknesses will be discussed.

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 UNIT 1
ENTREPRENEURSHIP

STUDY GOALS

On completion of this unit, you will have learned …

– the meaning of entrepreneurship.

– the characteristics of an entrepreneur.
– key theories of entrepreneurship.
– the economic significance of entrepreneurship.
 1. ENTREPRENEURSHIP

Case Study
Andrea studied industrial engineering and management and has now been working for
two years in the logistics department of a medium-sized mechanical engineering com-
pany. Jörg is a business economist with a focus on taxes, and since completing his studies
three years ago, has been working for a large auditing company. Mark, a business IT spe-
cialist, has been carrying out consulting projects for a technology agency specializing in
digitalization for two years. Nathalie completed her business studies five years ago with a
focus on human resources, and she has been in charge of personnel development at a
midsize electronics company for two years.

The four of them got to know each other through a group project during their part-time
MBA program. Their task was to develop an innovative original idea. During their prepara-
tion, the group discovered that they were not sure how to correctly use certain terms.
Sometimes they would speak of entrepreneurs, sometimes of self-employed people,
sometimes of innovators or business founders. They did not have answers to the ques-
tions of what roles entrepreneurs play and why entrepreneurship is so important for the
economy. Thus, the students first sought to clarify these terms.

To achieve this, they researched the following aspects:

• What exactly is entrepreneurship?

• Are there differences between entrepreneurs and business people?
• Are there different entrepreneurial theories?
• What economic significance is attributed to entrepreneurship?

1.1 Entrepreneurship and Entrepreneurs

There is no universal definition for the terms “entrepreneur” and “entrepreneurship”. In
literature, there are different approaches to understanding what is meant by “an entrepre-
neur”. Often, the innovative characteristics of a project are considered foundational, and
owners of small- and medium-sized enterprises, self-employed people, or owners of
enterprises who hire employees are also mentioned. A differentiation is sometimes made
between people who only start a business once, versus those who set up businesses more
frequently (Parker, 2018). A typical use of the term and other approaches are outlined
below.

Entrepreneur/-ship, Company, Start-Up/Business Start-Up

For practical purposes, the following understanding of the term is suitable: Entrepreneur-
ship is a “...process initiated and carried out by individuals, which serves to identify, evalu-
ate, and exploit entrepreneurial opportunities” (Fueglistaller et al., 2016, p. 2).

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WithFueglistaller et al. (2016), we can distinguish the terms “entrepreneur” and “business Entrepreneurship
owner” as follows: Entrepreneurs identify business opportunities and make new technolo- The term can be traced
back to the French word
gies and concepts commercially viable. They are often, but not always, business owners. “entreprendre”, meaning,
Employed managers can also dedicate themselves to the creation of new economic struc- “to do something” or “to
tures in the sense of an entrepreneur. In contrast to a business owner, the activity as an take things into one's
own hands” (Fueglistaller
entrepreneur often takes a back seat to securing and increasing efficiency, especially in et al., 2016).
later phases of a company (Fueglistaller et al., 2016).

If entrepreneurship is explicitly associated with the assumption of risks, an entrepreneur

can be understood as “a person who organizes and manages a business undertaking,
assuming the risk for the sake of profit” (Parker, 2018, p. 11). In this understanding, the
terms “business owner” and “entrepreneur” can then be used synonymously: What the
entrepreneur risks, then, is the capital they have invested into their company.

In the following, the term “enterprise” is understood, as it typically is in management, as

encompassing the narrower “company”. It can be said that the entirety of what the entre-
preneur undertakes in order to pursue their goals is their enterprise. A company, on the
other hand, is the concrete organizational unit that implements these goals (Haric, 2020).

According to German civil law, a founder of a business is a “natural person who takes up a
commercial or self-employed professional activity” (Achleitner, 2019). A company is con-
sidered to be founded when a partnership or a corporation is established according to the
local law. However, one may also pursue business as a sole proprietor, or by taking up a
freelance profession (for instance by becoming a “Freiberufler”, literally “free professional”
according to German law). A business start-up does not always have to be a new start-up. Start-up
Taking a stake in an existing company, taking over an existing business, or joining a fran- A business in the early
stage of its operations,
chise company are also ways to establish one’s enterprise. often being financed by
its entrepreneurial found-
The GEM (Global Entrepreneurship Monitor) ers.

The Global Entrepreneurship Monitor (GEM) has been in existence for 20 years and annu-
ally collects the number of founders worldwide. A global research consortium and
national GEM teams publish the GEM Global Report every year. Based on the surveys, the
GEM researchers make well-founded recommendations to political decision-makers.

In the GEM, early-stage entrepreneurs are those adults who are in the process of starting
their own business or have been running their own business for no more than 42 months.
In the GEM, all types of self-employment are considered to be business start-ups.

In many industrialized countries, start-up rates are traditionally low, as labor markets offer
attractive alternatives. With a low level of economic development, significantly more peo-
ple become self-employed due to the lack of job offers.

15
 Figure 1: Total Early-stage Entrepreneurial Activity (TEA) in the 49 GEM Countries, 2018

Source: Sternberg et al. (2019).

16
The early stage Total Entrepreneurial Activity Index (TEA) indicates the proportion of the
target group of early stage founders in the population. It shows, for example, that Ger-
many is at about the same level as Poland and Japan and has a significantly lower TEA
rate than the USA.

In Germany, every twentieth person between the ages of 18 and 64 has taken up self-
employment in the relevant time period or is in the process of preparing for this step. In
the process, Germany’s founders are getting younger; for the first time since the GEM data
series began in 1999, the highest TEA rate is not found among 35- to 44-year-olds, but
rather among 25- to 34-year-olds (6.64%) (Sternberg et al., 2019).

The “nascent entrepreneurs” (future founders) are busy with their foundation but have
not yet completely established the business. Here, Germany is clearly at the lower end of
the scale, at about the same level as Italy and Spain, only undercut by Cyprus. The rate is
far from that of the USA, Canada, or Chile, for example (Sternberg et al., 2019).

17
 Figure 2: Nascent Entrepreneurs in High Income Countries, 2018

Source: Sternberg et al. (2019).

Critical voices comment on the GEM monitor that, for example, “hobby start-ups” with low
added value for the overall economy are also included in the statistics, believing that
entrepreneurship should be limited to innovative ventures in which new products, ideas,
and processes are created and achieve growth. The question also arises as to why 42
months should be the cut-off date for measuring early stage entrepreneurial activity
(Parker, 2018).

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Nevertheless, while the GEM cannot paint an all-encompassing picture of global entrepre-
neurship, it does provide an excellent overview of global entrepreneurial activity.

Small- and Medium-Sized Enterprises

It is tempting to see “entrepreneurship” as synonymous with “small- and medium-sized

enterprises (SMEs).” Of course, when a new company is set up, it usually comes into exis-
tence as a small enterprise. But of course, the term also includes very large companies.
Just consider Facebook or Amazon, companies run by their founders who have also
retained a controlling share of the equity: Mark Zuckerberg and Jeff Bezos are certainly
entrepreneurs.

SMEs have to be differentiated from large companies, although no universal demarcation

exists. The line is typically drawn at 500 employees in the United States and 250 employ-
ees in Europe. The European Union uses a classification that combines the number of
employees, the turnover, and balance sheet total of the company in question. It thus dif-
ferentiates SMEs further into micro, small, and medium enterprises as follows:

Figure 3: EU SME Thresholds Since 01.01.2005

Source: IfM (2020).

You may be familiar with the German term “Mittelstand”. It is commonly understood that Mittelstand
the success of German business is driven by its Mittelstand companies, which account for These SMEs are typical for
the German economy and
most of the country’s economic output and are considered its strongest drivers of innova- are characterized by the
tion and technology. It is a medium-sized enterprise that is crucial for the German econ- unity of ownership and
omy. While there is no universally accepted definition of the term (as is often the case in management.

our field of study), a qualitative element is typically added to the strictly quantitative defi-
nition we have seen above: There is a special bond between the entrepreneur and the
enterprise as a consequence of the business owner being also in charge of managing the
company. Mittelstand companies are often family firms (a topic to which we will return
later). They are often very successful internationally, yet usually keen to retain strong local
roots.

It is important to note that the terms “entrepreneurship” and “SMEs” are not identical.
Clearly, and as we have seen, some of the world’s largest companies are entrepreneurial
ventures, and not all SMEs are truly innovative. (Parker, 2018; Fueglistaller et al., 2016).

19
 Differentiation

There are further differentiations, which we can make within the term entrepreneurship:

• “Serial entrepreneurs” found various companies sequentially, sometimes in different

industries, and often exit one as they move to the next.
• “Portfolio entrepreneurs” manage an entire portfolio of firms, i.e., several companies in
parallel (Parker, 2018).

1.2 Theories of Entrepreneurship

The central elements of our subject of study are the person who is the entrepreneur; the
entrepreneurial opportunity pursued; the resources required; the form of organization
chosen; and the environment in which the enterprise operates. Importantly, there can be
no entrepreneurship without an entrepreneur. It is, therefore, no surprise that many theo-
ries of entrepreneurship focus on the person (Kollmann, 2019; Parker, 2018).

The role of the entrepreneur was first explored at the end of the 18th century. For exam-
ple, Cantillon in 1755 described “him” (and in those days, it typically was a man) as an
individual driven by the pursuit of profit: The entrepreneur acquires goods at a fixed price
to sell them later at an undetermined price. Hoping to make a profit, the entrepreneur is
characterized by the assumption of risk (Parker, 2018).

For Say (1828), however, the entrepreneurial function is characterized by the organization
of the production process. To this end, the entrepreneur uses a combination of the three
production factors: land, capital, and employment (Parker, 2018).

Knight (1921) describes the entrepreneur as a carrier of uncertainty. There is no exact

probability of occurrence for this uncertainty, as there may be for risk. A true entrepreneur
has the will to face this incalculable uncertainty (Parker, 2018).

According to Schumpeter (1934, 1939), an entrepreneur is characterized by his innovative

behavior. He famously coined the term “creative destruction” to describe the nature of
that behavior. With the help of innovation, the entrepreneur destroys an existing venture
thereby replacing the old with the new (Parker, 2018).

Kirzner's understanding of entrepreneurship (1973) is similar to that of Cantillon. For him,

Arbitrage an entrepreneur primarily uses arbitrage opportunities by generating an entrepreneurial
In different markets, there advantage from incomplete information on the market. This creates a new market equili-
are differences in price,
demand, and interest for brium (Parker, 2018).
goods and services, which
can be exploited for Current authors often do not require an element of innovation. Rather, they emphasize
profit.
changes in existing products and processes that are achieved by the entrepreneur through
a combination of leadership, motivation, crisis management, and risk-taking. This can also

20
manifest itself in a kind of routine entrepreneurship (“replicative entrepreneur”) (Leiben-
stein, 1968, as cited in Parker, 2018): In this view, the entrepreneur can routinely replicate
his success, without the need for much innovation.

Lazear (2012) sees entrepreneurs as a subset of leaders because they have a vision of how
to offer valuable goods or cost-effective services, and are capable of communicating this
vision to others (Parker, 2018).

Today, entrepreneurs are commonly ascribed the following roles, which draw from all the
above theories. Entrepreneurs typically are bearers of risk who make decisions on the pro-
curement and use of resources and thus deal with uncertainty; arbitrageurs, who expose
and exploit price differences and market opportunities; innovators, who introduce new
technologies or products, discover new markets, or create new types of institutions; and
coordinators of scarce resources who collect various resources (such as money, real
estate, and technology) to set up new companies (Volery et al., 2016).

1.3 The Significance of Entrepreneurship

for the Economy
Most start-ups come into existence as small companies or even micro enterprises. If they
are successful, they may grow into medium-sized firms. How significant are SMEs for the
economy at large? Here again we can rely on data gathered by the GEM, focusing primarily
on the situation in Europe. We will then examine prevalent patterns of company formation
and closure.

Relevance of SMEs

The importance of SMEs becomes apparent when we look at the share of companies that
are SMEs:

• In 2018, 99.6% of all enterprises in Germany were SMEs, of which 87.6% were micro
enterprises, 9.6% small enterprises, and 2.4% medium-sized enterprises (IfM, 2020).
• Similarly, in the EU overall, the total share of SMEs is currently 99.8%.
• The share of SMEs globally is even higher: > 99%.

All over the globe, SMEs contribute significantly to the creation of economic value, and are
credited with providing more than half of all jobs. The exact number varies across regions,
not least because employment conditions vary by country. In Mediterranean countries, for
example, employment is dominated by micro-enterprises, while in the USA and Germany,
most people work in medium-sized and large companies.

In the following table we can see how company size and added value vary between Ger-
many and the EU overall.

21
 Figure 4: Comparison of Key Figures Between Germany and the EU: Estimate for 2017

Source: IfM (2020).

Start-Up Patterns in Germany

Perhaps surprisingly, the number of start-ups in Germany has decreased in the five years
between 2013 and 2018. The total number of start-ups in 2018 was approximately 367,000.
Start-ups are credited with promoting competitiveness and innovation and making a
noticeable contribution to the labor market. For example, in 2017, the slightly more than
380,000 founders created 430,000 new full-time jobs (BMWi, 2020). Not all start-ups are
based on innovations. The German Ministry for Economic Affairs and Energy estimated
that only 9% of start-ups brought real innovations to market (BMWi, 2020).

22
Figure 5: Total* Business Start-ups in Germany 2013 to 2018

Source: IfM (2020).

Unfortunately, not all business start-ups are economically successful and a new venture
may be abandoned even after a short time. One survey found that the main reasons for
ending an entrepreneurial venture within the first five years of its founding are unsatisfac-
tory levels of income or stress together with health and family reasons (ZEW, 2010).

Another important cause are disagreements between the founders, which resulted in the
cessation of business activities in 34% of the cases. Most closures of new companies occur
between the second and fifth year of their existence (ZEW, 2010).

Of course, companies may also exit the market after that point for a variety of reasons,
such as bankruptcy or challenges associated with family firm succession.

The following table shows the relative magnitude of different reasons that caused young
companies to exit the market in 2007/2008. For those companies that were closed without
having gone bankrupt (insolvent), the main reasons were personal rather than business-
related and financial. Among the companies that had filed for insolvency, the majority
ceased operations after the completion of these proceedings.

23
 Figure 6: Categorization of Market Exits of Young Companies

Source: ZEW (2010).

When we compare the number of start-ups with the number of liquidations in Germany,
we can see that the balance has been negative in recent years. More companies are being
taken off the market than new start-ups being created in the same period. From this point
of view, stimulating start-up activity appears reasonable as a means to create and pre-
serve jobs.

24
Figure 7: Commercial Business Start-ups, Liquidations, and their Balance in the First
Half of 2015 to the Second Half of 2019 in Germany

Source: IfM (2020).

International Start-Up Patterns

A comparison of the situation in the UK, USA, France, and Germany shows that between
1990 and 2008 the intensity of business start-ups was by far highest in France. At the same Start-up intensity
time, however, France also had the highest number of companies exiting the market again The ratio indicating the
number of start-ups per
(ZEW, 2010). person capable of work-
ing.

25
 Figure 8: Start-Up Intensities in the UK, USA, France, and Germany (1990-2008), per
1,000 Working Age Population (ILO)

Source: ZEW (2010).

Slightly different patterns in these countries notwithstanding, entrepreneurial activity is

equally important for the economies of Germany, UK, USA, and France.

SUMMARY
There is no universal definition of entrepreneurship, though the innova-
tive character of the projects is often emphasized. It is a process in which
entrepreneurial opportunities are identified, evaluated, and used.
Descriptions of entrepreneurship have existed since the 18th century,
though different points of view exist. Entrepreneurs are sometimes seen,
for example, as arbitrageurs, sometimes as bearers of risk, and some-
times as initiators of creative destruction. Today, their character is often
described as a combination of these roles, i.e., as carriers of risk, arbitra-
geurs, innovators, and coordinators of resources.

The GEM records the worldwide level of early-stage entrepreneurial

activity. Start-ups are important for national economies because they
initiate the use of new technologies and compensate, at least partially,
for the loss of jobs due to the closure of now redundant companies.

26
Start-up projects are mostly SMEs. But what exactly is meant by SME is
different around the world. In the EU, SMEs are typically defined as com-
panies with fewer than 250 employees. Turnover and total assets may
also be taken into account. Either way, and regardless of the precise def-
inition used, SMEs play an important role in the economy, as they consti-
tute by far the largest number of enterprises and contribute a significant
share of value added and employment.

27
 UNIT 2
STRATEGY FOR STARTING A BUSINESS

STUDY GOALS

On completion of this unit, you will have learned …

– key entrepreneurial opportunities that may be used by start-ups.

– typical goals and motives of founders.
– common personal characteristics among entrepreneurs.
– how business models and strategies for start-ups are developed.
 2. STRATEGY FOR STARTING A BUSINESS

Case Study
During their MBA studies, Andrea, Jörg, Mark, and Nathalie got to know each other
through group work. They were given the task of developing an attractive business idea
for the (potential) foundation of a new company. In their early conversations, the group
realized that they did not understand how people come up with a business idea, nor what
ultimately motivates someone to start their own business. The group was also unsure
whether the process of developing business models and corporate strategies is different
for start-ups than for established companies. In this respect, they agreed to first research
the basics before creatively developing their own business idea.

Thus, they researched the following aspects:

• Is it possible to find different opportunities for business start-ups?

• What are typical goals and motives of entrepreneurs?
• Do entrepreneurs have special characteristics—is there an “entrepreneur gene”?
• How do founders develop their business model and strategy?

2.1 Opportunities for Business Start-Ups

In order to establish a company, a business idea is needed that appears, after a thorough
examination, to be feasible and economically viable. Such an idea captures an entrepre-
neurial opportunity.

Entrepreneurial opportunities are situations in which a new relationship between means

and purposes can be established in order to sell goods or services (Fueglistaller et al.,
2016).

Two competing approaches to entrepreneurial opportunities can be found in literature:

discovery and emergence. Both approaches assume that the identification and exploita-
tion of opportunities are what the entrepreneur aims at. Moreover, both approaches
assume that imperfect markets allow entrepreneurial opportunities to emerge. Where
they differ, however, is in their understanding of how, exactly, that opportunity comes to
life.

The Discovery Approach

The “discovery approach” assumes that the opportunity already exists and merely needs
to be discovered by the entrepreneur. Entrepreneurs, in this view, are the special people
who recognize and take advantage of business opportunities. The opportunities are just

30
waiting to be recognized and realized. Detailed data collection and market research are
therefore imperative—and it is equally important for the entrepreneur to act quickly
before someone else takes advantage of the opportunity.

According to the “discovery approach”, opportunities are caused by changes in markets or

industries, for instance because of changes in the laws, regulations, or the demographics
governing a market, thereby leading to changes in customer demands.

Entrepreneurs who discover these opportunities systematically search for these changes—
and exploit the opportunities that they find. They therefore differ from other people
mainly by having the special skills that help them identify and seize opportunities. They
are, for instance, particularly vigilant to changes in the market environment. Once they
have discovered an opportunity they may pursue it through the use of capital investment,
creating prototypes, and eventually establishing a company. Sales within the market pro-
vide the necessary feedback as to whether the demand is being met; if not, adjustments
are made (Fueglistaller et al., 2016).

Figure 9: The Role of the Entrepreneur in the Discovery Approach

Source: Fueglistaller et al. (2016).

The Creation Approach

The “creation approach” is different from the discovery approach. In this view it is entre-
preneurs’ activity that causes an opportunity to emerge. The opportunity is created, not
discovered. However, this creation is not entirely constructive. Instead, it often takes the

31
 Creative destruction form of creative destruction (the idea for which Schumpeter, as we saw, is famous). The
This is caused by innova- entrepreneur creates an innovation that allows them to pursue the opportunity—and it
tions, products, technolo-
gies, or companies thereby often makes existing opportunities redundant.
appearing on the market.
The decision logic (“effectuation process”) is structured as follows: The given possibilities
lead to actions. Questions along this discovery path may include: Who am I? What do I
know? Whom do I know to discover new possibilities? The first step is the connection to
others. This may then result in new project participants joining, who in turn bring in new
possibilities and goals themselves, so that an expanding and converging cycle is set into
motion.

The following principles often guide the process of opportunity creation.

• “Sparrow-in-the-hand” principle: Here, something new is created only with existing

possibilities, no new paths are taken.
• “Affordable-loss” principle: The alignment is made according to what one is prepared to
lose, instead of calculating possible returns.
• “Patchwork” principle: Negotiations are conducted with all persons who are willing to
make a contribution. The goals of the company determine who will come on board.
• “Making lemonade from lemons” principle: Unexpected coincidences and circumstan-
ces are acknowledged and actively used instead of causing alarm.
• “Pilot-in-control” principle: Human action is the primary driver of new opportunities,
rather than relying on the exploitation of technological or socio-economic changes
(Fueglistaler et al., 2016).

32
Figure 10: The Role of the Entrepreneur in the Development Approach

Source: Fueglistaller et al. (2016).

Assessing Opportunities

Whether an opportunity is “created” or “discovered”, the entrepreneur must evaluate it:

Does it offer a valid business idea, i.e., does it allow the entrepreneur to offer a product or Business idea
service on the market? This is the product or
service that a founder
wants to offer on the mar-
In order to determine whether an opportunity represents a business idea that can be pur- ket.
sued for broader benefit, the entrepreneur has to answer the following questions:

• Is the idea viable? (= market feasibility)

• Is its implementation worthwhile? (= economic feasibility)
• Is the idea feasible? (= technical feasibility)

Technical feasibility

In the first step, the degree of technical possibility, innovation, patentability, and general
intellectual protection are examined. Approximately 50% of ideas drop out at this phase,
e.g., because an invention is available that has already been patented. For the remaining
ideas, it is determined whether they are technically possible. This can be done by inter-
viewing experts, for example. At the end of this phase, a prototype may be developed, as it
may offer useful hints for later production (Fueglistaller et al., 2016).

33
 Market feasibility

The second step is to determine whether it is possible to bring the service or product to
market. This usually requires it to offer an advantage over existing solutions. Approxi-
mately 30% of ideas are not pursued further after this step. Expert interviews are also use-
ful in this phase of decision-making, as well as thorough internet research. The entrepre-
neur will look for similar products or services, and offers that serve the same needs. An
evaluation is then carried out to determine whether additional benefits can be offered to
customers—and whether they would be willing to pay for them. Finally, it must be deter-
mined whether the necessary resources are available for the entrepreneur to pursue the
opportunity, for instance, by carrying out the needed development and marketing of
products or services (Fueglistaller et al., 2016).

Economic feasibility

Equally important is to calculate the expected return, price, market volume, and market,
as these are all estimated—as well the anticipated costs of pursuing the opportunity. Here,
the market is examined in detail, potential segments are identified, and suitable entry
strategies and sales plans are formulated. If economic feasibility can be established, the
results are typically documented in a business plan (Fueglistaller et al., 2016).

2.2 The Entrepreneur

Without an entrepreneur, there is no enterprise, as she or he is the driving force behind it.
At the beginning, she takes an entrepreneurial opportunity and decides whether she
wants to pursue it alone, or together with others. At a certain point, the project then sub-
sumes the entrepreneur, becoming the focus and influencing her social network.

Goals and motives of entrepreneurs

Entrepreneurship can reasonably be viewed as a link between a person and an opportu-

nity. Entrepreneurs decide to take advantage of an opportunity if they expect a high
chance of success. If there is a profit potential that compensates the opportunity costs
(i.e., lost contribution margins), the project is considered attractive (Volery et al., 2016).

Motives Both monetary and non-monetary factors were identified as motives of entrepreneurs
A reason for doing some- (Volery et al., 2016).
thing that is often
acquired through sociali-
zation and cultural • Self-realization: Many founders want to realize their goals and dreams, and/or are look-
norms. ing for a challenge.
• Material remuneration: Many entrepreneurs would like to be paid according to their
efforts. The financial incentives of pursuing their own venture (for example, as self-
employment professionals) seem attractive to them, and this can lead to the creation or
purchase of a business. The latter can be particularly interesting if savings are available
for the acquirer to make the investment.

34
• Innovation: Entrepreneurs often want to create something new, to develop innovative
products or services. They bring both the desire and the ability to create something
unique.
• Striving for independence: Many entrepreneurs want to be independent and their “own
boss.” They often relish the ability to determine the location and schedule of their work.

However, these motives differ only slightly from the career motives of non-founders. What
differentiates one group from the other is not so much a difference in motivation or per-
sonality structure, but rather the occurrence of a “triggering event”. Many entrepreneurs
point towards a specific biographical event that led to their decision to build their own
business. These events are not necessarily positive. They are, in fact, often negative (such
as receiving a negative performance appraisal, being passed over for a promotion, or even
losing one’s job), thereby triggering the entrepreneur to determine, in effect, that “there
must be a better way to spend my professional life”.

There are also many barriers to establishing a new venture. Barriers may be, for example,
a lack of resources (e.g., lack of marketing and management skills, compounded by a lack
of information and the problems of finding funding). Compliance costs, such as high taxes
and other fees, also play a major role. Finally, facing reality during start-up often proves to
be challenging. If the project turns out to be more difficult and riskier than originally
expected and the future is uncertain, fear of failure quickly arises and may lead to the
abandonment of the project.

Characteristics of entrepreneurs

Research literature considers three characteristics to be particularly relevant to an entre-

preneurial personality (Volery et al., 2016).

• Performance motivation: This refers to the will to perform and to deal with tasks that
are both challenging and feasible. Entrepreneurs often want to show excellence and
have the need to succeed in competitive situations.
• High self-efficacy expectation (internal control conviction, or high internal “locus of
control”): This describes the belief that one is responsible for one’s own fate and the
results of one's actions, and that one can actively influence this outcome. Above all,
events represent the results of one's own actions.
• Attitude towards risk: Entrepreneurs often show a tendency to voluntarily expose them-
selves to situations with an uncertain outcome. They often take calculated risks and are
willing to develop the ability to manage such situations appropriately.

In addition, there are often other significant factors in the decision to become an entrepre-
neur.

• The pursuit of independence: It is often seen as positive to become independent from

authority and to realize one's potential.
• Problem orientation: Rather than ruminating about negatives, cultivating a proactive
mindset often allows entrepreneurs to focus on the possible solutions to a problem.
• Resilience: This refers to physical stamina and the mental ability to perform under pres-
sure.

35
 • Emotional stability: This represents the ability to overcome frustration more easily.
• Assertiveness: This is the will to pursue one’s interest, often including the willingness to
lead others.
• Social adaptability: This describes flexibility to adjust to the oft-changing requirements,
especially towards customers and suppliers.

It is important to note that it is not just the personality that conclusively defines the entre-
preneur. Current research also draws our attention to environmental factors such as the
market; uncertainty due to technological change; high (or low) capital requirements; com-
petitive density; institutional framework conditions; the enforceability of industrial prop-
erty rights; technology transfer in the context of research institutions and universities; and
other socio-cultural factors in describing start-up phenomena (Kollmann, 2020).

Several people often pursue a founding idea together, effectively forming a team. This is
particularly advantageous for start-ups with a high growth potential, as different talents
and skills are involved. In addition, the workload is distributed and several networks are
accessible from the very beginning.

Advantages of team foundations include

• a greater capacity for problem-solving, a broader horizon of experience, and a wider

range of knowledge.
• ability to help one another in a personal and/or professional way.
• ease of coping if someone leaves.
• less occurrence of feeling alone or lonely (Volery et al., 2020).

However, there are also potential disadvantages of team foundations, which include

• possible difficulties in cooperation due to unclear competences and group thinking.

• teams only working together effectively after extended periods of time.
• constructive resolution of any conflicts that arise in the team, requiring conflict compe-
tence, respect, listening, participation, and honesty (Volery et al., 2016).

2.3 Business Model and Strategy

Business model In order to be successful in competition, every company needs a viable business model
This is an illustrated and a subsequent strategy, thus building the necessary and sustainable competitive
model of how added
value is created for cus- advantages. The relevance of the business model and strategy is particularly important for
tomers, and how a return founders, as uncertainty about the market and the rules of the game is often very high.
on investment is secured The connection between strategy and business model is that the business model is devel-
for the organization.
oped via the founding idea, and then the strategy of the new company is formulated
Strategy
This term, which origi- based on the business model.
nates from the military,
describes how companies
use their strengths to be
successful in the market.

36
Development of the Business Model

Founders can develop their business idea with the help of the COSTAR framework. Its let-
ters stand for the six core elements of a business idea (Müller et al., 2016).

• Customer: Who is the customer? What are their interests, characteristics, needs?
• Opportunity: Where is the market opportunity? How big is the potential? Which trends,
technologies, and market changes are relevant?
• Solution: What exactly does the solution look like? How does it meet customer needs
and how are identified market opportunities exploited?
• Team: Who is needed to develop the solution successfully?
• Advantage: What are the advantages over other options? What is unique about them?
• Result: What results are expected? What does market success look like?

The business model is thus being developed on the basis of the idea that has been estab-
lished. It describes “how, for whom, with whom: and thus, value is created”. It captures the
purpose of the new venture, and provides a blueprint for pursuing it (Stähler, 2018, p.
223).

Figure 11: The Business Model Creates Value for the Customer

Source: Stähler (2018).

In this regard, the founder should describe the so-called value proposition of the com- Value proposition
pany, i.e., the value of its product, or service, to the customer. It can be formulated with The promise of value to
be delivered to a cus-
the help of four criteria (Müller et al., 2016; Stähler, 2018). tomer through the use of
a product or service.

37
 • Value proposition: These are the factors that should inspire customers. For this pur-
pose, the customer segment is described as precisely as possible, as well as the task
that is solved for the customer. The benefits must be clearly defined.
• Business structure: Ideally, the way the business is structured conveys enthusiasm to
those who work there. How is the promise of the value proposition convincingly fulfilled
by the product, service, or combination thereof? This requires suitable sales channels,
production or service processes, core capabilities, and business partners.
• Profit model: This answers the question of how the money is earned. The description of
costs and revenues and their influencing factors leads to the determination of the profit.
Make or buy Questions such as “make or buy” lead to the analysis of cost drivers. Different sources
This refers to the decision of income (product sales, licensing, rents, fees for services, subscription fees, etc.)
as to whether it is better
to provide a service should be examined and compared with the rules of the industry. This allows for assess-
within the company itself, ing how long-term survival can be achieved.
or to purchase it from • Entrepreneurial spirit (team and values): Who is a member of the team? How is an
outside.
enthusiastic team created? In order to achieve the desired spirit of enterprise, team and
values must be united. All desired professional and social skills should be present in the
team. The team should embody the values of the value proposition (e.g., rules, ideals,
manners) on a daily basis—and manage customer complaints appropriately.

These factors represent the main components of the business model.

With this in mind, the founder fulfills four duties.

• Customer understanding: The founder must understand the customers in order to be

able to offer them something inspiring.
• Business architect: The founder develops and implements his business structure.
• Basic economist: The founder understands the basic financial mechanisms of the com-
pany.
• Team builder: The founder builds a team that shares and lives the desired values (Stäh-
ler, 2018).

However, these tasks are not exhaustive. Entrepreneurs can play many different roles, for
example, as visionaries, discoverers, helmsmen, information brokers, decision-makers,
salespeople, networkers, front line workers, problem solvers, and controllers (Volery et al.,
2016).

Business model canvas A useful method for visualizing the business model is the business model canvas.
This is a visualization tool
that illustrates a business
model. The canvas shows
nine essential aspects of
the business model.

38
Figure 12: Business Model Canvas

Source: Startplatz (2020).

On the business model canvas, the customer segments, value propositions, sales chan-
nels, customer relationships, revenue streams, key resources, activities, partners, and the
cost structure can be mapped. The discussion process associated with the entries in the
canvas leads to the involvement of the stakeholders and to a common understanding of
the business model.

In order to stand out from existing providers, it is advantageous for founders to have a
business model innovation. A maritime metaphor is useful to imagine the aspired-to Business model innova-
market environment: Since products are becoming increasingly similar worldwide, it can tions
These are new, unusual
be beneficial to create so-called “blue oceans” through benefit innovations. In contrast to business models that
the “red oceans”, which are the highly competitive markets, a real advantage can be cre- deviate from the business
ated in the blue oceans by solving customer problems. models typical of the
industry.

The following procedure helps to find “blue oceans” (Müller et al., 2016).

39
 • First, the rules of the game in an industry are analyzed via the so-called strategic con-
tour. The typical factors that determine competition are entered into a graph on the
horizontal axis. Vertically, the level at which the factors are currently met is noted.
• A new benefit curve is then plotted, showing how the customer obtains a new benefit
through a transformation, i.e., a deliberately different approach by the founder than
that of the established competitors.
• A “four-action format” can be used to develop the new benefit curve, in which the fol-
lowing four key questions are answered:
◦ Which elements were previously taken for granted and can be deleted?
◦ Which factors can be reduced far below the industry standard?
◦ Which factors far exceed the standard?
◦ What new factors should be created for the industry?

Derivation of the Strategy

If a business model exists, the strategic planning can begin. By developing the corporate
strategy based on vision and mission, the founder can consciously plan to navigate the
future step-by-step. This process is usually not linear, but iterative.

In the following, the ideal-typical, multi-stage, linear process for developing a strategic
plan is described (Müller et al., 2016).

Vision The first step starts with the development of the vision. This describes a desirable corpo-
This describes what the rate image for the next three or more years. Future products, markets, customers, and pro-
company hopes to ach-
ieve in the long term. cesses—as well as company location and personnel structure—are taken into account.

Mission In the second step, the purpose and nature of the company are formulated in a mission.
Also known as a “mission
statement”, the self-
image is described in The third step then includes the definition of the strategic corporate goals. This is where
order to make the mean- the question is answered what the company wants to achieve in the medium and long
ing and value of a compa- term. It also shows in which area (product-market combinations) the company should
ny’s task clear to the
employees. become active.

The fourth step is to define operational objectives and metrics for achieving these objec-
tives. Operational targets relate, for example, to market share, the quantity of a product
sold, key financial figures, and profitability (Müller et al., 2016).

SWOT analysis The situation is then examined and assessed using a SWOT analysis. This famous acro-
The acronym stands for nym stands for “Strengths, Weaknesses, Opportunities, and Threats”. Based on the
Strengths, Weaknesses,
Opportunities, and strengths and weaknesses of the envisioned company, as well as the opportunities and
Threats. A company’s own threats of the environment including the competition, the strategy can be derived using
positioning in compari- generic standard strategies. The generic strategies are: “expand”, for the combination of
son to the competition is
analyzed. opportunities/strengths; “protect” for strengths/threats; “catch up”, for weaknesses/
opportunities; and “avoid”, for weaknesses/threats (Definition: Was ist “SWOT-Analyse”?,
2020).

40
Founders should position themselves by building on their identified strengths in order to
be successful. This means that expansion is the most favorable strategy. This can be pur-
sued in three strategic variants (Müller et al., 2016).

• Cost leadership: A price advantage sets you apart from the competition; cost reductions
and cost control are essential for this.
• Differentiation: At least one unique advantage (e.g., quality leadership) is offered,
through which a higher price can be achieved.
• Concentration on focal points: Concentrating on targeted niches can result in greater
customer benefit or a better cost situation in the segments, thereby increasing cus-
tomer loyalty.

The strategy must then be implemented and critically reviewed on a regular basis.

Founders face special challenges in their start-up strategy. Seven success factors have pro-
ven to be crucial (Malik, 2011; Müller et al., 2016): market positioning, innovation, unique-
ness of offerings, structure of sales channels, management experience, ability to meet
demand, and the market environment.

The following four-phase approach is therefore recommended (Müller et al., 2016). In the
first phase, quality should generally take priority over cash flow, as should market share
over profit. The second phase should focus on rapid growth, with aggressive marketing
used to gain and defend market share. The third phase should be characterized by high
productivity, with a particular emphasis on experience and learning curve effects. In the
fourth and final phase, the profit for which the prerequisites were created can finally be
gained.

SUMMARY
Entrepreneurs want to realize their potential. They want to be ade-
quately remunerated for their work, to be innovative, and independent.
The business ideas of founders are based on entrepreneurial opportuni-
ties that are identified or created and then implemented. These oppor-
tunities need to be evaluated—and only if they are technically, commer-
cially, and economically feasible should they be pursued.

A business model then results from a deepening of the business idea. To

that end, the value proposition of the firm is formulated.

Strategy development is based on the vision and mission, as well as the

strategic corporate goals. By means of a SWOT analysis, generic stand-
ard strategies are compared and the most favorable strategy is selected.
For founders, this typically means building on their strengths.

41
 UNIT 3
INNOVATION AND INNOVATION
MANAGEMENT

STUDY GOALS

On completion of this unit, you will have learned …

– what is meant by innovation in the entrepreneurial context.

– which dimensions are used to describe innovation.
– what innovation management is.
– how a goal-oriented innovation process can be designed.
– what options exist to protect intellectual property.
– how a well known company, BMW, uses a tool called “empathic design”.
 3. INNOVATION AND INNOVATION
MANAGEMENT

Case Study
Andrea, Jörg, Mark, and Nathalie were asked to develop an innovative business idea for
their MBA term paper. They devised a concept to offer new services for the mechanical
engineering industry via a platform solution. At first, they were very enthusiastic about
their idea, but then they asked themselves whether it really is an innovative idea since
platform solutions already exist. The group was also not yet clear in detail on what the
range of services could look like. Moreover, their idea could be copied very easily. If new
competitors emerge, their market analysis could quickly be rendered obsolete. So, they
decided to take a deep look at the basics of innovation management and then critically
examine their idea again.

To this end, they attempt to clarify the following questions:

• What is an innovation in an entrepreneurial context?

• Which dimensions are used to describe innovations?
• What is innovation management?
• How does the innovation process operate in a goal-oriented manner?
• What are the options for protecting intellectual property?
• How has BMW already successfully used empathic design?

3.1 Innovation
Innovation Innovations by companies are, essentially, about something new. This can be new prod-
The term is derived from ucts or new processes, for example. Innovations are considered the basis for sustainable
the Latin verb “innovare”
and is translated as “to corporate success. Therefore, decision-makers should focus on a good understanding of
renew”. innovations and their regular development.

The Concept of Innovation

In academic literature there are a number of definitions for innovation. We will highlight
the three most important ones. A definition from the 1990s sees innovation as an inven-
tion that is carried through to entrepreneurial success. Here, the invention of a new prod-
uct, process, or service is regarded as the starting point. It usually requires investment in
production preparation and market development (Brockhoff, 1999).

This consideration is in line with a more recent understanding, wherein Lyons defines
innovation as “what defines who wins and who loses”. For him, the successful commerci-
alization of innovations is the main focus (Lyons, 2013, as cited in Gassmann & Sutter,

44
2013). If, on the other hand, the focus is on novelty, an innovation can be understood to be
“qualitatively novel products or processes that differ ‘noticeably’ from a comparative state
—however this is to be determined” (Hauschildt et al., 2016, p. 17).

Dimensions of Innovations

For a better understanding of innovations in general, and of the term “noticeable” in par-
ticular, various dimensions can be consulted, such as content-related, novelty-degree-
related, subjective, actor-related, process-related, and normative (Hauschildt et al., 2016;
Disselkamp, 2005).

Content dimension (What is new?)

Business innovations can be classified into product, process, market, structural, and cul-
tural innovations. Product and process innovations are most frequently found in compa-
nies (Hauschildt et al., 2016; Disselkamp, 2005).

• Process innovations take place through novel factor combinations. A good is produced
more cheaply, qualitatively better, more environmentally friendly, safer, or faster. The
innovations start with the work, they are task-oriented, and eliminate existing process
weaknesses. Process innovations are internally (sometimes also inter-company) orien-
ted and aim at increasing efficiency.
• Product innovations go further than process innovations because they also include
recycling. The new performance on the market makes it possible for the product to ful-
fill completely different purposes, or at least to serve existing purposes differently.
Product innovations represent new uses, or significantly changed uses, that the cus-
tomer considers useful and therefore buys. Product innovations typically take some
time to become established on the market. Effectiveness is the goal.
• Service innovations are often also referred to as product-service systems, because they
are where product and process innovations coincide. This is due to their immateriality
(because services are intangible); heterogeneity (because of direct customer involve-
ment in their creation); inseparability (from the process of providing the service); and
transience (because they cannot be stored or transported).
• Market innovations relate to new sales or procurement markets. The aim is to open up
new customer or supplier potential, which can increase turnover, lower purchase pri-
ces, or improve the quality of services (Disselkamp, 2005).
• Structural innovations are renewals in the corporate structure. This may involve work
structures such as new work schedules, workplace models, or new personnel develop-
ment procedures. Objectives are the increase of employee qualification and/or motiva-
tion, or the rationalization of operational processes. Sales, marketing, organizational, or
logistical structures—such as franchise systems—are also conceivable (Disselkamp,
2005).
• Cultural innovations mean improvements in the social sphere, including among individ-
uals themselves. Within companies, for example, this can mean a change in cooperation
between employers and trade union representatives (Disselkamp, 2005).

45
 Intensity dimension (How new is new?)

The term “innovation” is sometimes used in an inflationary way and ranges from new
designs to those that make only minimal changes to groundbreaking innovations. In this
respect, the question arises as to when it makes sense to actually speak of an innovation.
Here, it is helpful to look the concept according to target groups and the degree of novelty.

Subjective dimension (New for whom?)

The concept of innovation can also be clarified by focusing on different target groups. For
example, an innovation may be new for an individual, e.g., an expert or a manager of a
company, but it can also be new for all managers of a company. The latter is the common
business understanding of innovation. In industrial economic understanding, novelty is
the basis for an entire industry. If the focus is on novelty for an entire nation, then this is
the national economic approach, as is the case with patenting. The broadest view refers to
novelty for the whole of humankind (Hauschildt et al., 2016).

Actor dimension (New by whom?)

A large number of different actors are often involved in the creation of innovation. Within
the company, this concerns management (because of their decision-making role) and
implementation throughout various departments, from research and development (R&D)
to production and marketing, and in the case of digitization aspects, also IT. External
actors such as customers, suppliers, or cooperation partners are increasingly playing a
Open innovation decisive role in innovations, as the procedures of open innovation are becoming increas-
This term refers to the ingly widespread (Hauschildt et al., 2016).
opening up of the entre-
preneurial innovation
process to include the Process dimension (Where does the innovation begin, where does it end?)
outside world.

An invention is often the first step, which becomes an innovation through a systematic
process. After the formulation of an idea, the next step is to take a closer look at a product
or service area that is not yet known in detail and to examine it carefully. A theoretical
foundation or empirical examination in the third step provides certainty about causes and
effects and functional connections. In the fourth step, this may result in the innovation,
i.e., the creation of an alternative product or service with defined features and precisely
describable properties, which is then published. The fifth step consists of the develop-
ment and creation of designs, test facilities, prototypes, etc. The sixth step is execution.
This leads to the conversion into an economic unit which is offered on the market, or a
process which is newly used within the company. The final step is the ongoing reprocess-
ing. Innovation management ends with the transition to daily routine (Hauschildt et al.,
2016).

Normative dimension (New = successful)

There is an approach that only takes the existence of an innovation seriously if it is eco-
nomically successful. This can be seen as questionable, since hardly anyone would start
an innovative project if future success had to be guaranteed from the beginning. After all,

46
at the time of launch, the future market situation can only be estimated. To this extent,
innovation managers work with an expected success rather than a realized success (Hau-
schildt et al., 2016). This normative view will not be further discussed here.

3.2 Innovation Management

Innovations are considered a prerequisite for sustainable corporate success. The targeted
creation of innovations requires a conscious design of an innovation system. For this pur-
pose, possible innovation potentials must first be identified. These represent the prerequi-
sites and means to ultimately achieve a desired position in the innovation competition.
Furthermore, the technical conditions must be provided.

In order to generate new ideas, it is important that employees show a willingness to act
innovatively. This is promoted by company management setting clear goals and strategies
that include room for innovations (Disselkamp, 2005).

Innovation management can be understood as the “dispositive design of innovation pro-

cesses” (Hauschildt et al., 2016, p. 80). The core task of management is thus to shape these
processes. In contrast, a system-theoretical view focuses on the design of the innovation Systems theory
system, i.e., the institution in which the processes take place (Hauschildt et al., 2016). An explanatory model
that takes an interdiscipli-
nary approach to aspects
Good innovation management involves determining the optimal level of innovation activ- and principles of
ity, aligning relevant goals, and handling resistance within the company in a goal-oriented dynamic, complex sys-
tems is a systems theory.
manner, whereby appropriate measures must be taken (Hauschildt et al., 2016). These
measures are described next.

Innovation Strategies

The design of the innovation strategy is an important management task and is done in
relation to the overall corporate strategy. Innovation strategies have been the subject of
scientific research since the 1960s. Ansoff and Stewart, for example, published a typology
with four strategic options: “first-to-market”, “follow-the-leader”, application engineering,
and “me-too” (Ansoff & Stewart, 1967, as cited in Disselkamp, 2005).

“First-to-market” refers to the intention of a company to always be the first innovator in a

market. “Follow-the-leader” is when a company waits for another company to build up the
market. This company is then simply and quickly followed, even though this results in a
less favorable innovation image. In application engineering, other, already existing prod-
uct or process innovations are adopted by a company and possibly improved. Finally,
“me-too” is when a copy of the competitor is brought to market. This saves development
costs and thus exploits cost advantages.

Maidique and Patch (1980) have developed a similar typology:

47
 • “First-to-market” is based on intensive research and development and aims to set entry
barriers against latecomers.
• “Second-to-market” (also: fast follower) corresponds to the “follow-the-leader” option,
where a user-oriented optimization of the pioneer product is carried out.
• “Late-to-market” (also: cost minimization) tends to correspond to the “me-too” strat-
egy. In this case, one waits until a dominant design has developed, then quantity
digression effects are achieved through standardization. The cost side is thus explicitly
considered here.
• Market segmentation (also: specialist) means focusing on intensive processing of one or
fewer market segments so that benefits can be achieved (Wolfrum, 1991; Maidique &
Patch, 1980, as cited inDisselkamp, 2005).

Figure 13: Innovation Strategies

Source: Disselkamp (2005).

In 1999, Pepels developed the typologies known as “pioneer”, “early follower”, “modifier”,
and “latecomer”, which Disselkamp later expanded to include “persister” (Pepels, 1999, as
cited in Disselkamp, 2005).

Pioneers are the innovation leaders. They are constantly looking for new products, pro-
cesses, markets, etc. The focus is on technical progress with the option of competitive
advantages, so that dominant standards and an image as a benefit leader can be estab-
lished. The advantage is that there is the chance of a rapid increase in volume, and thus
cost digression. The danger lies in the high risks, as demand is not secure and large invest-
ments are necessary.

Early followers adapt the innovations of the pioneers, bring out new products, optimize
existing products, and thus achieve benefits for the customers. The advantage of this strat-
egy is that it involves fewer risks than the pioneer strategy since the demand is already
known, and the investments are lower. Risks may lie in the pioneer’s intellectual property
rights or in the standards they have introduced. The image of the innovation leader and
cost digression can no longer be achieved, and other competitors can soon be expected.

48
Modifiers only incorporate innovations at a later stage. Experiences of pioneers and early
followers are pending, with the focus on improvements of existing solutions. A favorable
aspect is that competitive advantages are created by the customer-specific orientation,
with the company acting as a progressive supplier. This generates customer loyalty and
often good prices, as the low development costs lead to higher returns with reduced risks.
The disadvantage is that the established providers overcome the barriers to entry.

Latecomers only bring a copy of the innovations of established users to the market. Their
advantage is that development costs are saved and risks are avoided. The danger lies in
the fact that the products do not have any unique selling points, and they can even be
confused with the original products. Only the lower price is ultimately the selling point. In
this respect, the company must be the cost leader. Since this role requires process, struc-
tural, or market innovations, the latecomer becomes a pioneer in this sense.

Those who persist within an existing range of products with existing processes and struc-
tures will remain within this existing range. They continue to operate in the familiar mar-
kets with familiar cultures. This means that the persister does not incur any investments
or risks, but they cannot, for example, gain any image or competitive advantage through
innovation.

Achieving innovation requires not only clear objectives and an innovation strategy, but
also employees who want to produce innovations. The following characteristics are con-
sidered a prerequisite for innovative employees (Disselkamp, 2005).

• Willingness to learn, curiosity, and flexibility: The joy of lifelong learning requires that
employees develop improvements for what exists now.
• Sensitivity: When employees perceive trends, customer needs, or even internal prob-
lems, they also recognize opportunities for change.
• Confidence: Standing up for one’s own ideas requires strength generated by self-confi-
dence.
• Decision-making ability: In order for innovations to emerge, one's own decisions are
just as relevant as the path through superiors.
• A sense of purpose and loyalty to goals: For innovations to become reality, hard work is
usually necessary. This is supported by clear objectives and adherence to targets.
• Enthusiasm: Resistance and difficult phases often occur in innovation projects. The abil-
ity to be enthusiastic helps to carry one through tougher times.
• Communication skills: If one’s own ideas are well communicated, others are more
quickly convinced and can be more involved.

Design of the Innovation Processes

Innovation management focuses on the innovation processes. For this purpose a three-
phase model was developed by Thom in the 1980s. This forms the basis of the later mod-
els, which have been published in large numbers since then (Thom, 1980).

49
 Table 1: Phase Model for Operational Innovation Processes

Phases of innovation processes

1. Idea generation 2. Acceptance of ideas 3. Realization of ideas

Specification of the main phases

1.1 Search field determina- 2.1 Examination of ideas 3.1 Concrete realization of the
tion idea

1.2 Finding ideas 2.2 Preparation of implementation 3.2 Distribution of the new idea
plans to addressees

1.3 Suggesting ideas 2.3 Decision on a plan to be imple- 3.3 Acceptance control
mented

Source: Thom (1980).

Thom (1980) distinguishes the following three phases: idea generation, acceptance, and
realization. Idea generation begins with the selection of a search field. On the one hand,
this should be broad enough to allow a sufficient number of ideas to be generated. On the
other hand, it also needs a clear boundary, after which no more searches for innovations
are made. To determine the search field, for example, the strategic guidelines of the com-
pany can be used, or a look can be taken at business areas in which a sales increase
through new offers appear possible. Ideas are then developed in the search field and
these are combined into proposals.

Acceptance of ideas The review of proposals is part of the idea acceptance process. If a proposal is deemed
Proposals will be realistically feasible, a realization or business plan is created. This describes the technical
reviewed from a technical
and economic point of feasibility and the way in which economic success is to be achieved. If it turns out to be
view. possible, the idea is pursued further.

Realization of ideas Finally, there comes the realization of ideas. Prototypes are created for this purpose. The
The selected ideas are production is prepared and begins, and marketing takes place. We speak of realization
implemented.
when the product innovation is introduced to the market or the process innovation is
introduced to the company. Afterward, the target figures are regularly compared with the
actual values in order to check the planned profitability against what has actually been
achieved. In case of deviations, corrective measures are taken immediately.

The so-called “stage-gate approach”, a term coined by Robert Cooper, has also gained
acceptance internationally (Cooper, 1986). In his model, Cooper describes a standardized
multi-stage procedure with a series of work phases (stages) and decisions (gates). The aim
is to ensure process quality in the development of product innovations. The approach is
supported by various studies which found process to be a determining factor in the suc-
cessful development of product innovations (Kleinschmidt et al., 1996). The process-rela-
ted influencing factors turned out to be decisive for economic success (Specht, 2018). By
alternating the stages and the gates, the process is defined in detail and by small steps.
Each stage contains cross-divisional activities by different functional areas or depart-
ments.

50
The team or individual in question pursues the work phases in sequence. The results of
each phase are presented to the decision-making body or to the decision-maker. A mile-
stone analysis with predefined criteria is used to decide whether the next work phase
should begin. If a project does not achieve its objectives or is not expected to be commer-
cially successful, the project is terminated.

Figure 14: Stage-gate Model at a Glance

Source: Vedsmand et al. (2016).

The procedure has various advantages (Vedsmand et al., 2016).

• Risk reduction: The process is divided into a number of work phases, between which
“go-” and “no-go” decisions are made. In this way, less-promising projects are termina-
ted earlier, which reduces bad investments.
• Simplicity: The decision phases are linked to clearly defined criteria and pre-estimated
services, on the basis of which the gatekeepers from management make decisions on
further action and investments. They prioritize ideas and allocate resources between
ideas and across development projects.
• Transparency: Everyone can see that investments in good ideas and projects with good
progress are made on the basis of defined criteria, and by whom the decisions are
made.
• Support: There is a set of methods, tools, and templates for each work and decision
phase. In addition to scoring approaches, portfolio management also integrates, for
example, NPV (net present value), IRR (internal rate of return), and PI (productivity
index).
• Experience: The procedure is tested and has been used for approximately 25 years;
company results prove the success.

51
 There is an extension of the stage-gate model for technology-driven innovations, which is
preceded by a phase in which research and development work is carried out. Only when a
sufficiently mature technical development is available will the usual steps be taken.

Moreover, as projects do not always have the same scope, three variants of the process are
recommended for different situations.

• In the event of a major risk, the entire process with all five work and decision phases are
implemented.
• If only a moderate risk exists, work phases 1 and 2 as well as 4 and 5 are combined and
the number of decisions is reduced to two.
• For small projects, it is sufficient to combine work phases 1 and 2 as well as 3, 4, and 5
and to provide for only one decision.

Agility In 2016, due to the changed requirements resulting from digitization as an agile stage
This term refers to a flexi- gate, Vedsmand and colleagues published a hybrid approach that takes into account the
ble, early response to
unforeseen events and identified uncertainties and ambiguity in the early stages (Vedsmand et al., 2016).
new requirements.
Figure 15: Agile-Stage-Gate Hybrid Model

Source: Vedsmand et al. (2016).

52
The new approach is said to have great potential for increasing the success rates of new
products, because the model provides for the interaction of the project team with users
and customers in the early phases. This ensures fast feedback and rapid market valida-
tion. The advantage of the new approach is that the process is accelerated by “time-boxed
iterations”. It consistently focuses on the results through tangible product gains as a
benchmark for progress. This approach can be used in all phases of the previous stage-
gate process.

The division of the innovation process into a “cloud phase” and a “building block phase”
takes into account the differences between the two phases (Gassmann & Sutter, 2013). In
the cloud phase, which contains the idea generation, the first step is the search field analy-
sis to identify the right innovation areas. Here, the market, technology trends, and the
competition are systematically examined. The result of this sub-phase is the business
idea, which is designed to ensure that values are created and secured. Benefits and price
expectations are calculated for this.

As a result, the feasibility is clarified. This refers to the technical feasibility (e.g., via labora-
tory samples or software prototypes) as well as the market feasibility through market seg-
ment and competition analyses. For this purpose, the entrepreneurial opportunity is
examined, i.e., the basic possibility of realizing the project.

The result of the cloud phase is the business case. Here, the results are documented to
provide a basis for the entrepreneurial decision. The boundary conditions such as price,
markets, technologies, returns, etc., as well as a chance-risk analysis of the project, are
presented here.

The building block phase is characterized by process management. Project controlling

and risk management are reflected here. The management increases the attention,
because the costs in this phase increase drastically compared to the cloud phase. As R&D,
production, purchasing, and marketing become active together, an interdisciplinary
development process begins.

The result of the building block phase is the system design with the essential product fea-
tures and the technical risks. This is followed by implementation and concept develop-
ment, which demonstrates the technical feasibility of the concept. The two steps do not
always take place one after the other; innovations are usually characterized by iterations,
loops, and jumps.

Parallel to the system development, the marketing plan is worked out, and partnering
(marketing cooperation) and field tests are carried out (Gassmann & Sutter, 2013). A post-
project review a few months after a project launches contributes to the learning process;
any mistakes that may have been made are process improvement opportunities.

53
 Figure 16: Division of the Innovation Process Into Two Parts to Promote the Success of
the Project

Source: Gassmann & Sutter (2013).

The following success factors were identified for innovation processes (Gassmann & Sut-
ter, 2013).

54
• Since there is always a risk of failure with an innovative project, it is good to consider
this risk in advance.
• A clear procedure with stop-and-go criteria is necessary. Furthermore, people with the
necessary knowledge should participate in the project reviews.
• The innovation rate can be significantly increased by dividing the process into cloud
and building block phases.
• The phase objectives of the process should be defined for all results, especially with
regard to the business decision to start the next project phase.
• Iterations must always be possible in the running project.
• Changing target conditions during a project originate from weak market clarifications at
the beginning. This should be prevented.
• A stop-and-go policy should be avoided—consistency and continuity are important.
• Product development runs parallel to production process development (simultaneous
engineering), but the cloud and building block phases must not be carried out in paral-
lel.
• The support of management is always necessary as an important power promoter. Promoters
Together with a technical and process promoter, as well as interdisciplinary cooperation These are people who
voluntarily commit them-
from project staff, projects are ultimately successful. selves to an innovation
process.

3.3 The Protection of Intellectual

Property
If, in the case of a start-up project or other entrepreneurial situations, there is a chance
that the products and/or technologies will lead to a technological lead or a significant
competitive advantage, a protection strategy should be developed. Industrial property
rights can be used to achieve long-term freedom of action and block competitors so that
the danger of imitations can be reduced quickly and inexpensively (Bader, 2013).

Patent Strategy

The patent strategy must always be coordinated with the corporate strategy. According to
the patent management benchmark studies of the BGW company and the University of St.
Gallen, 75% of all companies pursue legal protection strategies and have a fully formula-
ted patent strategy (Bader, 2013).

A distinction is made between legal and factual protection strategies, which complement
each other and whose uses should be considered at an early stage (Bader, 2013).

55
 Figure 17: Complementary Factual and Legal Protection Strategies

Source: Bader (2013).

A patent strategy has three core dimensions (Bader, 2013).

• Freedom of action: These are preventive, prophylactic measures taken before or during
the development of products or technologies. These can be patent searches and their
analysis, as well as the proactive in-licensing (the acquisition of rights by third parties
on the basis of a license agreement). This can also include mutual cross-licensing (the
mutual acquisition of rights between two parties by a license agreement) of relevant
patents and the destruction of interfering patents, e.g., by opposition or nullity pro-
ceedings.
• Protection against imitation/blocking of competitors: A company better places its prod-
ucts if competitors in a product area have to choose technological circumvention solu-
tions due to existing patents. However, this requires the company to be willing to
enforce the property rights. If patent infringements are tolerated, the deterrent effect of
patents is reduced.
• Commercialization through licensing: Every second company markets its intellectual
property rights externally, and the volume of license payments worldwide is estimated
at 100 billion US dollars. The granting of licenses requires consideration from a profit-
loss perspective. A distinction is made between exclusivity of own use and the granting
of a license for patent use. The reputation in terms of technical, financial, and proce-

56
 dural experience with licenses plays a role in the degree of enforcement. There is a License
release licensing (carrot licensing), where a licensee is sought, and an enforcement “The authority granted by
the owner of an industrial
licensing (stick licensing), where a potential patent infringer is sought. property right or copy-
right exploitation right to
a third party to exercise
Figure 18: The Three Core Dimensions of Patent Strategy the exploitation rights to
which the right holder is
entitled (right of use).”
(Meckel, 2020)

Source: Bader (2013).

Patent Management

The St. Gallen patent management model is based on the technology portfolio and identi-
fies suitable measures along the technology life cycle (Bader, 2013). Based on the external
strategic importance, as well as the internal resource strength, the procedure is divided
into five phases.

1. Exploration: In the first phase, potentials are identified. Broadly based cross-industry
searches are carried out in order to detect any existing earlier inventions (patent scan-
ning). Broad, conceptual patents should be applied for to support the company’s own
developments, but the inventions should still be continuously developed.
2. Set-up: If topic and competence fields with growing strategic importance exist,
focused patent searches are carried out (patent monitoring). Patent searches are used
to monitor further developments in specific fields of technology and selected compet-
itors. If patents are applied for, these are grouped into patent families in order to spe-
cifically block competitors.
3. Lock up: If own resources of strategic importance have been built up, the risk of con-
flict with patents from competitors increases. Circumvention solutions and single/
cross licensing should be examined, and patent law measures should be taken by
means of expert opinions and appeals. Patent clusters can be established to secure
competitive advantages, and out-licensing in other areas can be examined.

57
 4. Optimization: If a company possesses a high level of expertise but its strategic impor-
tance is declining, the existing patent clusters should be reviewed in terms of costs
and benefits. Blocking patents can help before the development of substitution tech-
nologies. Out-licensing in one’s own field can bring a short-term return on investment.
5. Dismantling: If the strategic importance of a project decreases significantly, it should
be further reviewed and reassessed. Exclusive out-licensing should be considered
unless other licensing agreements prevent this. Surrendering patents, selling them,
and giving up/donating them are further possible measures. In the case of a joint
innovation project with partners, the distribution of profits and benefits should be
determined early on, even if the actual amounts are not yet known. The intellectual
property regulation should be combined here with the joint definition of an exit strat-
Exit strategy egy.
This is a strategy for par-
tial or complete with-
drawal.

58
Figure 19: St. Gallen Patent Portfolio Management Model

Source: Bader (2013).

59
 In principle, if a patent strategy is in place, care must be taken to ensure that the derived
portfolio measures are actually implemented. This requires clear objectives in advance,
compliance with which is regularly monitored.

3.4 The BMW Empathic Design

Customer needs are becoming more and more individual, and customers expect their
needs to be satisfied quickly. In order to maintain or achieve competitive advantages,
companies are increasingly looking at customer needs.

Ethnographic Market Research

The established industries no longer achieve good results with their previous broad-based
instruments of classical market research, such as clinics (test studios) or surveys. Although
these approaches are still well-suited for later phases of product development, they are
not very suitable for the early phases of the product development process. In the early
phases, it is important to gain a precise understanding of the customer’s needs through
direct interaction with the customer, especially if a higher degree of innovation is desired.
Ethnographic market Suitable methods are ethnographic market research and the lead user approach. Ethno-
research graphic market research focuses on the identification of needs, while the lead user
This refers to the observa-
tion of consumer behav- approach is designed to develop a specific solution to a problem (Stahl & Meyer-Höllings,
ior in everyday situations. 2013).

Table 2: Difference between Classic and Ethnographic Market Research

Market Research Ethnography

Users talk about their behavior/preferences. The real, observable behavior forms the basis of the
analysis.

Users respond according to what they think is Users express their emotions, problems, and experien-
important. ces through body language and spontaneous com-
ments.

Users answer questions based on opinions and Researchers observe real problems at the moment
experiences. they arise.

The analysis follows a defined thematic guide- The observation follows the path that the user takes.
line.

Appropriate when testing existing tasks Suitable for the detection of future innovation poten-
tials

Source: Stahl & Meyer-Höllings (2013).

An important basic assumption of ethnographic field research is “everything is context”.

This means that human action can always be understood in terms of context, such as
place, time, conflicts, and social conventions. Further basic assumptions are that verbal
and non-verbal communication should always be taken into account. Human bias also

60
affects the researchers themselves, who must be aware of their own prejudices. Empathy
and understanding include the desire to truly understand the other (Stahl & Meyer-Höl-
lings, 2013).

The following methods of ethnographic field research have proven their worth (Stahl &
Meyer-Höllings, 2013).

• Participatory observation: Field researchers achieve the closest possible contact with
the object of study by immersing themselves in the field of study through their own par-
ticipation. In this way, they also receive information about actions that the object of
study performs, for example, unconsciously.
• In-depth interviews: Here, insight is gained into the world of the respondents, into their
everyday lives, their dreams, and values. The interviews are often conducted in an infor-
mal discussion style. This reduces the stress that is felt during long questionnaires in
structured interviews.
• Artifact studies: Observing how people use objects also leads to information about the
meaning of the objects. In addition, social relationships with people become apparent.
• Video: Video recordings can be covert or overt. They provide before-and-after perspec-
tives on events, and they enable a later presentation of the approach.
• Sorting of cards: The respondents receive different cards that are to be sorted or classi-
fied in relation to a question. The results are photographed and a statement is added.
From this, the priorities or clusters of meaning can be determined.

Empathic Design

Empathic design is an approach in which the design of a new product is user-centered; the
user is consistently at the center of attention. Empathy is twofold: on the one hand, it is Empathy
about empathy between users and developers; on the other hand, it is about building This is the ability to
empathize, i.e., to put
empathy between users and the product. Empathic design involves both an observation oneself in the thoughts
process and the development of emotional ties. The procedure is as follows: First, the and feelings of other peo-
users are observed and data are collected. The observations are then analyzed. On this ple.

basis, solutions are found and prototypes developed by using creativity techniques (Leo-
nard & Rayport, 1997).

Experience in recent years shows that integrating customers in the earlier phases of prod-
uct development leads to better decisions. This presupposes that the developers put
aside their own mindset and consistently respond to customer needs. For the later phases
of product development, the combination of empathic design and classical market
research is target-oriented. They draw a realistic picture of the customers and their needs
(Stahl & Meyer-Höllings, 2013).

The automotive industry is facing a new challenge due to the growing need for greater
environmental compatibility. New combinations of customer needs will result in changed
competitive differentiation characteristics. In this respect, it is important for car manufac-
turers to investigate socio-cultural drivers of the change in values, and to overcome the
discrepancy between attitudes and behavior among customers—the “saying-doing gap”.
Empathic approaches help companies to better understand their customers.

61
 In the past in the automotive industry, product characteristics represented the most
important differentiation in the market. In recent years, the concepts within the market
segments have become increasingly similar. A mere incremental improvement of product
properties is no longer sufficient to differentiate a product from its competitors.

An emotional benefit generated by a brand, on the other hand, represents a success factor.
BMW has taken advantage of this in order to get to know the needs of customers in detail,
and to translate them into products as part of its niche strategy. The use of ethnographic
field research has proven its worth in this respect (Stahl & Meyer-Höllings, 2013).

BMW has the following objectives with the use of empathic design (Stahl & Meyer-Höllings,
2013).

• User impulses: Testing what makes people want to use a product and whether they do
so in the anticipated ways.
• Interactions with the user context: Determining how the product fits into the user's
unique context.
• Unplanned product change by the user: Checking whether the user might change the
product in an unplanned way in order to optimize its use.
• Intangible product characteristics: Analyzing whether there are immaterial attributes
for the product, which have an influence on the overall perception.
• Unarticulated customer needs: Ensuring that any problems that may arise while using
the product are easily circumvented. This can happen unconsciously without the user’s
awareness.

In the mid-1990s, interviews were conducted with non-automotive companies and trend-
setters in the USA to understand the emergence of SUVs (sport utility vehicles). The results
were linked to a broad analysis of social trends. This revealed how strongly the change in
values influences the purchasing decisions of future customers. Relevant groups were
observed in a targeted manner, which highlighted the values and activities of the target
groups. This allowed a picture to be drawn of the impending changes in the customer
world.

Empathic Design at BMW

For the translation of the findings at BMW into a concept encompassing technology, mar-
ket, and design, an environment was chosen that corresponded to the living environment
of the customers—this was found in Malibu, California. A small team of engineers and
designers had access via IT to the resources at the company's headquarters in Munich. The
results of the concept phase were incorporated into the product development process.

It became apparent that for an efficient transfer of new know-how into the organization,
all departments should be involved as early as possible. In addition, regular interim
reports helped transfer knowledge gained. All team members should have the necessary
openness to question existing knowledge and to accept new perspectives. The decision-
makers should be involved in the empathic design at an early stage, otherwise the results
will not be taken into account.

62
Positive results were also shown from this approach at Rolls-Royce, which was taken over
by BMW in 1998. Since BMW had had no previous experience with Rolls-Royce customers,
empathic design was used.

For the development of the Rolls-Royce Phantom, the manufacture of the main parts was
moved to London, into a building owned by a former bank, during the analysis phase. This
turned out to be the right setting for a new Rolls-Royce, as Rolls-Royce carries the image of
an icon of British culture. In addition, qualified designers and engineers were identified
through an open internal process.

The team visited, among others, one of the oldest Rolls-Royce dealers to better under-
stand purchase decisions. Requirements were derived from this and were incorporated
into the ambience of traditional gentlemen's clubs in London. Here too, empathic design
proved to be a suitable approach.

SUMMARY
Innovation is about something new. In the entrepreneurial context, it is
mainly product/service and process innovations, but there is also talk of
market, structural, and cultural innovations.

Due to these dimensions, the concept of innovation involves:

• Intensity dimension (new in fact and new in degree)

• Actor dimension (new by whom?)
• Process dimension (where does it begin and end?)
• Normative dimension (new means successful)

In innovation management, the focus is on the design of innovation pro-

cesses. Here, a distinction is made between idea generation, acceptance,
and realization, whereby different models describe different sub-pha-
ses.

The stage-gate model provides for a change of work and decision pha-
ses. In the agile-stage-gate hybrid model, the requirements of digitiza-
tion were taken into account by incorporating feedback loops and the
interaction of the project team with users and customers. The division
into cloud and building block phases takes into account the different cir-
cumstances of the two phases.

If the opportunity arises, a protection strategy should be developed. A

distinction can be made between a legal and a factual protection strat-
egy, but the two protection strategies should complement each other.

63
 Since customer needs are increasingly becoming the focus of compa-
nies, ethnographic research and empathic design have proven to be
beneficial instruments. Ethnographic research assumes that “everything
is context”. Empathic design means a user-centered development of the
design of a new product. BMW has used this successfully on several
occasions.

64
 UNIT 4
LEGAL STRUCTURES IN INTERNATIONAL
COMPARISON

STUDY GOALS

On completion of this unit, you will have learned …

– which selection criteria founders use for their decision.

– which legal structures are available to founders in Germany.
– which legal structures are available to founders in the USA.
 4. LEGAL STRUCTURES IN INTERNATIONAL
COMPARISON

Case Study
Andrea, Jörg, Mark, and Nathalie developed a joint business idea during their MBA studies.
It is a platform with services for mechanical engineering companies. They are so enthusi-
astic about their idea that they are seriously considering founding a company together to
realize their business concept. The question now arises as to which legal framework would
be most favorable for them as a team of four. Since Andrea and her partner have been con-
sidering moving to the USA and the others are completely flexible regarding the location,
the group is looking into which legal structures are possible in the USA in order to register
the company headquarters there if necessary.

They research the following aspects:

• What are typical selection criteria that founders use to make their decision?
• Which legal entities are generally available to founders in Germany?
• What legal entities can founders in the USA choose from?

4.1 Germany
Overview

In Germany, there are numerous possible legal structures from which founders are, in
principle, free to choose. However, each form is associated with advantages and disadvan-
tages. The legal situation in the United States is similar. We will look at legal structures in
these two jurisdictions.

Selection criteria

Founders use various criteria in order to choose the legal structure that is most favorable
for them—or at least appears to be:

• Legal structure that is customary in the trade

• Liability, risk distribution, creditworthiness
• Capital investment and asset protection
• Management, decision making authority (corporate governance)
• Formation costs and current expenses
• Tax burden
• Legal requirements, trade conditions
• Business volume (Plümer & Niemann, 2016)

66
Overview of legal structures

From the point of view of the founders, easy-to-establish, cost-effective legal formations
are attractive. However, it is highly advisable to consult with an expert on the pros and
cons. Boundaries, conditions, and options are determined by the legal system in question,
and therefore vary greatly country by county. Nevertheless, legal structures often are simi-
lar even across legal systems. Below we present an overview of the situation in Germany.
Similar legal structures exist in other legal contexts, which is why it is imperative, espe-
cially in today’s much globalized and often cross-national economy, for the entrepreneur
to know their specific legal situation. To come: a brief look at the legal situation in the Uni-
ted States.

Looking at the situation in Germany we will first have a look at the central legal term “mer-
chant” (Kaufmann), which will then will be explained and distinguished from another
important legal term, “freelancer” (Freiberufler). Then, the partnerships and corporations
are explained and some special structures such as GmbH & Co. KG and “silent partner-
ship” (stille Gesellschaft) are briefly described.

In principle, the legal forms of a club or association (Verein), a registered cooperative (ein-
getragene Genossenschaft), or a limited partnership based on shares (Kommanditgesell-
schaft auf Aktien or KGaA) are also available for entrepreneurial activities. However, these
are rare exceptions, which will not be discussed further below (Pott & Pott, 2015; Plümer &
Niemann, 2016).

Figure 20: Classification of Legal Structures

Source: Plümer & Niemann (2016).

67
 The Merchant (Kaufmann)

Legal relations between economic operators, whether individuals or companies, are gov-
erned by civil law. This is often referred to as “private law” or “civil law” and is distin-
guished from “public law”, which deals with the activities of state authorities. The basic
provisions of civil law can be found in the Civil Code (Bürgerliches Gesetzbuch or BGB). It
regulates, for example, the formation and termination of contracts. These general rules
apply to all participants in economic life within the scope of the BGB.

The German Commercial Code (Handelsgesetzbuch or HGB) now sets out special rules for
the majority of entrepreneurs. These rules are always applied if at least one of the persons
Merchant (Kaufmann) involved in the business has the status of a merchant (Kaufmann). This is the central term
A type of businessperson of the German Commerical Code. Section 1 of the Code states that “A merchant within the
who operates a trading
business is a merchant. meaning of this Code is a person who carries on a commercial business”.

People as well as legal entities may carry on commercial businesses. For example, an indi-
vidual is regarded as a sole proprietor (Einzelkaufmann §§ 1 and 2 HGB), but so are corpo-
rations and limited liability companies according to the German Commercial Code (§ 6
HGB). Commercial law is often referred to as the “special private law” of merchants. It thus
complements and partially replaces the general rules of the BGB that apply to all.

What does this mean for the groups of entrepreneurs and businesspeople who are of par-
ticular interest to us? The HGB only applies to those entrepreneurs who are also (found-
ing) owners—not to those who work as employees in other companies. Only the former
carry on their own commercial business, while the latter are employed by the commercial
business of another (individual or company). At the same time, however, the Code only
applies to those entrepreneurs who are engaged in a commercial business—and therefore
not, as we shall see, to self-employed lawyers, doctors, or farmers (all of whom, by law, are
deemed not to pursue commercial business interests).

Sole Proprietorships (Einzelunternehmen), Partnerships

(Personengesellschaften), and Corporations (Körperschaften)

Sole proprietorship (Einzelunternehmen): Small business owner (Kleingewerbetrei-

bender), Sole proprietor (Einzelkaufmann), Freelancer (Freiberufler)

One speaks of a sole proprietor if the owner is simultaneously in charge of the company
and personally liable with their assets for the company's liabilities (see Fueglistaller et al.,
2016, for an excellent overview of the comparable legal situations in Switzerland, Austria,
and Germany). Most companies in Germany are run as sole proprietorships.

Trade Commercial companies, as we saw, operate a trade. In principle, this is the case for any
In principle, any entrepre- self-reliant entrepreneurial activity, with the exception of freelance work (Freiberufler) and
neurial activity carried
out on one's own respon- the activities of farmers and foresters.
sibility, except for free-
lance work or activities of However, not everyone that pursues a commercial activity is a merchant in the eyes of the
farmers and foresters, is a
trade. law. Consider the case of small business owners (Kleingewerbetreibender)—here the law
assumes that their business is easily manageable and that their activities are uncomplica-

68
ted. The Code therefore clarifies, in Section 1, the following: “A commercial business is any
commercial enterprise unless, by reason of its nature or size, the enterprise does not
require a commercially organized business operation.”

Such an individual is therefore not considered a merchant under the commercial law
Code. As a welcome consequence, they are neither required to conduct double-entry
bookkeeping, nor to prepare financial reports in the form of a balance sheet. Likewise, no
inventory is taken, no annual accruals are made, and no annual accounts are published
for those who are commercially active only as small business owners (Kleingewerbetrei-
bende).

(Conversely, all of these requirements are imposed on the individual legal entity who is
deemed, in the eyes of the law, to be a merchant or Kaufmann).

Since they are not a merchant, the small business owner (Kleingewerbetreibender) is not
allowed to run a company, but must appear with their full name (first and last name) pub- Company
licly for the customers. However, they may voluntarily register in the commercial register This is the name under
which a merchant con-
(Handelsregister) and acquire the status of a merchant (Plümer & Niemann, 2016). ducts his or her business.

In the development and growth of a company, the time usually comes when the nature
and scope of business activity has reached a certain level when the sole proprietor must
be entered in the commercial register. Once the commercial enterprise does require, by
reason of its nature or size, a commercially organized business operation, the regulations
of the Code become applicable.

(§ 1 HGB): When exactly that point is reached and entry in the commercial register
becomes legally required is subject to much scholarly debate among German lawyers.

The following points of reference exist (Plümer & Niemann, 2016):

• the nature of the business and its scope

• the number of employees, where more than five employees are usually assumed
• the business assets, this from about 100,000 euros
• the loan amount, from about 50,000 euros
• any existing sites or branches
• the turnover, depending on the type of activity

For the annual turnover, the following orders of magnitude can be taken as a good basis
for the classification: production, 300,000 euros; wholesale, 300,000 euros; retail, 250,000
euros; services, 175,000 euros; sales agent commission, 120,000 euros; restaurants,
300,000 euros; and hotels, 250,000 euros (Plümer & Niemann 2016).

A sole proprietor has the possibility to grant power of attorney and to freely agree on the
place of jurisdiction. They are free to choose a name that is effective in advertising and
can choose between personal, factual, or fantasy names. They must use the addition reg-
istered merchant (eingetragener Kaufmann) or the abbreviation e. K., e. Kfm., or Kffr. In
this way, it is clear that an entry has been made in the commercial register.

69
 Certain occupational groups, as has been pointed out, do not carry on commercial activi-
ties according to German law, namely the German Civil Code (BGB) in accordance with
Section 18 (1) No. 1 of the German Income Tax Act (EStG). Rather, they pursue freelancing
Freelancer (freiberufliche Tätigkeit) and thus constitute the category of freelancers. Freelancers are
The EStG (Income Tax Act) exempt from trade tax. According to the EStG, a prerequisite is that they pursue independ-
regulates who is counted
among the so-called cata- ently exercised scientific, artistic, literary, teaching, or educational activities. This typically
logue professions and applies to doctors, architects, engineers, lawyers, artists, and similar professions such as
thus among the freelanc- consultants. Freelance status is often combined with an academic degree. A person’s own
ers.
intellectual achievement in the activities is taken as the basis for classification. In the case
of repetitive activities or standardized products, e.g., of financial or credit consultants, the
freelancer status is not applicable (Plümer & Niemann, 2016). If there is any uncertainty as
to whether freelance status exists, the responsible tax office will provide information.

Partnerships: GbR, OHG, KG, partnership company

A distinction must be made between partnerships and sole proprietorships. If not only one
person, but several persons work together to achieve a common purpose, a partnership is
formed. A distinction is made between different types.

The partnership under civil law (Gesellschaft bürgerlichen Rechts, GbR, also called BGB-
BGB Society Society), is a partnership that carries out a commercial activity which stays below the
In § 705ff. BGB the GbR is threshold of making it a merchant in the eyes of the law. All partners are entitled to its
regulated.
assets, if there are any. Such assets can either result from the contributions of the part-
ners, or have been acquired by the GbR in the course of its activities. In this respect, it is
General manual bound by the entirety of the partners (Plümer & Niemann, 2016; Pott & Pott, 2015).
A shareholder alone can-
not freely dispose of his
share of the assets or of For the establishment of a GbR, the pursuit of a common purpose by at least two persons
the individual objects. is sufficient. This is concluded rather informally, which is not always clear to the parties
involved (Pott & Pott, 2015).

All partners have the right to manage the company and must agree to all transactions.
However, the partners can determine the rules that govern the GbR’s roles and responsi-
bilities, including the authority to lead the company, in the articles of association. Even
though these may be concluded verbally, it is highly advisable to conclude a written con-
tract.

It is important for a GbR to be aware that all partners are liable, without limitation, with all
their assets, even if they themselves were not causally involved in a liability case and it
was caused by one of the other partners. A GbR automatically becomes an OHG as soon as
the level of its commercial activity crosses the threshold which defines a merchant under
the law.

A general partnership (Offene Handelsgesellschaft or OHG) is a partnership in which the

partners jointly operate a commercial business under a joint company name (§ 105 (1)
HGB). In this respect, the OHG is a form of GbR—namely one to which the provisions of the
HGB apply. Unless the HGB code states otherwise, the general rules governing the GbR
also apply to the OHG (§ 105 Paragraph 3 HGB). All partners have unlimited personal and
direct liability for the acts or omissions of the OHG.

70
Just like the OHG is a form of GbR, so is the limited partnership (Kommanditgesellschaft or
KG) a form of OHG. It is regulated in sections 161 to 177 of the German Commercial Code
(HGB). In the case of a KG, liability is limited to the capital contribution of one (or more)
partners with the other partners being limited in their liability. There are thus two types of
partners: the personally and unrestricted liable general partners, and the limited part- General Partners
ners who are only liable with the capital that they have contributed. A partnership agree- These partners are per-
sonally and unlimitedly
ment is required. In this contract, the general partners and limited partners are named, liable with their assets.
and the contributions are also stated there. In order for the newly founded OHG to be able Limited Partners
to go into business with third parties it requires an entry in the commercial register (Han- The liability of the limited
partner is limited to his or
delsregister). her contribution of assets.
This is entered in the
The partnership society (Partnerschaftsgesellschaft or PartG) is regulated in § 1 PartGG commercial register as a
limited partnership con-
and is created (only) when several members of the freelancing professions join together to tribution with their
exercise their profession together. A PartG does not exercise a commercial trade. All of its amount.
assets are pooled together. The establishment takes place in the internal relationship by PartGG
partnership contract, which always requires a written agreement, and by an entry into the This is the law on partner-
ship companies of mem-
partnership register in the case of an external relationship. For PartG, all partners are lia- bers of the liberal profes-
ble without limitation, directly and jointly. However, liability for professional mistakes is sions.
limited to the partner who gave rise to the liability claim.

The management of the company is similar to that of the OHG, except that individual part-
ners cannot be excluded from the management of the entire company, but only for indi-
vidual transactions (Plümer & Niemann, 2016; Pott & Pott, 2015).

Corporations: GmbH, public limited company (Aktiengesellschaft or AG), UG, limited

liability (Haftungsbeschränkung), Ltd., SE

Corporations are to be distinguished from sole proprietorships and partnerships. They are
independent legal entities with their own legal capacity and fixed nominal capital.

For the limited liability company (Gesellschaft mit beschränkter Haftung or GmbH), there is
a separate law, the GmbHG. According to GmbHG, such companies can be founded for any
legal purpose. The biggest advantage of the GmbH for the entrepreneur is, quite obvi-
ously, that their liability is limited to the company’s assets (Pott & Pott, 2015).

The GmbH is a commercial company with its own legal personality according to the Ger-
man Commercial Code (HGB) and can have one or more members. The GmbH itself is a
merchant in the legal sense, and the company’s assets belong to the GmbH as legal entity.
The GmbH consists of the managing director and the general assembly of its members; it
may also have a supervisory board. The general assembly of members exercises ultimate
control over the GmbH. The competences of the members are regulated in a separate
agreement. The managing director(s) are always natural persons who manage the busi-
ness internally and externally, and they are appointed by the members. In addition, a
supervisory board can be formed if the company is subject to co-determination and Works
Constitution Act (Plümer & Niemann, 2016).

71
 The entrepreneurial company (Unternehmergesellschaft or UG) is a limited liability com-
pany and does not represent a legal form of its own, but is a variety of the GmbH, namely
one with lower capital requirements; however, it also has a low level of liability which is
made clear to business partners by noting the limited liability. This is why the word haf-
tungsbeschränkt, meaning “limited in liability”, is added to the company’s name. All that is
Share Capital required to form this establishment is the contribution of capital of at least one euro. Ini-
This is the contribution or tial registration with the local court currently costs 150 euros, and notary fees are charged
nominal capital of a
GmbH, which is the sum according to the notary’s fee range (roughly 150 to 200 euros).
of the nominal amounts
of all shares. In subsequent years, a quarter of the annual net profit must then be contributed until at
least 25,000 euros are reached. From this point on, the UG can be converted into a GmbH if
desired. For this purpose, an auditor must confirm the correctness of the last balance
sheets, for which quite considerable costs for audit, notary, etc. are incurred. The danger
with a UG is that it can quickly go into debt due to its low share capital. In this respect, it is
important to watch out for a possible delay in filing for insolvency (Plümer & Niemann,
2016; Pott & Pott, 2015).

The corporation based on joint stock (Aktiengesellschaft or AG) is another type of corpora-
tion. The relevant regulations can be found in the German Stock Corporation Act. The AG
is a commercial company with its own legal personality according to § 3 para. 1 of said Act
(Aktiengesetz), and it is a merchant according to the German Commercial Code (HGB).
According to § 7 of the German Stock Corporation Act, the share capital amounts to at
Nominal value/No-par least 50,000 euros and the shares can be issued as nominal value or no-par value shares.
share The partners participate in the share capital of the company with their capital contribu-
A par value share has a
fixed amount, whereas a tions and are not personally liable. The company assets belong exclusively to the corpora-
no-par value share has a tion.
share in the share capital.

The three executive bodies of the AG are the management board, the supervisory board
and the general meeting. The management board manages the business and consists of
one or more persons. The supervisory board is the controlling body. Since it appoints,
monitors, and recalls the management board, no members of the management board or
senior executives may be elected to the supervisory board. This is the reason why the Ger-
man AG has what is called a “dualistic” model of corporate governance, in contrast to
other jurisdictions, such as the one of the United States, where a person may be a member
of both boards simultaneously. The annual general meeting is composed of the sharehold-
ers. This is where the supervisory board members are elected, unless they are required to
be elected under the Co-Determination Act or the Works Constitution Act (Pott & Pott,
2015; Plümer & Niemann, 2016). As a consequence, German AGs are famously governed
only up to 50% by shareholder representatives, with the other half representing the corpo-
ration’s employees. This is one of the ways in which the German economy does not pursue
a model of shareholder value but of stakeholder value.

Limited The English limited (Ltd.) is a corporation with limited liability on a share basis. There is
This term stands for “Pri- no minimum nominal capital requirement. It is founded quickly, with little bureaucracy
vate Company Limited by
Shares”. and expense in England and registered in the English commercial register. Based on the
memorandum of association, the declaration of incorporation, the application for regis-
tration, and a declaration by the directors, approval is granted in the form of the “Certifi-
cate of Incorporation”. A notarial authentication is not required. While it is possible to

72
carry out commercial activity in Germany by way of an Ltd., such activity still requires the
aforementioned registration within the commercial register as is necessary for all com-
mercial activities carried out by a merchant.

In addition to the shareholders and the board of directors, a company secretary is also
appointed for the limited company. The company secretary is responsible for making the
annual returns and other notifications to the UK Commercial Register. The address of the
company is the registered office; the company must be located in England, Wales, or Scot-
land.

For most Ltds. there is an obligation for the balance sheets to be checked by auditors
(accountants). There is a publication obligation for this. For a certain time, the Ltd. was
fashionable for its simplicity, but became largely obsolete again due to the possibility of
the UG in Germany (Plümer & Niemann, 2016; Pott & Pott, 2015).

With the Societas Europaea (SE), the EU has created an EU-wide legal entity which is an
alternative to the national company forms. A share capital of 120,000 euros is required to
establish an SE, which is then entered in the register of the relevant EU member state. As
with the AG, the SE has a limitation of liability to the capital of the SE. The management
can either be managed by the executive board and the supervisory board (dualistic model
as is customary in Germany) or solely by the administrative board (board of directors,
monistic model) (Pott & Pott, 2015).

Special cases: GmbH & Co. KG, silent partnership

The special form of a GmbH & Co. KG is created by forming a KG in which the only (fully
liable) general partner consists of a GmbH. Partnership and corporation are thus mixed
here. A silent partnership is created when one partner participates in a commercial enter-
prise as a silent partner only through a capital contribution. They participate in the profits
but do not appear externally (Plümer & Niemann, 2016).

4.2 USA
In the USA, too, there are several legal structures to choose from, with both unlimited and
limited liability possibilities. A minimum capital, such as in the German GmbH, does not
exist in most American states.

Legal Structures With Unlimited Liability: Sole Proprietorship, Partnerships

In the USA, company law is a law that is regulated differently in the individual fifty states.
There are model laws, but the laws of the individual states sometimes differ considerably
(Oehme & Findeis, 2019). In this respect, only a few generally applicable aspects are
described below.

73
 DBA To establish a company in the USA, a Certificate of Assumed Name (also DBA) is required,
The acronym DBA stands unless the company chooses its own name for the business activity. Before starting busi-
for “doing business as”.
ness, the form must be filled out with the desired business name. After checking that the
name does not already exist, the business can then be started (Barringer & Ireland, 2012;
Pecher, 2020).

Sole proprietorship

Sole proprietorship is the simplest form of business activity and does not represent a cor-
porate form. The business activity is carried out by a single person as sole proprietor who
has complete control over the activity, but also has personal and unlimited liability
(Oehme & Findeis, 2019).

Partnerships

Partnerships are formed when several people jointly found a company with the aim of
making a profit. A contract (partnership agreement) is required, but it does not have to
have a specific form and is also valid and binding in verbal form. The agreement contains
the name, purpose, distribution of profits and losses, name and address of the person
authorized to receive services, as well as the rights and obligations of the partners (such
as participation in management and the amount and type of their contributions). The
name is freely selectable (Oehme & Findeis, 2019).

Two different types can be selected:

• The General Partnership (GP) is similar to the German GbR or OHG. Several persons run
a company together, with all partners having unlimited personal liability both for the
mistakes of the other partners and for those of employees. There are no special require-
ments for the formation of a company, such as a minimum capital contribution, in the
case of general partnerships (Oehme & Findeis, 2019; Roedl & Partner, 2020; Barringer &
Ireland, 2012).
• In the case of the limited partnership, the situation is comparable to that of the German
KG. The limited partner is not liable with his personal assets, but only with his shares,
while the general partner has unlimited liability with his assets. For this purpose, a
memorandum of association must be prepared and submitted to the competent state
authority (Oehme & Findeis, 2019; Roedl & Partner, 2020; Barringer & Ireland, 2012).

Legal Structures With Limited Liability: Corporation, Limited Liability

Company, Limited Partnership

In the USA, there are not different corporations as in Germany, but only gradations of the
basic form of a corporation (Oehme & Findeis, 2019).

In the USA, the founding documents must be submitted to the respective Secretary of
State. This confirms the registration by a certificate of incorporation. However, this does
not constitute a kind of entry in the commercial register, but only the confirmation of the

74
registration (Oehme & Findeis, 2019). The presence of the shareholders or managing direc-
tors is not required for registration. It is advisable to engage a lawyer admitted to practice
in the USA for the procedure.

It is important to note that, in the USA, product liability is not linked to company liability,
so a limitation of company liability does not mean a limitation of liability for damages to
customers due to product defects or similar (Roedl & Partner, 2020).

Corporation

The US Corporation (Corp., Inc., Ltd.) can be compared to the German GmbH or AG, but
without their minimum capital contribution. There is normally no personal liability on the
part of the shareholders. However, this can be different if the corporation has no assets of
its own or very insufficient capital (Oehme & Findeis, 2019). A major disadvantage of the
corporation is the double taxation of its profits, as both the legal entity and the owners are
taxed (Roedl & Partner, 2020).

There are three bodies: the shareholders, the board of directors (elected by the sharehold-
ers), and the executive officers (appointed by the board of directors) (Oehme & Findeis,
2019).

A special feature is the S-Corporation, which eliminates double taxation. Only the share-
holders are taxed, but not the legal entity. Restrictions are that the balance sheet year
must be the calendar year, the number of shareholders is limited, and only natural per-
sons with American citizenship or permanent residence permits can be shareholders
(Oehme & Findeis, 2019).

Limited liability company

The limited liability company (LLC, LC) is similar to the German GmbH; it combines corpo-
ration and partnership. The partners are free from personal liability. The company is man-
aged by the shareholders or by an external manager.

There is an option to tax the LLC either as a corporation or as a partnership. In most US

states, one-person LLCs can also be formed. For LLCs, articles of organization and an oper-
ating agreement must be drawn up. The articles of organization must contain the name,
the corporate purpose, the registered agent, and the registered office (Roedl & Partner,
2020; Oehme & Findeis, 2019).

Limited liability partnership

The limited liability partnership (LLP) is similar in structure to the German partnership
company. In American law or tax consulting firms, architectural firms, etc., the partners
are personally liable, even if they are limited partners. However, if an LLP exists, each part-
ner is only liable for their own activities (Roedl & Partner, 2020).

75
 SUMMARY
In Germany, founders can choose the legal form of a sole proprietorship,
partnership, or corporation.

One person carrying out commercial activity is called Einzelgewerbetrei-

bender. If several persons join together, they constitute a partnership.
GbR, OHG, and KG are possible variants. If a corporation is founded, then
GmbH, AG, UG (haftungsbeschränkt), Ltd., and SE are typical. The GmbH
& Co KG represents a hybrid form.

In the USA, similar legal forms exist in the form of sole proprietorship,
partnership, corporation, and limited liability, although the minimum
capital requirement customary in Germany does not exist there.

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 UNIT 5
THE FINANCING OF ENTREPRENEURIAL
ACTIVITY I: SOURCES OF FUNDING

STUDY GOALS

On completion of this unit, you will have learned …

– what is meant by incubators and accelerators.

– what is known as crowdfunding.
– what distinguishes business angels.
– what is meant by private equity and corporate venture capital.
– what public funding is available for start-ups.
 5. THE FINANCING OF ENTREPRENEURIAL
ACTIVITY I: SOURCES OF FUNDING

Case Study
Andrea, Jörg, Mark, and Nathalie developed a business idea during their studies. As they
already have sufficient professional experience, they now want to realize their collective
idea to offer a platform with services for mechanical engineering companies. Some equity
capital can make each of them liquid, but when they estimate the costs for the entire
development of the platform, they realize that the project far exceeds their financial possi-
bilities. They discuss what support options are available for start-ups and which sources of
financing are particularly suitable for such technology-driven business ideas.

To this end, they are researching the following aspects:

• What is meant by incubators and accelerators?

• What exactly is crowdfunding?
• What makes someone a business angel?
• How do private equity and corporate venture capital differ?
• What forms of public support for start-ups exist in Germany?

5.1 Incubators, Accelerators, and

Crowdfunding
Companies need different kinds of support at different stages of their development. This
concerns the receipt of outside capital, but also various other services. Special facilities
and financial assistance are available for this purpose.

Different Stages of Company Development

The need for support begins in the foundation phase (sometimes also called “seed
stage”). This covers the period from the idea to market entry. Here, there is a desire for
support services in the form of consulting and coaching, access to networks, reduced
rental space, and much more, including start-up capital.

Further capital is required in the start-up and growth stage for the expansion of business
activities. The start-up phase continues through the period from the first sales to the
break-even point, then the growth phase begins. These phases are also often associated
with a need for consulting, which can be seen, for example, with assistance in adapting
internal structures and management systems in the event of rapid growth, or external sup-
port in accessing new markets.

78
Finally, there is a need for support among established companies (maturity stage). After
growth, business activity stabilizes once the company is established on the market. Next
may come the need for capital for investment activities. Sometimes it is also necessary,
e.g., in times of crisis, to bridge existing liquidity bottlenecks by borrowing capital.

The following forms of financing are typical for the different phases of a company (Ale-
many & Andreoli, 2018):

• In the beginning, the capital is mainly contributed by the founder, as well as by their
family and friends. In addition, there is various external assistance from institutions
offering advice, networking, etc. Support services from public programs and invest-
ments from private persons as well as companies are also offered.
• In the start-up phase, the importance of the founder and the family decreases, and the
relative importance of public and private programs increases. Corporate venture capital
is also already being awarded in this phase.
• The growth phase is dominated by entrepreneurial investments; however, there are
often still public programs in place. Private investments are already subordinate here.
• In the case of established companies, bank loans and equity investments are the first
priority. Rarely is venture capital granted.

Incubators

Incubators “institutions that set up and support companies on the path to setting up a
business” (Gründerszene, 2019a). They provide consulting and coaching services and
make rental space, office space, and infrastructure available; they often provide support in
the form of service (e.g., help in drawing up the business plan).

Start-ups originating from incubators are attributed a survival rate up to 85% higher than
the average start-up. They are usually financed in the form of economic development
measures; in this respect, they are financed by the taxpayer, associations, and the private
sector. A return flow occurs indirectly, e.g., through later tax payments (Gründerszene,
2019a).

Accelerators

An accelerator also supports founders in their plans, but this is an institution “which Accelerators
helps start-ups to develop rapidly within a certain period of time through coaching” (Grün- With their help, the devel-
opment of start-ups
derszene, 2019b). should be “accelerated”.

The focus is, therefore, on coaching. This can be done through start-up boot camps, Start-up boot camp
where knowledge and resources are made available over a period of a few months. Sup- This is a time-limited pro-
gram to support start-ups
port can be provided here in the form of jobs, networks, strategic support, and coaching. in developing a market-
Participation in the boot camp often requires an application from the founder, and usually ready offer.
the selection of a few participants is made. At the end of the boot camp, the results of the
market-ready offers are partly presented to potential investors during demo days (Grün-
derszene, 2019b).

79
 Crowdfunding

A completely different form of support is offered by crowdfunding. “The special thing

about crowdfunding is that a large number of people support a project financially and
thus make it possible” (Crowdfunding.de, 2020). For crowdfunding, people turn to the
public with the aim of finding as many interested parties as possible who will make a
financial contribution. Investors support a project directly and only on the basis of their
personal conviction.

The main advantage of crowdfunding is that it is a fast and uncomplicated way to get
money. A disadvantage for investors is that they have to expect a total loss of their money
if the project is not successful.

There are different forms of crowdfunding with different compensations for investor
engagement (Crowdfunding.de, 2020).

• Classic crowdfunding (pre-sales crowdfunding or reward-based crowdfunding): With

this type of crowdfunding, no financial consideration is paid, but there is a small “thank
you” (e.g., a prototype or sales sample).
• Donation-based crowdfunding: No consideration is given in return. These are, for exam-
ple, social or charitable projects where people only get involved in order to do some-
thing good.
• Crowdinvesting (yield-based crowdfunding or equity-based crowdfunding): In this var-
iant, individuals invest in a project in an equity-like manner. They receive a return for
their investment, which can be fixed or performance-based. This variant is typical for
start-ups.
• Crowdlending (crowd loan or P2P loan (peer-to-peer) and lending-based crowdfund-
ing): In this case, the persons grant a loan, i.e., they make debt capital available and the
interest rate is fixed in advance. This variant is also typical for founders.

Support services in the development phases

The three forms of support described above can be allocated to the different phases of
business development as follows:

• The services of the incubators are geared toward the period up to market launch.
• The services offered by the accelerators range from the foundation to the development
phase.
• Crowdfunding typically takes place from the start-up phase through the development
phase and ends when the company enters the growth phase.

80
Figure 21: Support Services in Early Financing Phases

Source: Alemany & Andreoli (2018).

5.2 Business Angels

Business angels are private individuals who participate with their own capital in start-up Business angels
projects of people they often did not know before. They usually offer the founders addi- These are active private
investors who provide
tional support by passing on their own professional experience and integrating the start- additional support with
ups into their network (Egeln & Gottschalk, 2014). Business angel engagements express their investment.
themselves in services such as the provision of infrastructure, and the assumption of an
advisory or supervisory board function up to the collaboration in the company. This activ-
ity distinguishes them from passive private investors. These are usually found in family Passive private
or among friends and have more of an idealistic motivation to support the founder. investors
These are private invest-
ors who participate in a
The engagement of a business angel takes place over a fixed period of time and is contrac- project in the form of
tually defined in advance. Business angels expect an above-average return for their com- open or silent participa-
tion.
mitment, so the motivation is financial. Business angels are particularly helpful for found-
ers with very innovative ideas and often rather low equity capital, especially in the early
phase up to the growth phase, as there is a considerable risk involved in these projects
(BAND, 2020a).

In Germany, in the high-tech sectors of manufacturing and services, around 5% of the

young companies founded in the years between 2009 to 2012 had private investors, and
4% of these companies had the involvement of a business angel.

Around 14% of the private investors had already sold their stake in 2013, usually to the
founders themselves. The commitments of the business angels averaged 294,000 euro for
industrial high-tech companies; 107,000 euro for technology-oriented service industries;
113,000 euro for non-high-tech manufacturing industries; and 40,000 euro for business-
related services (Egeln & Gottschalk, 2014).

81
 Typical for the business angel scene are multiple small investments. This is in contrast to
investors who often invest very large amounts but are only involved in very few projects. It
can be assumed that between 9,500 and 12,400 private investors were active in 2013, the
majority of them as business angels (Egeln & Gottschalk, 2014).

Open participations, but also silent participations and loans are quite common (29%/
Mezzanine capital 24%). Mezzanine capital is rarely used (4%).
This is a hybrid capital
financing, i.e., it contains
characteristics of both For passive investors, the commitment usually takes the form of a loan (54%). However,
equity and debt financing there are also silent partnerships and open participations (30%/15%). Mezzanine financ-
(Breuer, 2018). ing is an absolute exception at 1% (Breuer, 2018).

This is the typical procedure when a business angel wants to get involved in a start-up
(Mason & Botelho, 2018; BAND, 2020b):

• The first contact is usually established via appropriate communities (deal origination).
Elevator pitch • Next, the founder is given the opportunity for a presentation or an elevator pitch to
This is a method in which potential business angels (initial screening).
it is necessary to sell a
business idea convinc- • If the first impression was convincing, the founders can then usually submit their busi-
ingly in a very short time ness plan to one or more potential business angels. They will then examine the plan
(2-3 minutes). critically and in detail (due diligence).
• If the result of the examination is positive, the founder and business angel negotiate a
contract. If there is agreement on the modalities, the investment contract is signed
(negotiation and contracting). This is usually done with only one business angel.
• The business angel then provides the agreed support services such as consulting, net-
work integration, infrastructure, cooperation, and much more (post-investment sup-
port).
• At the contractually agreed upon point in time, the business angel will leave the com-
pany (exit).

Figure 22: Phases in the Investment Process of Business Angels

Source: Mason & Botelho (2018).

In Europe, business angel networks can be found in many countries, whose members are
regularly involved in projects. There are considerable differences in the success rate
between the countries. While in France, for example, around 65% of new business financ-
ing in 2010 resulted from the submission of a business plan, the rate in Germany was only
4%.

82
The involvement of business angels in the EU is mostly in the start-up and development
phase. In some countries (Germany, Poland, and Spain) there are engagements in the
growth phase, and in a few countries (Germany, Poland, and Spain) engagements are also
made in the pre-startup phase.

5.3 Private Equity and Venture Capital

Private Equity

Private equity is the purchase and sale of shares in unlisted companies (Pott & Pott, 2015).
A private equity company analyzes established companies and then enters into an invest-
ment if it expects the value of its shares to increase over the term of the investment. The
shares give the private equity company a say in the company’s affairs. This is usually enac-
ted in such a way that the company is given advice, but the investing entity is not involved
in the day-to-day business.

There are various exit possibilities (exit strategies) for the private equity company (Pott &
Pott, 2015).

• IPO (Initial Public Offering): In the event of an IPO, the private equity company with-
draws from the company.
• Trade sale: The shares are sold to a strategic investor. This is typically a company that
wants to expand.
• Secondary purchase: The shares are sold to another financial investor.
• Buy-back: The shares are sold to the founders or owners of the company.
• Liquidation: The company is dissolved because it was not economically successful. In
this case, the private equity company does not get back the investment and takes a loss.

Venture Capital (VC)

Venture capital companies offer a form of private equity that is directed at entrepreneurial
ventures which are characterized by (actual or potential) high growth opportunities. Ven-
ture capital firms therefore can represent a source of financing for both young companies
(in the early stages) and established companies (in the expansion stages). Venture capital-
ists are often willing to take higher risks than other investors in exchange for the promise
of participating in higher than usual growth.

The decision process as to whether a VC company wants to get involved in a start-up usu-
ally takes about six months. The expected return on investment for VC companies is typi-
cally 20% or higher (Müller et al., 2016). VC companies are primarily interested in complex
and technically innovative companies, which may operate in specific industries. Such
companies often promise above-average growth potential.

VC companies consult experts for their selection and decision-making. The decision is
then usually based on a business plan, but other criteria such as location, corporate cul-
ture, or personnel can also contribute to the decision (Pott & Pott, 2015). VC companies

83
 generate their returns from the subsequent sale of shares at the highest possible price. To
this extent, they also offer consulting services to secure their goal of achieving the greatest
possible increase in the value of the company. On the basis of their shares, VC companies
are granted participation, decision-making, and control rights, whereby the founders
remain majority shareholders (Pott & Pott, 2015).

Corporate venture capital (CVC)

Corporate venture capital is usually subsidiaries of corporation. It is these corporations

that provide the capital which the CVC invests. CVC donors also seek to invest in innova-
tive start-ups with very good growth opportunities. CVC can be obtained directly or
through investment funds by the entrepreneur. CVCs have two different approaches: They
may invest internally in company departments or projects, and they may invest externally
in other companies.

The strategic objectives of CVC donors are different from those of VC companies. CVC
donors act as the innovation management of the company, as access to start-ups provides
them with additional expertise in new technologies and can thus achieve competitive
advantages. In addition, they expand their business areas or product range through com-
plementary products, thereby increasing demand and enabling them to expand their mar-
ket share.

From the point of view of the start-ups, the advantages are not only in the preservation of
capital, but also in other support services such as assistance with management tasks, or
the possibility of expanding market opportunities. They also benefit from the image of the
CVC donor (Pott & Pott, 2015).

5.4 Public Support for Start-Ups

In many countries around the world, there are special public subsidies for start-ups. The
type of support is always tailored to the local conditions. Due to the large number of coun-
try variants, it is not possible to provide a complete overview here. Basic possibilities are
presented, the situation in Germany is outlined, and three further variants are briefly
described as examples.

Basic Possibilities

Founders can benefit from public funding programs in several ways:

• They become part of a high-ranking network of investors.

• They receive financial support from the public sector, either directly or via professional
investors.
• They use public support measures as excellent sources of information (Laso, 2018).

Support instruments for start-ups are typically found in the form of investment grants,
loans, guarantees, subordinated loans, and equity investments.

84
Support for Start-Ups in Germany

In Germany, the prerequisites for receiving public funding from the federal and state gov-
ernments are usually proven technical and commercial qualifications and a convincing
business plan, which must be submitted with the application. The project must not have
been started at the time of application. In most cases, support is provided for investments
in machinery and equipment, vehicles, land, factories, and intangible investments. Some
funding programs may also include operating funds (Pott & Pott, 2015).

The funding programs change slightly from time to time, though these are currently found
in Germany (Pott & Pott, 2015):

• Special investment grants: These are, for example, from the federal employment agency
for recipients of unemployment benefits in the case of a start-up resulting from unem-
ployment. The EXIST program provides scholarships for university founders. EXIST program
• Start-up loans from the public sector: These usually run for long periods at a fixed inter- This program of the Fed-
eral Ministry of Economic
est rate; redemption-free years are also possible. The house bank principle (Hausbank- Affairs and Energy sup-
Prinzips) applies, because these banks process the application for subsidies. It is also ports start-ups from the
relieved by the development institute, as a release from liability can be applied for in academic community.

the absence of securities. This reduces the credit risk of the house bank, so that it will
be more willing to grant the loan. This makes it easier for founders to access funding.
• Loans: These can be secured by guarantees of the federal states. Deficiency guarantees
of up to 1 million euros are possible, so that even companies without collateral can
obtain loans. Overdraft facilities and leasing contracts can also be guaranteed up to
80%.
• Public development banks: These provide mezzanine capital to improve the creditwor-
thiness of companies. This is particularly beneficial for capital-intensive projects.
• Public-sector holdings: If there is a greater need for capital, public-sector holdings in
companies can be made. For this purpose, the federal states have set up their own
medium-sized holding companies.
• Consultations: These are supported, e.g., by Founder Coaching (Gründercoaching) Ger-
many, a start-up coaching organization. The European Social Fund also supports work-
shops and information events for founders in order to reduce failure due to information
deficits. Founders and established companies receive grants for technology, foreign
trade, cooperation, and quality management consultancy services from the Federal
Government's consultancy support. The Federal Office of Economics and Export Control
(BAFA) is responsible for this.
• Technology companies: These are supported by the Federal Ministry of Economic Affairs
and Energy, e.g., through technology promotion and innovation consulting. There is
also support for innovative start-ups, technology transfer and research infrastructure,
as well as cooperation with research institutions. The High-Tech Founder Fund (Grün-
derfonds) is a venture capital fund set up for technology-intensive investments with
high capital requirements and high risks.

85
 Support for Start-Ups in the EU

With Start-Up Europe (SUE) 2010, the EU has launched an initiative to help increase the
density of start-ups in Europe through networking. SUE has identified and networked clus-
ters across Europe, bringing hundreds of start-ups together with financial investors for
pitches. Funds are also being made available for international expansion. SUE also col-
lects data on start-up activity so that macroeconomic analysis can be based on real data
(Laso, 2018).

SUMMARY
Different sources of financing and support are appropriate in different
phases of business. While incubators, with their financing and support
services, are aimed at founders in the run-up and start-up phase, the
services of accelerators are intended as accelerators of development in
the founding phase up to the start-up phase. There are also special later-
stage accelerators for the transition from the start-up phase to the
growth phase. The crowdfunding instrument is used in the start-up and
development phase to obtain capital without bureaucracy.

Business angels are private individuals who participate in start-ups out

of economic interest, and this happens mostly in the early phases.

Private equity involves the purchase and sale of shares. This possibility
exists for the later phases, especially for established companies. Venture
capital (VC), which comes from financing companies, and corporate ven-
ture capital (CVC), which is received from group subsidiaries, are also
suitable for founders. In both cases, the aim is to achieve maximum
returns, and in the case of CVC donors, access to new technologies and
innovations is also important.

The public sector supports start-ups with investment grants, loans, guar-
antees, subordinated loans, and equity investments. There are many dif-
ferent country-specific variants worldwide.

86
 UNIT 6
THE FINANCING OF ENTREPRENEURIAL
ACTIVITY II: FINANCING PROCESSES

STUDY GOALS

On completion of this unit, you will have learned …

– what view investors take on negotiations.

– what is meant by deal sourcing and deal screening.
– what the entrepreneurial view of negotiations looks like.
– how to negotiate with investors.
– how the evaluation of a business start-up is done.
 6. THE FINANCING OF ENTREPRENEURIAL
ACTIVITY II: FINANCING PROCESSES

Case Study
Andrea, Jörg, Mark, and Nathalie want to put their joint business idea of platform develop-
ment with services for mechanical engineering companies into practice. As a source of
financing, they consider public funding for technology projects to be favorable. However,
since they already have ideas for expansion, they do not rule out the involvement of an
investor for the development phase.

In this respect, they would first like to prepare and submit a business plan. Next, they will
have to successfully negotiate. They consider what interests the investors have, what their
own position is, and how the process will be structured.

They navigate the following aspects in preparation:

• What view do investors have of start-ups?

• What do they mean when they talk about deal sourcing and deal screening?
• How do entrepreneurs view investors and how do they negotiate with them?
• Which methods can be used to evaluate the founding of a company?

6.1 The Investor’s Perspective: Deal

Sourcing and Deal Screening
The situation between investor and founder can be explained most easily with the princi-
pal-agent theory about the existing asymmetrical distribution of information.

Principal-Agent Problem Between Founder and Investor

The principal-agent problem is always found in the economy where two business partners
with different levels of information are involved in a project, i.e., an asymmetrical informa-
tion situation (Erlei, 2020).

The founder (the agent) has a lot of information about their project, e.g., about their expe-
rience, the technological state of developments, the status of negotiations with potential
customers, and much more. Ultimately, only the founder can realistically assess their per-
sonal abilities; this situation is known as “hidden characteristics”. If the founder does not
Opportunistic present their abilities to the investor correctly, e.g., opportunistically or clearly too opti-
If someone adapts to a mistically, this can lead to adverse selection (Grichnik et al., 2018).
given situation to their
advantage, they behave
opportunistically.

88
The investor (as principal) can only get a partial insight into the situation as an outsider Adverse selection
before the contract is concluded. This is not critical, as long as investors and founders models
These are theoretical
have the same interests, and the agent (founder) acts in the interest of the principal models that assume dis-
(investor). If, however, there are different interests, it can happen that the agent does not advantageous informa-
act in the way the principal thinks is best. In the case of a foundation, the principal's inter- tion asymmetries in the
contractual object and
est is to achieve the highest possible increase in value as an investor, and to receive the show how failure can be
highest possible return on their investment at the time of the exit. However, the founder avoided.
may be more interested in achieving long-term success and would like to achieve this by
means of slow, continuous growth (Grichnik et al., 2018).

Strategy of Venture Capital Companies

For VC companies, it is necessary to regularly conclude high-quality deals in order to be

successful in the long term. Thus, VCs have a clear investment strategy.

• Investment size: This initially defines the preferred size of the investment, which
depends on the volume of the fund, among other things.
• Diversification: In order to reduce the uncertainty inherent in start-ups, diversification is
usually carried out, i.e., investments are made in a number of different areas to spread
the risk.
• Industry: Most VC companies also specialize in some industries.
• Stage: The risk and the investment amount usually increase in the different develop-
ment phases of the companies. Many VCs therefore restrict themselves to the early pha-
ses with small investments.
• Geography: It is easier to provide support in projects that are located in close proximity,
so VCs usually have a defined catchment area.

Figure 23: Investment Strategy

Source: Grichnik et al. (2018).

The investor wants to be a partner in the company without being involved in the day-to-
day business. To this extent, they try to minimize the following risks (Caselli, 2018).

89
 • Bad management decisions
• Lack of commitment of the founding team and key people
• Differences of opinion about the right timing to generate value
• Expansion to include new shareholders, as this may lead to conflicts

6.2 The Entrepreneurial View:

Negotiations With Investors
For the founder(s), it is important to obtain the desired capital with the most favorable
conditions possible, achieved through skillful negotiation with the investor. The condi-
tions and modalities are agreed upon in writing and then put into practice.

Term Sheet

In the form of a term sheet (also called letter of intent LOI or memorandum of understand-
ing MOU), the investor and the founder define the key points of the planned cooperation
at an early stage. The negotiations between the founder and the investor therefore have
already begun (Caselli, 2018). The term sheet later leads to the final contract. It is good
practice for both parties to adhere to these agreements, which are not legally binding in
themselves (except for the confidentiality declaration and exclusivity agreement, which
are legally binding).

The term sheet contains regulations on the essential financial aspects, as well as a large
number of other regulations such as the strategy, the financing or distribution policy, the
Put and call option employment contract of the management, put and call options, and much more (Grün-
Put option is the right to derszene, 2019c).
sell a share at an agreed
value within a period of
time; call option is the Afterwards, the economic and legal circumstances are examined in detail during the due
right to buy the share. diligence process. If the due diligence ends with a positive result, the negotiations
Due diligence process
between investor and founder will begin. For this purpose, the participation and sharehol-
This involves a careful
examination and analysis ders’ agreement will be negotiated (subscription or shareholders’ agreement) and then
of the project with the notarized.
aim of identifying risks.

The investment documentation contains the description of the company and the capital
development, further information on the investment and the conditions (call options, if
Liquidation preference applicable), the special rights of the investor, the liquidation preference, the rights and
In this case, the investor obligations of co-sale, and the obligations of the founders (guarantees and vesting) (Har-
has preferential rights to
liquidation or disposal tung, 2015).
proceeds.
Vesting The more specific the term sheet, the fewer negotiations are required afterward to formu-
This term refers to the
late the participation documentation. In most cases, a period of three to six months can
loss of shares upon leav-
ing the company. be assumed for the negotiations. In this respect, founders are well advised to negotiate
the term sheet in a goal-oriented manner and in their own interest in order to keep the
entire period manageable. The negotiations focus on the type of investment, the use of
funds, and the regulations for the time after the investment.

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There are three central questions concerning the use of funds (Caselli, 2018):

• What exactly is the source of money? A distinction is made here between whether the
shares are newly issued, or whether the founder transfers their own shares to the
investor.
• What are the entrepreneur’s reasons for issuing the shares? Do they want to bring liquid
assets (cash) into the company, or are they seeking capital and support to grow the
company?
• What is the relationship with the other shareholders? The investor may acquire sole
control or represent only part of the shareholders.

Post-investment monitoring serves to observe value generation and to prevent opportun-

istic behavior that may occur. The former refers to the contractual agreement of business
conduct, the latter to the “soft skills” of the investor’s support.

Interests of the Founders

Founders have a vision and a mission for their project; they put their heart and soul into
the planned business. Many of them would like to work in their company for a long time,
or even pass it on to the next generation.

In this respect, their interest is to limit risks (Caselli, 2018).

• The investor is not sufficiently committed and does not contribute enough of his net-
work and knowledge.
• New investors enter the company and upset the existing balance.
• The investor withdraws at the wrong time and therefore less capital is available.
• Surprises at the time of exit lead to the financing plan not being adhered to and the
planned increase in value not being achieved.

Typical Negotiation Situations of Founders

In the course of founding and building up the company, founders are confronted with a
multitude of negotiation situations. The following list clearly shows how important nego-
tiations are for entrepreneurs and demonstrates the need to prepare oneself accordingly.

• The idea phase: In this early phase, the founders negotiate internally, i.e., amongst
themselves, whether they actually want to realize the project. Discussions with family
and friends also often take place at the beginning.
• Licensing negotiations: Often, negotiations on intellectual property (IP) are necessary Intellectual property
in the early phase, e.g., if research results are to be used for the foundation. The term refers to intangi-
ble creations that can be
• Co-founder agreements: If a partner is to be involved in the start-up project, a corre- protected by intellectual
sponding agreement must be negotiated. property rights.
• The equity collection: In the early stages, capital is often drawn from immediate family
and friends. Appropriate arrangements must be made for this.
• A pitch: External investors usually first conduct a pitch, which then, in the positive case,
proceeds to contract negotiations.

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 • The team members: If employees are to be recruited in the early phase of the company,
although the financial possibilities are limited and the risk is high, a positive negotiation
must be achieved by tapping into their motivations and drive.
• Business angels: Business angels often come into play in the start-up phase, with whom
negotiations about their participation must be conducted.
• The first customers: One must negotiate carefully in regard to quantities and prices,
because from the customer’s point of view, there is a risk of placing an order with an
inexperienced start-up company. The founder should not be too optimistic, but also not
too accommodating.
• The term sheet: Here, it is important to negotiate the details of the letter of intent care-
fully and purposefully.

Avoiding Negotiation Errors

In the run-up to negotiations, it is important to clarify the interests of the other business
partners as far in advance as possible. What do they absolutely want, and what else would
they like? What possibilities exist to generate the desired values? Where might they lack
information? This preparation helps to prevent problems in later negotiations.

During the negotiation, it is important to identify problems and react appropriately. One
should always expect the unexpected. To do this, it is important to stay focused, have dif-
ferent types of descriptions at hand, be as flexible as necessary (not as flexible as possi-
ble), and adapt in an appropriate way without bending too much. Any tensions that occur
should be reduced quickly; if necessary, one should apologize for any misconduct. This
provides a good basis for being successful in negotiations.

After the negotiations, it is helpful to reflect on what one has experienced and learn from it
Lessons Lelarned for the next negotiations. Lessons learned are a suitable method for this (Dinnar & Sus-
This is a structured reflec- skind, 2019).
tion on the experience of
a project in order to learn
from mistakes.

6.3 The Evaluation of Business Start-Ups

In order to obtain a realistic assessment of the investment and the profit to be made,
investors need a calculation of the company value and its expected future development.
For established companies, the valuation is already a challenging undertaking, but for
start-ups in the early stages it borders on a “look into a crystal ball” scenario. In the begin-
ning, there is no, or only a few, empirical values, and the further development exists only
in the imagination of the founders and in the presentation of their forecasts. There are
three evaluation methods that are commonly used to address this challenge: The Discoun-
ted Cash Flow (DCF), Net Asset Value and Market Value methods.

Discounted Cash Flow (DCF) Method

To calculate the value of a company using this method, one has to estimate all its future
cash flows and then calculate their present value by discounting them using an appropri-
ate measure for the cost of capital of the company (Alemany 2018, p. 217).

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To estimate the first element, the future cash flows, we need to have information regard-
ing the past performance of the company, the evolution of the market, and future invest-
ment plans, as Alemany points out (ibd.).

The major disadvantage of this method is that obtaining this information is often difficult,
or even impossible in the case of new ventures: They often seek to disrupt the existing
market, making it challenging to estimate its further evolution (ibd.).

The major advantage of this method is that, if such information is available, it takes the
future cash flows of the company into account. And the discounted cash flow method
offers a second advantage: It takes the company’s cost of capital into account.

This approach is based on the time value of money: Cash flows received tomorrow are
worth less to a company than cash flows received today. The reason is that today’s cash
flows can be invested and hence will result in an increased cash flow tomorrow. Taking
account of the time value of money means that we have to ‘discount’ the value of cash
flows that are received in the future. Put simply, their value has to be diminished by the
same factor that the company’s shareholders expect from their investment. This factor is
called the cost of capital of the company. The company’s value today comes from its
future cash flows that exceed the cost of capital (because the shareholders expect the
cash flows below that threshold to be paid out to them as dividends).

Net Asset Value Method

In the net asset value method all the company’s assets are estimated at their current mar- Net asset value
ket value. Then all debts of the company (such as accounts payable and all other liabili- This term describes the
value of a company’s
ties) are subtracted from the total value of the assets. The resulting amount shows the assets ‘net’ of its liabili-
equity value of the company – essentially ‘what the company’s assets are worth after ties.
deducting its liabilities (net of its liabilities).’

The advantage of this method is that it is simple and straightforward (Pott & Pott, 2015).

The disadvantage, as Alemany (2018, p. 217) points out, is that it is not very insightful
when it comes to new companies and start-ups. Such companies have not been in busi-
ness long and have typically not been able to acquire many tangible assets. Much of their
value may be found in their intangible assets, such as the development of new knowledge
and technology. But it is difficult to estimate the value of new research and development
that has not yet gained market traction.

What, for instance, is the value of a new software or a newly discovered drug that have not
yet entered the market? The net asset value method provides little insight into these ques-
tions. The method is therefore not generally recommended when it comes to companies
where most of the value lies in their growth potential.

It is often combined with the discounted cash flow method by determining the new value
that both methods produce.

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 Market Value Method

Market value method The market value method does not focus on internal circumstances, but on the price that
This is also known as the can be achieved for the company on the market.
multiplier method.

In the case of a stock corporation, this is the value of the shares at the current price. In the
case of non-listed companies, the comparison with companies of the same type is made
Benchmarking by means of benchmarking. For this purpose, the value of the benchmarking company is
Here, a company compar- taken as the share value of a listed company, or the value of an unlisted company that has
ison is made on the basis
of key figures such as already been determined once due to a transaction or acquisition.
EBIT, net income, cash
flow, sales, or production Simplicity is an advantage if the company is listed on the stock exchange. In the case of
output.
comparable companies, there is always the risk of differences that may play a role, such as
culture, image, or age of machinery (Pott & Pott, 2015).

If there is a high brand value, the market value method is more meaningful than the
income or asset value, because otherwise the biggest success factor—the brand—would
not be recorded at all.

Other Approaches

There are quite elaborate probability and simulation-oriented business valuation meth-
ods in which simulations are carried out with assumptions based on the business plan-
ning of the founders. For this purpose, the turnover planning during times of uncertainty,
as well as a modeling of the risk of future cash inflows and cash outflows are used. These
approaches focus on estimating future cash-flows and/or profits, attempting to determine
the companies’ worth as a function of its expected future profitability.

Factors Influencing the Enterprise Value

In negotiations between investors and founders, a number of other influencing factors

play a role in addition to past values; these factors are either completely absent in the
early phases or only available to a limited extent and are therefore not very resilient. Typi-
cally, the quality and experience of the management/founding team, the sales forecasts,
the risks, the financial market environment with supply and demand, the price level, and
the time factor via time-to-market/break-even/exit are added to the valuation methods.

Founders can only be advised to deal intensively with products, competitors, customers,
and prices, and to assert their credibility, which has a positive effect on the determination
of the company value (Müller et al., 2016).

SUMMARY
A typical principal-agent situation exists between investors and found-
ers, since the founder (agent) has more, and more detailed, information
than the investor (principal).

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The process between the founder and the investor initially provides for
the signing of the term sheet, a first declaration of intent. An in-depth
review of the documents by the investor then follows during the due dili-
gence period. In the event of a positive result, the investment agreement
is then negotiated.

Investors have an interest in increasing the value of the company so that

their shares increase in value until they exit. The focus of the founders is
primarily on the commitment of the investor, the provision of the net-
work and the investor’s knowledge, as well as a stable situation that is
as calculable as possible.

In order to determine the value of the company, primarily earnings, sub-

stance, and market value methods are used. Combinations of these
methods are also often implemented. Due to the lack of historical val-
ues, other factors such as the quality and experience of the team, sales,
risks, or the time factor also play a major role in the early phases of start-
ups.

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 UNIT 7
THE BUSINESS PLAN

STUDY GOALS

On completion of this unit, you will have learned …

– the purpose and objectives of business plans.

– the expectations for a business plan.
– how the structure and content of a business plan is designed.
– what guidelines there are for the preparation of a business plan.
 7. THE BUSINESS PLAN

Case Study
Andrea, Jörg, Mark, and Nathalie are well on their way to actually founding a company
that will operate a platform and offer services. Their deliberations have progressed far
enough that they now want to put their thoughts in writing. The group is aware that they
have to illustrate the essential aspects such as management, structure, products, market,
and finances within the framework of a business plan in order to describe the project in a
way that is comprehensible for banks and investors. In order to avoid making mistakes,
they want to seek advice on how to design a business plan professionally.

Thus, they are researching the following aspects:

• What purpose and objectives are associated with business plans?

• What expectations do different target groups have of a business plan?
• What structure and content should a business plan have?
• Are there any fixed guidelines for the preparation of a business plan?

7.1 Purpose and Objectives of the

Business Plan
Business plans are a standard instrument in business life. They are written (voluntarily) in
two different situations: by established companies wanting to carry out an extensive
project or plan, and by founders who need support for their planned start-up. In both
cases, the business plan must convince the reader. The business plan must therefore be
written in a coherent and detailed way, and should also show the risks of the project.

The “7 Cs” can be used to check whether the design has been successful. Is the business
plan clear, crisp, concise, consistent, coherent, credible, and convincing? If a plan passes
this review, the reader will understand the desired positive impression (Evans, 2015).

In terms of content, the difference between business plans written in established compa-
nies and those of start-ups is minimal. The main difference is that the market position
described for start-ups is a planned one, i.e., for the future. In this respect, there is a high
degree of uncertainty. In addition, it is important for founders to convince potential sup-
porters that the statements are based on careful market research. Established companies,
on the other hand, can assume their current situation (Evans, 2015).

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The central objective of the business plan is therefore to obtain support for a project. This
can involve a variety of different pursuits, e.g., a start-up project, the procurement of
equity capital, or capital for external financing. It can also be support for a board decision,
for a joint venture partner, for the sale of the company, for expansion into new markets,
the introduction of new products, and for IPOs (Evans, 2015; Pott & Pott, 2015).

7.2 Expectations in Relation to the

Business Plan
Since business plans are drawn up in very different situations and for different readers,
different expectations and requirements are associated with each.

Expectations of Different Target Groups

From the founders’ point of view, the preparation of the business plan serves to first sort
out their thoughts and to present results of the research and considerations in a struc-
tured way. In doing so, they can see whether their business idea can be implemented and
financed. Weak points and know-how deficits also become clear and can be eliminated in
a timely manner. “Blind spots” in the considerations are recognized when writing, and
gaps can be eliminated immediately. For the establishment of business operations, the
business plan should provide founders with a kind of red thread that makes events con-
trollable and manageable. In this respect, it is very advisable for founders to draw up the
business plan themselves. The involvement of experts and institutions in this process is
helpful, but should not lead to completely handing over the preparation of the business
plan. The founders themselves should be viewed as the main target group for their own
business plan.

Business plans are also the decisive document on the basis of which an investor or sup-
porter makes his decision for or against a project. It is therefore necessary that the busi-
ness plan clearly illustrates the prospects of success of the business idea for these readers.

Finally, the business plan of established companies serves to provide the upper hierarchi-
cal levels within the company with a basis for decision-making on a planned project, and
to provide external business partners with such an equal basis for decision-making in the
case of various forms of cooperation.

Finally, a business plan can also be submitted in business plan competitions. Although
this is not the primary goal of writing a business plan, participation helps to draw atten-
tion to the start-up project, build a network, and also to receive constructive feedback on
the business plan at the same time. Sometimes there are also enticing prizes and/or non-
cash prizes awarded.

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 Requirements for Business Plans

As a general rule, a business plan should always be written in a reader-friendly manner

and its layout should be appealing. All technical terms and complicated connections
should always be explained in a simplified way. A graphic implementation schedule
should clarify the planned start-up phase. The language must be objective; emotional
statements have no place in business plans.

In terms of content, it is important to ensure traceability, consistency, objective founda-

tion, and completeness. All essential aspects of the business idea must be presented. Vari-
ous scenarios regarding opportunities and risks should be included (Pott & Pott, 2015).

A business plan should always be as short and concise as possible, and the presentation
should be structured and systematic. At the beginning should be a clear objective, and the
explanations should be consistently geared to the selected readers.

There must be consistency between the different parts of the business plan, especially
between the text and the figures. All assumptions must always be realistic and justified.
The relevant fundamentals should always be rigorously documented and the documents
carefully prepared. Important statements should be substantiated by expert opinions or
third party opinions. Sufficient proof of entrepreneurial qualifications should also be
included. The presentation should be comprehensible and convincing (Plümer & Nie-
mann, 2016).

The typical size of a business plan for start-up projects is between 30 and 40 pages, though
very small projects may be illustrated in 10 to 15 pages. For projects in large companies, a
business plan can reach several hundred pages (Pott & Pott, 2015).

Priority Setting Appropriate to the Addressees

If potential equity investors represent the target readership, they should find detailed
information on the expected return on investment in the business plan. Attention should
be paid to the presentation of opportunities for value enhancement, investment and
financial policy, and management qualities.

If the business plan is aimed primarily at potential lenders, the focus is on securing repay-
ment of and interest on the loans through existing risk hedges. Balance sheet collateral, a
comprehensible development of the cash flow, as well as the form and extent of the
founders’ commitment, must be depicted for this purpose.

If, on the other hand, the business plan serves primarily as an instrument of corporate
management, it should be designed as a framework for operational decisions. Periodic
budgets, target/actual comparisons, and forecast calculations are helpful for this purpose
(Plümer & Niemann, 2016).

It is important that a business plan should not be delegated, as it is a matter for the boss
and top performers who should be involved in its preparation. The business plan should
have its “own handwriting” and be honest and objective in its presentation.

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7.3 Structure and Content of the Business
Plan
Business plans typically contain comprehensive statements about the founder(s), the
business idea, the products and production, market and marketing, as well as finances
and financing. There is no fixed, irrefutable structure. The allocation of the contents and
the number of chapters varies. For example, technology projects often include a chapter
on the current state of the art of the technology, or on the necessary further research and
development.

Executive Summary

Although the executive summary is at the beginning of the business plan, it is written last.
Its aim is to inspire the reader with enthusiasm for the project and to motivate them to
read the entire document. The summary should be easy to understand and written in a
style that appeals to the intended clientele. It usually consists of one to two pages (max.
three pages), represents the business plan in short form, and presents the key statements.

First, the intention for which the business plan was written is indicated, e.g., for the crea-
tion of a new business or for a project to expand an existing business. Then the companies
and products are described, the market and customers are outlined, and the key people
with their experience and skills are briefly introduced. It is explained how the revenue
mechanism works and what growth potential the market has. The financial development,
as well as the amount, form, and use of funds of the desired financing finish off the
explanations. In short, the executive summary provides the reader with an overview of all
the key facts of the project (Plümer & Niemann, 2016; Müller et al., 2016; Pott & Pott, 2015).

Company Presentation (Idea, Products/Services)

The company presentation explains the idea, the company and its development, the prod-
ucts, and the industry. It starts with the presentation of the business model. The custom-
ers’ needs and the benefits generated should be clearly recognizable, with the uniqueness
of the project made clear. The products or services are briefly presented and a description
is given of how the revenues are achieved (i.e., the achievement of cash flow with the
types of revenues such as sales, commissions, fees, advertising, etc.). Previous major suc-
cesses are presented, and overcoming of failures is also explained.

This is followed by a presentation of the company's development to date, which ranges

from the time of foundation to a description of the location, the development of the com-
pany, and the financial key figures of the last three years; or in the case of start-ups,
includes the founders’ advance contributions.

The description of the industry structures includes the market volume; the main competi-
tors; relevant market developments and trends; the success factors of the industry; state-
ments of important studies about the industry development; the (targeted) market posi-

101
 tion; and the advantages of the own products/services as compared to the competition. It
must be demonstrated that customer needs can be met at the right time, in the right
place, and with the right quality/quantity.

Finally, the strengths and weaknesses in products/services, marketing, manufacturing,

management, and finance are compiled. Then the vision, long-term goals, and the strat-
egy with which the goals are to be achieved are presented (Plümer & Niemann, 2016).

Next, the products or services are described. This should be done in a generally under-
standable way, with technical details added in the appendix. The products/services are
presented in detail and their customer benefits explained. It is stated which customer
needs are satisfied and which aspects make the product unique. The current classification
of the products in the product life cycle and ancillary services are explained, as is their
positioning in terms of price and quality. Finally, the quality management is presented
and, if applicable, the cooperation with any existing partners.

If there is R&D, it is described and the stage of development of the products to date, any
remaining weaknesses, and the milestones of further development are discussed. Then it
is explained whether the product line is expandable, whether patents or other protective
rights exist, and how the integration of market development and customer needs into the
development processes is planned. The protection of brand names or the planning of new
development projects are also explained, the influence of new technologies on products
or development is examined, and technical risks and a planned next product generation
are presented. Finally, the report should also include information on how research and
development costs will be considered over the next three to five years (Plümer & Niemann,
2016; Müller et al., 2016; Pott & Pott, 2015).

Markets, Marketing, and Sales

Market potential In the comments on markets and marketing, the presentation of market potential and
This describes the total market volume should be substantiated. Estimates must be plausible and comprehensi-
amount of products that
can be sold in a market. ble. It must be explained how large the total market is, how it is segmented, and which
Market volume players (competitors, market leaders) are to be found there. The main success factors,
This indicates the actual special opportunities, risks, and special characteristics of the market should be discussed.
demand in a market.

It must also be shown which products/services are sold to which target customers via
which distribution channels in which markets. The processing of special market segments
Market share and the own current (planned) absolute and relative market share, as well as the own
The absolute market influence on the market, are to be explained. The sales/profit share per market service
share is the own sales vol-
ume in relation to the should be stated and the specifics of the products/market segments should be men-
market volume. The rela- tioned.
tive market share is the
own share in relation to
the market leader. Then, the expected market growth of the overall market, including the relevant market
segments, should be described. Subsequent explanation should include the future market
development, the company’s reaction, and the opportunities and risks for the company
arising from these developments. The influence of suppliers in the market should also be
discussed.

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The customers are then described. Who are they? What is their geographical distribution?
Who has registered interest in the products? How important are the appearance and
image of the product to them? Such questions should be answered in the business plan.
The influence of customers on pricing, quality, or additional services are relevant details,
along with information on the purchasing decision-maker. Opportunities and risks in the
customer portfolio should then be summarized.

This is followed by a presentation of the competitive situation. A distinction must be made

here between direct, potential, and indirect competitors. Direct competitors offer the
same products/services in comparable quality. Indirect competitors could endanger the
company’s products through substitutes. Potential competitors are those who could pos-
sibly enter the market for the first time. It should be described who the main competitors
and their key figures are, as well as how the competitors are positioned in marketing and
how they appear. Other aspects include the threat posed to competitors by identical prod-
ucts, the sensitivity of the market to price changes, customer loyalty, and the possible
reaction of competitors to price changes. A description of the competing products is
important and should include an explanation of their quality and characteristics, sales
channels, pricing strategies, any discounts or commissions, and the life cycle phases.

This leads to an explanation of the company’s own positioning: In which areas are their
own products superior to those of the competition? Why is the company superior to the
competition? Where is the company inferior and why?

Finally, future developments such as possible mergers of competitors, the presence of for-
eign competitors, or the appearance of alternative products should be explained. Meas-
ures should be presented in order to maintain or expand one’s own position (Plümer &
Niemann, 2016; Pott & Pott, 2015).

In the marketing presentation, the marketing strategy and the measures for implementa-
tion are explained. This can be based on the marketing mix with the “4 Ps”, or in the case Marketing mix
of service companies, the “5 Ps” (the “4 Ps” plus personnel policy). The strategies for prod-
uct, price, sales/distribu-
tion, and public relations/
The central role is played by the product and performance policy. This includes product communication comprise
function as well as design, packaging, quality, and price. In addition, there are services the marketing mix.

such as product servicing, warranty work, or training that should be included. Finally, the
pricing policy should state whether pricing is demand-oriented, cost-oriented, or competi-
tive, and whether discounts are granted. The distribution and sales policy defines how the
products/services reach the customer. The distribution channels (with own sales or via Distribution channels
dealers) and the distribution costs are explained. It also describes whether there are sales Direct distribution is car-
ried out with a company’s
assistants and intermediaries, what resources are used, how sales personnel are trained, own sales force and
and so on. The level of awareness is influenced by the communication policy. Its aim is to allows it to set its own pri-
stimulate the customer’s willingness to buy. Activities at trade fairs, exhibitions, and spon- ces; indirect distribution
is carried out through
sorships are used for this purpose. All targeted advertising measures are also included wholesalers and retailers
here, such as the market presence and advertising placements. The budget, the distribu- who set the final prices.
tion to advertising media, and the impact monitoring should be presented. Social media
and online advertising measures are becoming increasingly relevant here (Pott & Pott,
2015; Plümer & Niemann, 2016).

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 Management, Team, and Organization

The competence and motivation of the founders and the management are crucial for suc-
cess—they should be made very clear and proven. Their experience and knowledge, com-
position, the distribution of skills, their greatest successes, industry-specific knowledge,
and customer relationships are all important aspects. The founders should also mention
their motivation for self-employment. If there are financial ties to each other or to the
company, these should be disclosed. The aspects for which support is needed should also
be made clear.

Where consultants are used and/or staff are to be recruited, the tasks to be performed by
the consultants, the reasons for this and the functions in which staff are required must be
explained. Recruitment of personnel should be outlined, as well as the number of employ-
ees or organizational units and their planned development.

This is followed by a description of the organization: the structural and process organi-
Structural and process zation. The corporate culture, the management principles, and the instruments used
organization should be explained. Locations, future investments in additional locations, existing rental
The organizational struc-
ture is depicted as an contracts with duration/extension options, as well as the advantages and disadvantages of
organizational chart, the location are further important aspects (Pott & Pott, 2015; Plümer & Niemann, 2016).
making levels and depart-
ments, as well as report-
ing and instructional Procurement, Suppliers, and Production
powers, identifiable. The
process organization
shows the relevant proce-
It must be shown where production facilities are located or planned, what machinery and
dures in the form of dia- equipment is available or required, what investments in production equipment are plan-
grams. ned in the next few years, and how many production personnel will be needed. The pro-
duction processes are to be explained, critical factors and their monitoring are to be pre-
sented, as well as the dependence on key factors such as suppliers or materials and
supplier relationships. The production capacities, certifications/approvals, outsourcing
possibilities, as well as the opportunities and risks of the process should be given space in
the explanations. Finally, the costs and possible cooperation partners are important, as is
the question of how the company stands out from the competition.

The question of whether parts are sourced from only one or several suppliers should be
investigated in order to establish dependencies or possibilities of influencing the price, as
well as whether sourcing takes place from local or global suppliers and whether compo-
nents or complete modules are purchased (Plümer & Niemann, 2016; Pott & Pott, 2015).

Implementation Plan and Risk Assessment

In a timeframe of a maximum of five years, the planning of the foundation and expansion
of the company is presented. The achievement of objectives in connection with mile-
stones is included here. Typical milestones are, for example, the completion of the proto-
type, the first production run, or the first paying customer (Pott & Pott, 2015; Müller et al.,
2016).

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Self-criticism and a realistic assessment of the situation are necessary for the presentation
of risks. A SWOT analysis helps to relate the company’s internal strengths and weaknesses,
which can be taken from the previous chapters (e.g., products, processes, team), to the
opportunities and risks (e.g., competition, technological developments). Based on this,
measures are then to be derived how to deal with problems that arise, such as liquidity
bottlenecks, weaknesses in the team, threats to patentability, and much more (Müller et
al., 2016).

Finances and Financing

Finally, it is important to provide comprehensive information on the financial situation by

presenting financial planning and financing details. Since this topic is a very central one in
the business plan, all calculations must be comprehensible and transparent.

Usually, planning is carried out over a period of five years, with the first year shown in
monthly increments, the second quarterly, the third half-yearly, and the last two years
annually. It should be evident that the business idea is financially viable and profitable. In
order to improve credibility, a best-case and worst-case analysis should be carried out in
addition to the realistic scenario presented.

Financial planning is made up of profit planning (with sales, personnel, and depreciation
planning, as well as planning of other expenses) and liquidity planning (with investment,
capital requirements, interest, and financing planning); the results of which are incorpora-
ted into a budgeted balance sheet. All relevant cash flows are shown as incoming and out-
going payments. Liquidity planning thus reflects the surplus/deficit, while profit planning
reflects the operating result with profit and loss or net income/loss for the year. In financ-
ing planning, the potential sources of funds are to be described with volume, time availa-
bility, financing costs and, if applicable, the associated loss of autonomy (Pott & Pott,
2015).

Supplementary documents and details such as patent and utility model information,
trademark searches, information on production processes, and much more are added as
an annex to the business plan (Pott & Pott, 2015).

The various checklists of KfW Bankengruppe (2019), which can be found on their home-
page, provide assistance in drawing up plans more easily. The following illustration pro-
vides an example.

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 Figure 24: Checklist 3: Profitability Forecast

Source: KfW Bankengruppe (2020).

106
7.4 Guidelines for Creating a Business
Plan
There is no DIN standard for drawing up business plans, nor are there any legal require-
ments. However, due to a wide range of experience with business plans, there are recog-
nized principles. Writing a business plan is a process that involves several steps, takes
place over a long period of time, and is sometimes iterative. Generally, the following
applies:

1. Before starting the plan, the potential recipients and their target information profile
must be defined. The exact content is then derived from this.
2. Subsequently, the necessary basic data is determined, which either already exists or
still has to be procured. Figures, plans, competitive data, trend/market analyses,
capability profiles, etc., must be compiled for this purpose.
3. On this basis, the business plan can be drawn up, which should be optimally formula-
ted and comprehensibly designed. If necessary, it is advisable to involve a professio-
nal consultant who will also ask some critical questions (Plümer & Niemann, 2016;
Pott & Pott, 2015).

The most common mistakes in business plans include (Pott & Pott, 2015)

• lack of focus on needs and customers,

• lack of receiver orientation,
• incompleteness and contradiction,
• a mixture of hope and reality,
• the non-observance of risks,
• misjudgments of time and money (for example, over-indebtedness already in the budg-
eted balance sheet), and
• general phrases (“we have no competitors”, etc.).

In most cases, the preparation of the business plan is done in such a way that founders
first work with the preliminary goals they have in mind, such as the planned sales figures.
This is then followed by a market analysis based on secondary data. The results are com-
pared with the formulated goals and the goals are confirmed or revised.

Next, the section on production and the management team is written and the financial
part is prepared. The resulting first version of the business plan then requires a very criti-
cal examination with regard to realism, consistency, meaningfulness, and comprehensibil-
ity. If the financial perspectives on the basis of the plan figures are not convincing, a major
revision of the business plan must be carried out. Only when the business plan, with its
explanations and budget figures, is convincingly successful is it submitted to investors and
other readers.

The business plan is also integrated in the implementation phase, where the existing pre-
sentation is adhered to as far as possible. If this proves unsuitable because significant
changes have occurred since then, the business plan must be revised; and in rare cases,

107
 even questioned in its entirety. It is advisable to check the business plan regularly during
the development phase to ensure that it is up-to-date and to revise it if necessary. Devia-
tions should be analyzed so that lessons can be learned (Pott & Pott, 2015).

SUMMARY
Business plans are prepared by founders and established companies in
different situations. The target group of business plans is typically the
founders themselves, the investors, and the decision makers in compa-
nies. These target groups have different expectations of the business
plan, which is why it should be formulated in a manner appropriate to
the addressee. The “7 Cs” must be adhered to. Accordingly, business
plans should be clear, crisp, concise, consistent, coherent, credible, and
convincing.

The business plan begins with the executive summary, followed by a

description of the company and the business idea, products/services,
market/marketing/sales, management and team, organization/procure-
ment/production, implementation plan, risk assessment, financial plan,
and financing.

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 UNIT 8
DIGITAL BUSINESS MODELS AND
ARTIFICIAL INTELLIGENCE

STUDY GOALS

On completion of this unit, you will have learned …

– what is meant by e-business.

– which digital business models are already being used successfully.
– what is meant by artificial intelligence.
– what is meant by globotics.
 8. DIGITAL BUSINESS MODELS AND
ARTIFICIAL INTELLIGENCE

Case Study
Andrea, Jörg, Mark, and Nathalie would now like to realize their business idea for a plat-
form with services for the mechanical engineering industry. In a first pitch, they have
already awakened the interest of an investor and were able to submit their business plan
to him. In a meeting the week after next, a possible cooperation is to be discussed in more
detail. The group has been informed that the investor would like to clarify, among other
things, what further development is possible for the platform. He is likely interested in
start-ups with digital business models that have chances for expansion in the field of artifi-
cial intelligence (AI). In a video chat, the four discuss the technical possibilities known to
them, but still see deficits in their knowledge, and also in the concrete implementation of
the technologies for their business idea. In this respect, they decide to intensively review
the developments in this field.

They research the following aspects:

• What is actually considered e-business?

• Are there already digital business models that are being used successfully?
• What exactly is meant by artificial intelligence?
• What is meant when people talk about globotics?

8.1 E-Business
The new opportunities offered by digitization are associated with far-reaching changes in
companies. Changes in business activities, new business models and, as a result, innova-
tive products and processes are possible outcomes of the use of digital technologies.

E-Business

“The term electronic business refers to the initiation, partial or complete support, han-
dling, and maintenance of service exchange processes between economic partners by
means of information technology (electronic networks)” (Wirtz, 2018, p. 23).

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Figure 25: Development Stages of E-Business

Source: Wirtz (2018).

In its simplest form, electronic business (e-business) contains only static presentations,
e.g., information for customers or investors. In the second stage of development, e-busi-
ness already has personalized and interactive internet offers, e.g., customer inquiries are
answered by email. There may also already be pre- and post-sales offers. In the third
stage, online transactions are planned. The fourth and highest stage of development
involves the electronic integration of all business partners in the value chain, i.e., goes
beyond the customers (Wirtz, 2018).

The three central building blocks of e-business are information, communication, and
transaction, which function via digital networks. This has given rise to three central plat-
forms with different objectives, namely, platforms for procurement (e-procurement), sales
(e-shop,) and trade (e-marketplace). A broader consideration also includes platforms for
contact networks (e-community) and cooperation (e-company) (Kollmann, 2020).

The success of e-business is based on the fact that—compared to previous approaches—a

new added value is achieved. This can represent a structuring value by creating a better
overview. There may be selection options at the time of query, which lead to a more effi-
cient selection, then a selection value is created. A matching value follows by efficiently
and effectively bringing together suppliers and inquirers. The more efficient and effective
processing of transactions leads to a transaction value, while the interlocking of offers
from different providers provides a matching value. Finally, the more efficient and effec-
tive communication of different demanders leads to a communication value (Kollmann,
2020).

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 Digital Business Models

In the case of digital business models that go hand in hand with the digital transforma-
Digital transformation tion, “...the creation of value or benefits in the company is purely digital, essentially on the
This is how the process of basis of digital components or through an activity that is essentially based on digital tech-
change in companies is
described by digitization nologies” (Bijedic & Hoffmann, 2018, p. 1).
technologies.
Digital business models must be distinguished from digital technologies, goods, and strat-
egies. While digital technologies represent the hardware and software units for signal pro-
cessing and signal exchange via IP-based networks (e.g., microchips, MP3), digital goods
are based on digital technologies, or are themselves completely digitalized. They create a
benefit for a defined group of actors (e.g., digital camera, smartphone, e-book). The digital
strategy represents the planning of measures to achieve measurable goals; it can relate to
digital products or to business models (e.g., planning of online measures to increase sales
of digital goods such as e-books). Finally, the digital business models describe the design
of relationships between a service provider and groups. IP-based networks are used to
exchange services and consideration; these services may or may not be digital (e.g., Spo-
tify, mytaxi) (Hoffmeister, 2017).

The following six technologies are considered enablers (Bijedic & Hoffmann, 2018).

• Cyber-physical systems (CPS)/Internet of Things (IoT)/Smart Factory/Industry 4.0 (terms

often used synonymously): Networking takes place horizontally, vertically, and across
company boundaries.
• Big data: This technology enables scalable integration, extraction, and processing of
large data sets.
• Cloud computing: The offer is made “as a service” via a server (cloud) from another
location.
• Artificial intelligence (AI), extended intelligence (EI)/machine learning (partly used syn-
onymously): Learning-capable algorithms analyze large data sets, derive, and execute
action alternatives independently (AI). With EI, the human being decides on the alterna-
tive action.
• Digital platforms: Transaction-centered platforms bring together supply and demand
(digital marketplaces); data-centered platforms create a complete system for the collec-
tion, processing, and evaluation of data streams from complementary components
(digital ecosystem).
• Block chain technologies: These link data records (blocks) by an algorithm (crypto-
Cryptographic hash graphic hash function) to a chain. The cryptographic hash function takes an arbitrary
function amount of data input and produces a fixed-size output of enciphered text.
Cryptography deals with
the encryption of infor-
mation; a hash function The following four aspects represent particular challenges in the transition to digital busi-
(scatter value function) ness models, especially for medium-sized companies (Bijedic & Hoffmann, 2018).
takes an arbitrary amount
of data input and produ-
ces a fixed-size output of
enciphered text.

112
1. It is essential for managers to build up new skills, as the economic and technical
implementation requires an understanding of ICT technologies in terms of their Information and
trends and potential. One way to do this is to cooperate with digitally oriented start- communication
technology (ICT)
ups. The term refers to all
2. External service providers or in-house ICT specialists with IT skills are needed, but technology from the two
there is often a shortage of the required specialists. The qualification of their own per- areas of information and
communication.
sonnel or cooperation partners is therefore important for SMEs.
3. There is considerable legal uncertainty. This concerns both data security and ques-
tions of ownership of raw data. There are also a number of liability issues and unre-
solved transfers of rights and ownership in block chain technologies.
4. The digital infrastructure is becoming increasingly important; location decisions are
influenced by transmission rates, reliability, and security of data networks. The prices
for ICT services are falling, solutions such as “cloud-as-a-service” are inexpensive and
allow decentralized, flexible forms of work and production that bring a certain inde-
pendence from local locations. One bottleneck is the lack of broadband supply. Cul-
tural influences such as internationality, availability of skilled workers, and regional
clusters, e.g., through universities and scientific institutions, remain relevant for loca-
tions.

An analysis of 380 business model transformations in a multi-year research project identi-

fied four successful business model types for the digital age (Müller-Stewens et al., 2020).

• Product business model: Here, the offer consists of standardized goods in large quanti-
ties with little individualization, supplemented by simple services such as maintenance
(“one-off sales”, i.e., one-time sales without follow-up transactions, e.g., watch manu-
facturers, car manufacturers).
• Platform business model: Different players jointly provide a service (“winner takes
most/takes it all”, e.g., Amazon, Netflix, eBay).
• Project business model: These are highly individualized products where a project is car-
ried out once (e.g., consulting, construction companies).
• Solution business model: Highly individualized services are offered and also completely
implemented at the customer’s site (“plan-build-run”, e.g., Hewlett-Packard system
landscape consisting of printers, copiers, scanners, or fax machines; the customer pays
for the number of pages copied).

Different tasks must have a solution. This applies to the front-end, i.e., the area of value
creation perceived by the customer, the back-end with the activities that are not perceived
by the customer but which are necessary to operate the business, and the revenue mecha-
nism with the way in which revenues are generated and profitability is managed.

113
 Figure 26: Four Ways to New Business

Source: Müller-Stewens et al. (2019).

The “Business Model Transformation Board” provides an orientation framework for com-
panies on how to switch between the four business models.

• With the expansion, not only one product is offered, but comprehensive and integrated
offers are now being made.
• The focus goes the opposite direction from a product range to only individual products
or projects.
• Personalization is associated with the opening up of new market segments that cannot
be reached with standard offers. Here, customers who are ready for personalization pay
higher prices.
• Standardization means moving away from customer-specific offers to standardized
offers. The associated scaling requires mass production.

8.2 Artificial Intelligence

Swarm Intelligence

Bionics is a science in which new solutions to technical problems are developed from an
Intelligence understanding of nature. An example of this is swarm intelligence. A swarm is created
The term refers to the when individuals interact with each other directly and without central control. This leads
cognitive abilities and
knowledge stocks of a to an overall increase in efficiency.
person at any one time.
One application of swarm intelligence is found in so-called ant algorithms; these are used,
for example, in the routing of communication networks. The underlying behavior in
nature is as follows: Ants lay down a trail of pheromones as they make their way from nest

114
to food source. The fastest way back to the nest is the ant that has taken the shortest Pheromones
route. Since it has marked its route with pheromones both on the way there and back, These are chemical mes-
sengers from individuals
double the amount of pheromones remain. The other ants learn from this and will also for the transmission of
take this shortest route in future (Windt, 2006). information.

Another application of swarm intelligence is crowdsourcing. This refers to the outsourcing

of a task that is usually carried out within an organization. The outsourcing is done to the
crowd, i.e., to a group of volunteers on the Web (a prominent example is Wikipedia). The
advantages of crowdsourcing are the use of the creativity and inventiveness of many peo-
ple. Individuals are motivated to participate because their ideas are heard. In addition,
incentives may be provided through rewards and prizes (Kiel, 2015). The crowdsourcing
platform is managed by artificial intelligence.

Artificial Intelligence

Artificial intelligence (AI) refers to computer systems that imitate human intelligence.
However, this only applies if the following factors are also present: the ability to learn, deal
with uncertainty and probabilities, and solve problems in an abstract way (Specht, 2018).

So far, only systems with weak AI exist, as they are limited to certain areas of application.
Strong AI would be able to provide comparable performance to the human brain, but
today’s systems are far from this. Consciousness, environmental sensations, and feelings
would have to be present or simulated for AI systems to reach the performance of the
human brain (Specht, 2018).

At the same time, there are areas where AI is superior to humans. For example, chess com-
puters have become unbeatable by humans for some years now. Even in the more com-
plex game of Go, humans have found their match in the form of the artificial intelligence
“Alpha Go.” A similar development can be seen in the field of medical diagnostics. In all
these areas, the AI can be programmed with the wealth of experience of innumerable peo-
ple (or even let the system teach it to acquire such experience by self-learning), so it is
inevitably superior to an individual in this respect. Nevertheless, it remains, for the time
being, “weak”, because it is not able to do comparable things in a context of complexity,
ambiguity, and contradiction—the context that is characteristic for human life in general,
and for our topic of innovation and entrepreneurship in particular.

Baldwin (2019) offers us a memorable picture: One should not imagine AI as a “baby
farmer” who will one day become a full-grown, superhuman farmer; a better comparison
would be with a tractor. This machine is superior to humans in many areas, but cannot
replace them and remains their tool.

The Turing test is used to determine whether computers can “think”. For this purpose, a Turing
test subject communicates with two interlocutors via a screen. Both pretend to be The Englishman Alan
Mathison Turing (1912–
humans, but one of them is a chatbot, i.e., a text-based dialogue system. If, during the con- 1954) deciphered, among
versation, the test person could not determine which of the two interlocutors was the other things, the Enigma
computer, the test would be considered passed and a strong AI present. However, no sys- machine used to encrypt
German messages during
tem has succeeded in doing this to date (Eberl, 2016). World War II.

115
 The basis of AI is machine learning. For this purpose, systems are not simply fed with if-
then rules, but with examples from which they recognize patterns and regularities and
then make generalizations. Machine learning (also called “deep learning”) requires large
amounts of training data and extremely powerful computers.

One approach of machine learning is learning by means of neural networks. These are
software programs that mimic the way the brain functions. Virtual, interconnected neu-
Neurons rons are arranged in several layers, one after the other, so that signals can be passed on.
These are the nerve cells To learn, the computer program is then supplied with a large amount of training data,
in the brain that are con-
nected to each other via such as many photos with labels like “dog” and “no dog”. Then the structures and patterns
synapses, and informa- of the photos are analyzed layer by layer with increasing complexity. The first neuron layer
tion is transmitted via measures the pixels, the next layer registers the connection of the pixels to lines, and the
electrical impulses.
third layer distinguishes horizontal and vertical lines, and so on. The last layer then deter-
mines the result “dog” (Specht, 2018).

There is already a wide range of application disciplines of AI (Specht, 2018).

• Computer vision: These extended possibilities of image recognition are used, for exam-
ple, in autonomous vehicles to evaluate camera images.
• Biometrics: This is the recognition of a person based on individual biological character-
istics.
• Speech recognition: This allows, for example, the ability to record texts on the com-
puter.
• Natural language processing: Text and language are interpreted and thus translation
programs are improved.
• Natural language generating: This enables independent writing of texts.
• Sentiment detection: In text and speech, feelings are recognized, which can be used in
customer service.
• Robots: The “artificial humans” represent the “royal road” of AI.

The term “robot” became popular through the science fiction novels of the Russian-Ameri-
can biochemist, Isaac Asimov. As early as 1942, he coined the three principles of robotics
that are still valid today (Longer, 2020).

• A robot may not injure a human being or cause harm through inactivity.
• A robot must obey the orders of a human, unless such orders are contrary to the first
law.
• A robot must protect its own existence as long as this protection does not conflict with
the first or second law.

The development of robots that are supposed to move in the manner of a human is a
great challenge. For example, to catch a ball, a robot has to make a real-time prediction of
how the object will move in flight. It then has to anticipate how the arm and hand will
move to the correct place. To catch the ball, a robot must then move its hand in time with
the ball in flight, and find the opportunity to grab and hold (Eberl, 2016). The challenge to
map the human body with only muscles, ligaments, and tendons already leads to a large

116
number of sensors and immense amounts of data. Replacing the human being in its
entirety by a robot still seems unthinkable today, mainly because of the performance of
the brain.

The German VDI guideline 2860 for industrial robots states that industrial robots are “uni-
versally applicable automatic machines with several axes, whose movements are freely
programmable (i.e., without mechanical or human intervention) with regard to the
sequence of movements and paths or angles, and are sensor-guided if necessary. They
can be equipped with grippers, tools, or other manufacturing equipment and can perform
handling and/or manufacturing tasks” (Länger, 2020). Collaborative industrial robots have
been around since the mid-1990s. They work together with humans without separation by
protective devices (Länger, 2020).

8.3 Globotics
Digitization and Its Impact on Work

A 2013 study by Osborne and Frey showed what consequences digitization is likely to have
for the USA. While activities associated with interpersonal contacts (e.g., management
tasks, teaching activities, or nursing professions) are hardly digitized at all, activities with
a large repetitive share (such as office work, sales, service) were predicted as highly likely
to be digitized. However, these occupations represent a significant share of all activities in
the USA, especially for the low-skilled. In this respect, a clear need for action was deduced,
as it is important to find new activities for people with low qualifications in a timely man-
ner (Osborne & Frey, n.d.).

117
 Figure 27: The Future of Employment

Source: Osborne & Frey. (n.d.).

The study subsequently led to similar considerations in other countries. For Germany, a
prognosis was drawn up in which only a distinction was made between activities with a
very high probability of automation (>70%) and activities with a very low probability of
automation (<30%). By a clear margin, office and secretarial staff are in first place in terms
of the very high probability of automation, which would result in an estimated loss of 2.7
million jobs. These are followed by 1.1 million jobs lost by sales experts, 1 million in cater-
ing services and 0.9 million by commercial/technical business economists. Jobs in postal
and delivery services, cooks, bank clerks, warehouse management/logistics, metalwork-
ing, and accounting also show a considerable risk of loss. In contrast, the 0.8 million jobs
in childcare/education, the 0.7 million in health care/nursing, and the 0.5 million in the
area of management/corporate organization/strategy are at minimal risk. Activities in
mechanical engineering/industrial engineering, automotive engineering, sales/purchas-
ing/trade, social work/pedagogy, care of the elderly, university teaching/research, and
construction electrics also appear to be little affected (Eberl, 2016).

There are also indications of compensatory effects (Eberl, 2016).

118
Globotics

Economist Richard Baldwin coined the term “globotics” to characterize globalization

mixed with new kinds of robotics, from artificial intelligence to technologies that make it
easier to outsource services jobs. These two major challenges can no longer be viewed as
independent from one another. The service sector, previously largely untouched by glob-
alization, is now also exposed to worldwide competition as a result of digitization. If activi-
ties are carried out “remotely”, i.e., from a distance, and if, for example, cleaning robots
are operated from abroad or inventory management can be carried out, the countries with
lower wages will win and jobs will be lost in the industrial nations. This is known as “tele-
migration” (Hosp, 2019).

In the age of Ggobotics, new rules for a successful professional life are emerging. The pre-
vious way of thinking, which was characterized by “more skills, learning, training, and
experience” no longer applies. People should focus on areas that cannot be replaced by
AI. For example, skills that are needed for activities with frequent interpersonal contacts
should be developed. The training of those soft skills becomes essential, which promote
the competences for working in groups, as well as creativity and empathy. In addition, it is
beneficial to build up skills that are needed for developing robots, e.g., for designing
robots or for handling algorithms (Baldwin, 2019).

A study by the World Economic Forum in 2018 shows how the activities of humans and
machines will change in the near future.

119
 Figure 28: Ratio of Human-Machine Working Hours, 2018 vs. 2022 (projected)

Source: WEF (2018).

For the relevant professional skills, the comparison between 2018 and the forecasts for
2022 showed that analytical and innovative thinking will be essential today and in the
future. Critical thinking and the ability to solve complex problems, for example, will also
continue to be relevant, although importance will decrease slightly in comparison to 2018.
On the other hand, all manual/haptic abilities, as well as skills such as memory and the
ability to formulate, will become much less important (WEF, 2018).

SUMMARY
Electronic business means the initiation, support, handling, and mainte-
nance of service exchange processes between economic partners via
electronic networks. The success of e-business is based on the fact that
a new value add is achieved.

120
Digital business models go hand in hand with the digital transformation.
The creation of value or benefits within the company is purely digital on
the basis of digital components, or through an activity that is essentially
based on digital technologies. Typical digital business models include
platforms.

The term“artificial intelligence” is used to describe computer systems

that mimic human intelligence and have the ability to solve problems in
an abstract way, the ability to learn, and the ability to deal with uncer-
tainty and probabilities. Robots represent the “silver bullet” of AI.

The term globotics is composed of globalization and robotics. Digitiza-

tion has resulted in significant shifts in professional activities. Some
skills are becoming more important, especially soft skills. Repetitive
activities are being eliminated, but new activities are also being added.
A shift of employment to countries with lower wages is expected.

121
 UNIT 9
COOPERATIVE STRATEGY: ALLIANCES AND
JOINT VENTURES

STUDY GOALS

On completion of this unit, you will have learned …

– what is meant by a cooperative strategy.

– what alliances and joint ventures are all about.
– what the right “fit” of cooperation looks like.
– how to choose the right “form” for cooperation.
 9. COOPERATIVE STRATEGY: ALLIANCES
AND JOINT VENTURES

Case Study
Andrea, Jörg, Mark, and Nathalie developed a business idea for a platform with services
for the mechanical engineering industry during their MBA studies. Now they are about to
enter into a decisive discussion with a potential investor. If he agrees, they want to found
the company in the near future. During the preparation phase, they have also looked at
future expansion options for their platform. They discovered that later expansion in the
direction of artificial intelligence would require a level of technical competence that far
exceeds their own. The group has therefore abandoned the original idea of commissioning
only the programming of the platform, and then operating it themselves. It seems to them
to be more purposeful to cooperate with one or more strategic partners from the very
beginning, and thus to obtain the necessary competence in the construction and opera-
tion of platforms, and gain knowledge in the field of artificial intelligence. As a precaution,
they wish to acquire the necessary basic knowledge before making contact with potential
partners.

They deal with the following questions:

• What is a cooperative strategy?

• What are the characteristics of alliances and joint ventures?
• How can the right “fit” of a cooperation be designed?
• And how is the right “form” chosen?

9.1 Cooperative Strategy

Due to the increasing competitive pressure, cooperations have increased significantly in
recent years. In practice, strategic alliances and joint ventures are often found.

Cooperations

Cooperation can be understood as “a long-term collaboration with joint use of resources

between legally independent companies” (Dillerup & Stoi, 2016, p. 501). The important
thing here is that the companies remain legally independent and have equal rights, in con-
trast to the acquisition or merger of companies. In most cases, the term “bilateral cooper-
ation” is used when there are two partners, whereas “network” is used when there are
three or more partners.

The following three approaches are given as explanations for entering into cooperation
(Dillerup & Stoi, 2016).

124
• Transaction theory explains that every exchange process between market participants Transaction
leads to transaction costs, and these should be minimized. Cooperations are suitable In business terms, a trans-
action is the transfer of a
for this purpose if the costs of in-house production are higher than those of external good, service, or informa-
procurement, the market partners have largely the same information, and the transac- tion between two eco-
tion-specific investments are not very high. nomic entities.

• Market-oriented explanations argue that the success of companies is based on position-

ing, building up, and defending competitive advantages in the market. In highly com-
petitive markets, this is easier through cooperation. In addition, cooperations can also
influence the market structure.
• Resource-oriented declarations assume that if the partners have different resource
endowments, the joint use of resources represents a significant advantage of a coopera-
tion. This is especially true when resources are difficult to substitute or imitate.

Cooperations have increased significantly in recent years due to the often saturated mar-
kets and the pressure to innovate. Decisive advantages attributed to this include (Dillerup
& Stoi, 2016)

• market entry or increased market power in existing markets.

• the transfer of skills to new activities or access to skills from another company.
• the broadening of financial or human resources and better use of existing capacities.
• faster access to business if development times can be reduced by products, know-how,
or technologies of the cooperation partners.
• a much lower level of commitment to a new business segment than at the time of
acquisition.
• the distribution of costs and risk among the cooperation partners.

However, collaborations do not always run smoothly or successfully; they also have a
number of disadvantages. In particular, three disadvantages exist for cooperations (Dil-
lerup & Stoi, 2016).

• The company has less freedom or is dependent on the partners. It cannot fully influence
and monitor the cooperation. Each partner also tries to assert their own interests.
• The division of the cooperation results represents a field of conflict, especially if the
partners are in a competitive relationship, are developing separately, or the original
goals are reached at different speeds. Cooperations are often unstable and change into
organic developments or an acquisition. As a result, employees find themselves in a sit-
uation where their jobs are not very secure.
• In spite of common goals, existing differences can lead to a high level of control and
time-consuming coordination. Internationally, language barriers or cultural differences
also lead to problems.

Table 3: Critical Appraisal of Cooperations

Advantages Disadvantages

Strategic flexibility Risk of loss of autonomy

Focus on core competencies Lack of security for employees

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 Advantages Disadvantages

Efficiency advantages No lasting improvement in efficiency

Increased customer benefit Instability and complexity

Low transaction costs Dependence on the competences brought in

Source: Dillerup & Stoi (2016).

Strategic Alliance

A strategic alliance is a cooperation in which the legally independent companies involved

pursue a common strategy to improve their competitive position. The aim is to compen-
sate for their own weaknesses with the strengths of other partners. This involves entering
into a formalized, longer-term relationship, which is much less firm than a joint venture.

Strategic alliances are characterized by the fact that they often involve cooperation with
competitors from the same industry. They represent a loose form of cooperation, but are
based on agreements and contracts. Their behavior and strategy are coordinated. This
form of cooperation has gained in importance in times of globalization and more intense
competition (Dillerup & Stoi, 2016).

Joint Venture

A joint venture is economic cooperation between companies in which a legally independ-

ent company is jointly established or acquired. For this purpose, parts of the cooperating
companies can be spun off and incorporated into the new, independent company. To set
up the enterprise, a new company can be founded, an investment in an existing company
or the joint takeover of another company can be carried out. Often (but not always) a form
is chosen where both partners own half of the shares in the joint venture, so that hierarch-
ical control is excluded. In this case, the management is then carried out jointly (Dillerup &
Stoi, 2016).

Joint ventures have also increased in recent years as a result of globalization, especially
when a regional partner is needed in foreign markets. In this case, the joint venture can
act as a domestic company, and the regional partner can contribute its market-specific
know-how and reduce the need for capital. However, joint ventures are not very successful
empirically. Conflicts of objectives often arise between the partners, personnel policy
inconsistencies occur, and problems with knowledge loss and cultural integration develop
(Dillerup & Stoi, 2016).

Cooperative Strategy

Cooperative strategy is the process by which competing organizations work together to

achieve common goals. The focus is on the mutual benefits how the cooperation can be
developed.

126
The cooperation strategy must be clearly distinguished from the competitive strategy,
which is aimed at achieving advantages over the competition (Child et al., 2005).

At the same time, it is important to realize that the coexistence of companies will never
consist solely of cooperation. This is obvious when competitors cooperate. For example,
BMW and Mercedes cooperate in the development of ride shares, but remain fierce com-
petitors in other areas. Even if the companies do not come from the same industry, there
are still aspects of any form of cooperation where the interests of the parties are in compe-
tition with one another. As in all negotiations, each partner in a cooperation strategy aims
to keep its own risks as low as possible—and to set its own profit share as high as possible.
As a rule, this is only at the expense of the other party. Any form of cooperation between
companies is therefore a hybrid of cooperation and competition. Berkel and Albers (2015)
provide an overview of the interaction of these components.

The following MBA matrix (for make, buy, and ally) provides assistance in selecting the
appropriate strategic approach (Child et al., 2005). Here, the relative competence of the
company is compared with the strategic relevance of the activity. From this, it can be
derived when entering into a cooperation (“ally”), when one's own doing (“make”) or an
acquisition (“buy”) makes sense. If the relative competence is low, but the strategic rele-
vance is medium or high, a cooperation seems suitable. The same applies if the relative
competence and strategic relevance are in the middle range. In contrast, if the relative
competence is high or the strategic relevance is low, cooperations are not a suitable
approach.

Figure 29: The Make-Buy-Ally Matrix

Source: Child et. al. (2005).

9.2 The Right Fit

For a cooperation, it is necessary to find the “right” (best-appearing in the respective con-
text) partner(s). In particular, the strategy and the corporate culture must be taken into
account.

127
 Basic Considerations

The following six criteria can be used to consider the selection of potential partners (Por-
ter & Fuller, 1986, as cited in Child et al., 2005).

• The partner must have the necessary size, technology, market access, or other contribu-
tion to give the cooperation a competitive advantage that none of the partners has
alone.
• The partners should complement each other in their contributions, but be of similar
size or strength, so that they meet on an equal footing without one dominating the
action.
• It must be acceptable to both sides if one of the partners wants to focus on a specific
market. Likewise, the interests regarding an international orientation should be congru-
ent in a joint venture.
• There must be only a small risk that one of the partners will later become a competitor.
• In addition, the cooperation was intended to limit the range of competitors’ strategies.
• The compatibility of the two partner organizations must be so great that cultural con-
flicts are unlikely.

The Strategic Fit

The basic consideration should be whether the new common value chain leads to a sus-
tainable competitive advantage for the partners. If the partners are indeed complemen-
tary in terms of resources and capacities, then a partnership appears beneficial and enter-
ing into the partnership should not prove too difficult. If this is not the case, the future
success of the cooperation may be doubted.

Further consideration should be given to the extent to which the cooperation is needed by
both partners, whether the two partners are approximately equal in size or strength, and
whether there is compensation for deficits in the partner's resources, skills, or qualities.
For example, if both partners have major marketing deficits, this is not a good starting
point. One essential prerequisite is, above all, that the long-term goals of the partners are
in agreement (Child et al., 2005).

The Cultural Fit

The existence of a similar corporate culture is not a necessary precondition for coopera-
tion. Similar cultures are rarely found, and it might even be counterproductive since a
learning opportunity would be lost. However, it is important that negotiations show that
the “chemistry” between the partners is suitable for entering into a cooperation. (Child et
al., 2005).

If there is not a sufficient match between the cultures, one of the following four results can
be expected in the future:

1. The two corporate cultures are lived side by side.

2. Over a period of time, a new, common culture develops.

128
3. The stronger culture of a partner, or the culture that is more appropriate to the com-
petitive environment, prevails.
4. Constant resistance leads to a permanent impairment of cooperation (Child et al.,
2005).

All in all, employees, skills, and overall goals should match. Structures, rituals and rou-
tines, and control mechanisms should also be considered when entering into cooperation.
Helpful for this are comparisons of orientation with regard to customers, employees, qual-
ity, costs, innovation, technology, environment, and internationality (Child et al., 2005).

Strategy-Culture-Fit

The following matrix, which summarizes the four strategic options, is suitable for consid-
eration.

Figure 30: The Strategy-Culture-Fit Matrix

Source: Child et al. (2005).

If the strategic and cultural fit turns out to be unfavorable (Box 4), it is better not to enter
into cooperation. If the cultural fit is high but the strategic fit is not favorable, the coopera-
tion does not create a competitive advantage and the cooperation can be classified as
unfavorable overall (Box 3). If the cultural fit is low but the strategic fit is high (Box 1), the
situation can be improved by mutual openness to work on the existing cultural differen-
ces. If this openness exists, there is a good chance of success. The starting situation for
cooperation is ideal when the strategic and cultural fit is high (Box 2) (Child et al., 2005).

9.3 The Right “Form”

There is a range of possibilities for a cooperation that goes beyond the division into strate-
gic alliance and joint venture. The spectrum ranges from a loose cooperation to the joint
establishment of a company. Various criteria can be used for the description. Very often, a
distinction is made according to the direction of cooperation (along the value chain in ver-
tical, horizontal, and conglomerate) or according to institutionalization (from institution-
less to joint venture). These two approaches are presented below (Dillerup & Stoi, 2016).

129
 Conglomerate Vertical cooperations extend over various stages of the value chain and are formed by
The term is used for a het- partners who are related as suppliers or buyers. This is based on the idea of optimizing the
erogeneous situation or a
mixture. interfaces, e.g., between automobile manufacturers and their suppliers in product devel-
opment.

In horizontal cooperation, companies at the same level of the value chain join forces in
order to pool their competitive strengths; for example, the automobile manufacturers in
the development of hybrid drive systems.

A conglomerate cooperation arises when companies work together that are neither in a
value-added relationship nor in competition with one another. Complementary products
are offered whose joint marketing or development makes sense, e.g., for joint training and
further education, or for the operation of canteens.

Companies do not have to create new organizations to be able to work together. Institu-
tionless cooperation is easy to implement, but it can also quickly become unstable. It is
secured by contracts, such as in the form of supply contracts for the duration of a product
life cycle. A special, more intensified form is represented by license agreements, which
grant the use of certain property rights, patents, or trademarks for a fee. Finally, a unilat-
eral or reciprocal equity participation further increases the institutionalization, thereby
increasing the influence on the partner and stabilizing the cooperation. The most inten-
sive form is a joint venture. Here, parts of the company are spun off and incorporated into
a new, independent company.

A complete institutionalization is an acquisition in the form of a takeover or merger, but in

this case, there is no longer any cooperation.

SUMMARY
Cooperation is understood to be the long-term collaboration of legally
independent companies with a joint use of resources. If there are two
partners, it is called bilateral cooperation, while three or more partners
form a network.

Strategic alliances are those cooperations that are based on a common

strategy. Joint ventures are characterized by the fact that a joint com-
pany is established.

Strategy and culture should be examined in order to select suitable part-

ners. If the strategic and the cultural fit are right, then a cooperation
seems to be favorable. The form of cooperation can range from loose
cooperation to the establishment of a joint company.

130
 UNIT 10
FAMILY BUSINESS

STUDY GOALS

On completion of this unit, you will have learned …

– what is meant by a family business.

– the economic importance of family businesses.
– what strengths and weaknesses are attributed to family businesses.
 10. FAMILY BUSINESS

Case Study
After the commitment of an investor, Andrea, Jörg, Mark, and Nathalie celebrate their
forthcoming company foundation. They can now realize their jointly developed business
idea for a platform with services for the mechanical engineering industry. During the
course of the evening, thoughts arise about where they will be in 25 years. Will all four of
them still be working for the company? Are there perhaps already children who are con-
sidering joining the company? Will they then be a real family business? Spontaneously,
they decide to think more carefully about what course they can set for themselves.

They consider the following aspects:

• When exactly is one talking about a family business?

• What economic significance can be attributed to family businesses?
• Do family businesses have typical strengths and weaknesses?

10.1 Definition
That family businesses have a major influence on the economy is shown by well-known
examples such as Robert Bosch GmbH or Aldi Einkauf GmbH & Co. oHG. However, the
assessment of when a company is a family business is not uniform, but rather based on
various criteria, such as ownership, management, and the intended involvement of future
generations.

In Germany, the definition of the Institute for SME Research (IfM), with its focus on
medium-sized family businesses, has become established. This states that family busi-
Family business nesses are those“in which the ownership and management rights are united in the person
In the understanding of of the entrepreneur or the entrepreneur's family” (IfM, 2020). However, examples such as
the IfM, the terms family
business, medium-sized Bosch or Aldi show that large companies are also found among family businesses.
business, owner-oper-
ated, and family-run com-
pany are synonyms.

132
Figure 31: Classification of Companies Based on IfM Research on Family Businesses

Source: Welter et al. (2014).

As long as the owner or the family is managing the business, the identity of ownership and
management is given and we speak of owner- or family-run businesses.

If the owning family is no longer directly involved in managing the company, but is still
intensively involved in the business, we speak of family-controlled companies. Here, the
influence of the owners on the management behavior can be differently pronounced. If a
person or a family is still the owner, there is still an active influence on strategic decisions
and the company is defined by medium-sized characteristics.

The larger the company and the more fragmented the ownership structure, the less influ-
ence the owner has. The IfM therefore classifies family-owned companies as all companies
in which up to two natural persons or members of their families hold at least 50% of the
shares and these natural persons are members of the management (IfM, 2020).

Even though many SMEs are family businesses, these differ from SMEs in that family busi-
nesses can employ more than 500 people or generate annual sales of more than 50 million
euros. In contrast, technology start-ups are often SMEs, but are mainly owned by invest-
ors. In this respect, a clear distinction must be made between SMEs and family businesses.

Zellweger’s definition, according to which a family business is a company, is somewhat

different: “Dominantly controlled by a family with the vision to potentially sustain family
control across generations” (Zellweger, 2017, p. 22). Here, the future situation is also part
of the assessment.

The European Commission considers EU companies to be family businesses if the follow-

ing four criteria are met (EU, 2020).

133
 1. The majority of decision-making rights are in the possession of the natural person(s)
who established the firm, or in the possession of the natural person(s) who has/have
acquired the share capital of the firm, or in the possession of their spouses, parents,
child, or children’s direct heirs.
2. The majority of decision-making rights are indirect or direct.
3. At least one representative of the family or kin is formally involved in the governance
of the firm.
4. Listed companies meet the definition of family enterprise if the person who estab-
lished or acquired the firm (share capital) or their families or descendants possess
25% of the decision-making rights mandated by their share capital.

The following considerations are based on the definition of Zellweger.

Family Influence

In the F-PEC model (for family, power, experience, and culture), the influence of the family
is represented by three dimensions (Astrachan et al., 2002, as cited by Zellweger, 2017).

• Power dimension: This indicates the extent of ownership, management control, and
influence in management bodies (e.g., board of directors) by the family.
• Experience dimension: This refers to the number of generations in which the company
has already been under family control.
• Cultural dimension: This describes the cultural overlap between the family and busi-
ness systems, i.e., the overlapping of values.

From this it is possible to differentiate more precisely between five dimensions of family
income.

1. Inclusion of family control in ownership, management, and leadership functions

2. Complexity of family control, which increases with the number of family members
involved
3. Set-up of the business activities, for example, by looking at the number of companies
in a family
4. Philosophy and the goals of the family owners, particularly the balancing between
economic and other family goals such as long-term orientation or reputation
5. Levels of control in the family history of the company, which, due to the increasing
commitment to the company roots, brings with it a stronger emotional bond between
the family and the company (Zellweger, 2017)

Circular Models

In circular models, the underlying logic can be mapped in family businesses. Here it
becomes clear which principles are used to understand roles, connections, personal
expectations, and problem analysis. From this, the context in which argumentation, com-
munication, and decision making take place can then be better recognized.

134
However, the phenomena of “real life” can be represented in a very simplified way by
modeling. For example, the models do not take into account the family’s support of the
company and the synergies between family and company. They therefore represent sim-
plifications that should also be viewed critically (Zellweger, 2017).

The two-circle model describes the overlap between the family and the business system,
and at the same time points out the existing field of tension. This is where the traditional,
emotional/irrational, long-term, and non-material, values-oriented family system and the
corporate system (which stands for renewal, rationality, meritocracy, short-termism, and Meritocracy
financial values) meet. In this respect, the model helps to better understand the underly- (Lat. meritum = merit and
ancient Greek kreatein =
ing reasons for observed behavior of family members. It shows that people do not always to rule) An order of rule
wear just one hat. Family systems are not always traditional or emotional, and decision- that is based on achieve-
making behavior in companies is not always purely rational (Zellweger, 2017). This black ments and talents.

and white representation should therefore be viewed with a certain amount of caution.

Figure 32: Two-circle Model of the Family Business System

Source: Zellweger (2017).

An alternative representation is provided by the three-circle model, which considers fam-

ily, ownership, and management. Here, the role-related complexity with which the indi-
vidual persons in family businesses are confronted becomes clear.

Circular models are particularly helpful because they make it clear at a glance that the
actors involved are subject to structurally contradictory demands on the part of their
respective roles. For example, the entrepreneur may judge the question of his successor in
his role as a family member differently than in his role as managing director. Such role
conflicts are inherent in the nature of family businesses and are one reason for the difficul-
ties frequently encountered in business succession (Berkel, 2007).

135
 Figure 33: Three-circle Model of the Family Business System

Source: Zellweger (2017).

136
10.2 Economic Significance
The number of family businesses is very large internationally and their influence is consid-
erable. This has not changed even in times of globalization, digitalization, and increased
competitive pressure. For example, 37% of Fortune 500 companies are family businesses, Fortune 500
including the largest, Walmart (sixth in 2018). The American newspaper
“Fortune” annually pub-
lishes a list of the 500 top-
The Situation in Germany selling American compa-
nies. There is also a
worldwide list, the “For-
In Germany, the share of family-owned enterprises according to the IfM definition is very tune Global 500”.
high, but decreased slightly for a while. The share had fallen from 94.8% of all companies
in 1998 to 93.6% in 2014. The biggest change was among medium-sized stock corpora-
tions (Wolter & Sauer, 2017).

In 2019, about 90% were family-controlled and 86% owner-managed family businesses;
this has not changed since 2015. On average, family businesses employ less than ten peo-
ple; in total, more than 50% of all employees work there, 17 million in family-controlled,
and 15.7 million in owner-managed family businesses. Family-controlled companies
account for 45% of German sales and owner-managed family businesses for 40% (Gott-
schalk & Lubczyk, 2019).

Figure 34: Shares of Family Businesses in 1998 and 2014 by Legal Structure

Source: Wolter & Sauer (2017).

137
 The Situation in Europe

Looking at Europe as a whole, the proportion of family businesses ranges from 69% in the
Netherlands and the United Kingdom to 95% in Germany. All legal structures are represen-
ted, from sole proprietorships to large international companies (Zellweger, 2017).

For Luxembourg, Norway, and Sweden it can be assumed that about 30% of the largest
companies in these countries are family businesses, in Belgium it is approximately 50%. In
the EU, 40% to 50% of all employees work in family businesses. The contribution to the
gross domestic product (GDP) is between 40% and 70%. In the United Kingdom, on the
other hand, it is around 25% and around 60% in Switzerland (Zellweger, 2017).

Table 4: Share of Family Businesses in European Countries

Country Share of family firms in %

Austria 80

Belgium 70

Finland 86

France 75

Germany 95

Italy 93

Netherlands 69

Spain 75

Sweden 80

Switzerland 88

United Kingdom 69

Source: Zellweger (2017).

The Global Situation

In the USA, 74.9% of the 27.09 million companies are classified as family businesses if an
existing influence on ownership, leadership, and management is taken as a basis. If the
company is managed by the family, the share is reduced to 45%. If the family is also
required to control the company over more than one generation, the share is only 15.1%.
Family businesses generate 64% of gross domestic product (GDP) and employ 62% of the
workforce (Zellweger, 2017).

No reliable figures are available for the Asia-Pacific region. It is assumed that 67% of the
companies in Australia are family businesses. For China, it is assumed that family busi-
nesses make up the majority of companies not controlled by the government; a share of

138
85.4% is estimated. In Singapore, the proportion of family enterprises is estimated at 80%
to 90%. In India, it is assumed that family enterprises account for two-thirds of GDP, with
79% of employees in the private sector, compared with 27% across all companies (Zell-
weger, 2017).

For the Middle East, it can be assumed that 75% of the entire private sector is controlled
by some 5,000 families. These are large families with often considerable influence. Their
behavior varies from authoritarian to advisory. In the region, it is assumed that family
businesses employ about 70% of the workforce.

In Latin America, family businesses are attributed to a strong influence. Between 69% and
98% are said to be family businesses, with only limited information available.

In Africa, there is a rapidly growing proportion of family businesses. They represent the
largest share of all enterprises, and there are many micro-enterprises in particular.

10.3 Strengths and Weaknesses

Family businesses are attributed to some distinct strengths, but weaknesses as well. As we
have seen from the overlapping life cycles shown above, the following strengths and
weaknesses are characteristic of family businesses (Zellweger, 2017).

• There are few principal-agent conflicts between owners and managers. However, this is
only the case if the owners are also active as managers themselves and if there are few
conflicts within the family itself.
• As a consequence, this also leads to reduced costs and efficient management if deci-
sions can be made quickly.
• In addition, family businesses have resource advantages in competition. These stem
from a deep understanding of products, markets, and customers over a long period of
time.
• Furthermore, family businesses have very loyal (family) investors.
• And, there are very often strong networks with customers, suppliers, experts, and
investors who provide support.
• Another strength is the long-term orientation of the goals of family businesses. This
manifests itself, for example, in the rare turnaround of top management and in longer
investment periods, which also allow investments with longer ROI. They also adhere to
strategic decisions and implement them consistently.
• The commitment of the families leads to a special corporate culture. Employees are
often willing to make contributions above and beyond the usual level, as they can
expect to have secure jobs.
• Finally, family-controlled companies are unique in that the owners give the company
their money, and often also their name and reputation (in Germany, e.g., Bertelsmann,
Henkel, Hengstenberg, Porsche, Würth, and many more).

But there are also well-known weaknesses of family businesses (Zellweger, 2017).

139
 • Since the family is the key stakeholder, there is a great dependence on the family and
this ultimately determines what happens in the company. This poses a risk in the event
of any incompetence on the part of individuals or morally dubious owners. Conflicts
within the family can also burden the company.
• In addition, positions are filled with people because they belong to the family, not nec-
essarily because they are particularly suited to the task. This also sends a signal to
employees that performance and competence are not always the decisive criteria for
promotion. Furthermore, children of the family working in the company are dependent
on the loyalty of their parents, e.g., in terms of salaries, options for projects, and innova-
tions.
• Finally, as we have already seen, the problem of succession is a major weakness. In
order to remain a family-run business, someone from the family must want to join the
company, and this person should also be suitable. If this is not the case, there will be a
transition to a family-controlled company. If several families own a business, this can
also lead to frictional losses due to power conflicts between the families.
• The resource advantages of family businesses can also lead to disadvantages. For exam-
ple, there are fewer incentives for external managers if there is a risk of a family member
being placed in a management position. In addition, the willingness to invest one's own
assets in the company is limited.
• Over a longer period of time, it can be observed that “entrepreneurial drive”, and with it
the interest in growth and success, decreases. A desire for harmony in the family can
lead to a decrease in the entrepreneurial spirit.
• Finally, actors in family businesses often play several roles, namely as managers, own-
ers, and family members. This can, as mentioned, lead to considerable role conflicts.

Table 5: Typical Strengths and Weaknesses of Family Businesses

Typical strengths Typical weaknesses

Lower traditional agency costs Dependence on family

Efficient leadership Agency costs because of altruism

Resource advantages Succession challanges

Continuity and long-term orientation Resource contstraints

Culture of commitment and support Declining entrepreneurial orientation

Identity and reputation Role ambiguity

Source: Zellweger (2017).

SUMMARY
A family business is defined as a business where ownership and man-
agement are united in the person or family of the entrepreneur. A further
distinction is made between owner-managed companies and family-
controlled companies.

140
Globally, family businesses make up a significant proportion of the
world’s businesses and account for a large share of employment and
GDP generation.

Family businesses have considerable strengths, which stem from the ori-
entation towards long-term goals and the provision of financial resour-
ces and manpower from the owning family. However, this can also lead
to considerable weaknesses if, for example, some family members are
not suited to work competently in the company.

141
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 LIST OF TABLES AND
FIGURES
Figure 1: Total Early-stage Entrepreneurial Activity (TEA) in the 49 GEM Countries, 2018 . 16

Figure 2: Nascent Entrepreneurs in High Income Countries, 2018 . . . . . . . . . . . . . . . . . . . . . 18

Figure 3: EU SME Thresholds Since 01.01.2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19

Figure 4: Comparison of Key Figures Between Germany and the EU: Estimate for 2017 . . 22

Figure 5: Total* Business Start-ups in Germany 2013 to 2018 . . . . . . . . . . . . . . . . . . . . . . . . . 23

Figure 6: Categorization of Market Exits of Young Companies . . . . . . . . . . . . . . . . . . . . . . . . . 24

Figure 7: Commercial Business Start-ups, Liquidations, and their Balance in the First Half
of 2015 to the Second Half of 2019 in Germany . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25

Figure 8: Start-Up Intensities in the UK, USA, France, and Germany (1990-2008), per 1,000
Working Age Population (ILO) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26

Figure 9: The Role of the Entrepreneur in the Discovery Approach . . . . . . . . . . . . . . . . . . . . 31

Figure 10: The Role of the Entrepreneur in the Development Approach . . . . . . . . . . . . . . . . 33

Figure 11: The Business Model Creates Value for the Customer . . . . . . . . . . . . . . . . . . . . . . . 37

Figure 12: Business Model Canvas . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39

Figure 13: Innovation Strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48

Table 1: Phase Model for Operational Innovation Processes . . . . . . . . . . . . . . . . . . . . . . . . . . 50

Figure 14: Stage-gate Model at a Glance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51

Figure 15: Agile-Stage-Gate Hybrid Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52

Figure 16: Division of the Innovation Process Into Two Parts to Promote the Success of the
Project . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54

Figure 17: Complementary Factual and Legal Protection Strategies . . . . . . . . . . . . . . . . . . . 56

152
Figure 18: The Three Core Dimensions of Patent Strategy . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57

Figure 19: St. Gallen Patent Portfolio Management Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59

Table 2: Difference between Classic and Ethnographic Market Research . . . . . . . . . . . . . . . 60

Figure 20: Classification of Legal Structures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Figure 21: Support Services in Early Financing Phases . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81

Figure 22: Phases in the Investment Process of Business Angels . . . . . . . . . . . . . . . . . . . . . . 82

Figure 23: Investment Strategy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 89

Figure 24: Checklist 3: Profitability Forecast . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 106

Figure 25: Development Stages of E-Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 111

Figure 26: Four Ways to New Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 114

Figure 27: The Future of Employment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 118

Figure 28: Ratio of Human-Machine Working Hours, 2018 vs. 2022 (projected) . . . . . . . . 120

Table 3: Critical Appraisal of Cooperations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125

Figure 29: The Make-Buy-Ally Matrix . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 127

Figure 30: The Strategy-Culture-Fit Matrix . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 129

Figure 31: Classification of Companies Based on IfM Research on Family Businesses . . 133

Figure 32: Two-circle Model of the Family Business System . . . . . . . . . . . . . . . . . . . . . . . . . 135

Figure 33: Three-circle Model of the Family Business System . . . . . . . . . . . . . . . . . . . . . . . . 136

Figure 34: Shares of Family Businesses in 1998 and 2014 by Legal Structure . . . . . . . . . . 137

Table 4: Share of Family Businesses in European Countries . . . . . . . . . . . . . . . . . . . . . . . . . 138

Table 5: Typical Strengths and Weaknesses of Family Businesses . . . . . . . . . . . . . . . . . . . . 140

153
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