SME Diagnosis Venture Digitalisation: Impetus for the Future

Transcription

1 SME Diagnosis 217 Venture Digitalisation: Impetus for the Future

2 Three out of four enterprises in Germany are customers of the Savings Banks Finance Group. In Germany, giving advice to and providing finance for small and medium-sized enterprises is part of the core business of savings banks and Landesbanken. To achieve this goal, they use their strengths: a thorough understanding of their customers and their personal circumstances as well as the full coverage of all of Germany s regions. SME Diagnosis 217 is the sixteenth annual analysis conducted by Deutscher Sparkassen- und Giroverband and provides representative data on the current status and future prospects of small and medium-sized enterprises in Germany.

3 SME Diagnosis 217 Contents 1 Key Findings at a Glance SME Diagnosis 217: The Trends 3 2 Focus Theme The Digitalisation of SMEs A challenge facing enterprises Where do Germany s SMEs stand today? External studies confirm and complement our findings Conclusions and demands for policymakers 36 3 Business Performance The Business Performance of Germany s SMEs Business performance continues to be strong Stable earnings performance in SME segment Financial position once again improved, persistent weakness of investment 47 4 Fundamentals Sources and Methods Sources Overview of the key financials Calculation methods 61 1

4 SME Diagnosis 217 Titel 1 Key Findings at a Glance SME Diagnosis 217: The Trends 2

5 SME Diagnosis Key Findings at a Glance SME Diagnosis 217: The Trends One of the key challenges facing SMEs in Germany is digitalisation. In the next few years, small and medium-sized enterprises will have to master this challenge. This will have an impact on their competitiveness, and in turn, on their future commercial success. SMEs play a prominent role in Germany and are closely interlinked with large-scale enterprises. For this reason, this challenge affects the German economy as a whole. In digitalisation as in all groundbreaking innovations there are very few fixed reference points for small and medium-sized enterprises. It is hard to predict which investments are worthwhile and when. The answer to this question will also vary, depending on the sector and the size of the enterprise involved, and depending on the competitive environment. In addition, digitalisation is what is referred to as a disruptive innovation, i.e. an innovation that affects the entire production process and the relationships with suppliers and customers. It is therefore understandable that some enterprises have adopted a wait-and-see attitude, in particular in an environment of widespread uncertainty. Innovation is therefore a topic that requires considerable management attention. This is the only way to ensure that an enterprise will continue to be successful in the medium term. It is true that this transformation process is focused on the manufacturing sector (Industry 4.). However, it also affects craft establishments, service providers and many other sectors, including agriculture. As a new technology, digitalisation opens opportunities in competition, in particular for small and medium-sized enterprises if they apply new instruments quickly and flexibly. This may include: the systematic analysis of large data volumes ( big data ), targeted customer contacts, intelligent networking, lower costs, and more efficient production. This will enable enterprises to tap into new markets. On the other hand, new competitors will enter the 3

6 Findings Equity ratio has improved (as a percentage) Personnel expenses ratio has decreased (as a percentage)

7 88 percent of the savings banks state that digitalisation has been largely or at least partly implemented by their business clients. 35 percent of the responses state that the key drivers of digitalisation are cost reductions / efficiency improvements. In 33 percent of the SMEs, the mentality prevailing in the enterprise is the greatest impeditment to digitalisation. The analysis of balance sheet data covers 24, enterprises for the most recent year. Return on assets has decreased (as a percentage) Return on sales has declined (as a percentage)

8 SME Diagnosis Key Findings at a Glance market. Often it will be necessary to develop completely new business models. The information gathered for this SME Diagnosis regarding the digitalisation efforts made in Germany confirms that there is need for action. The current status of preparations varies widely, depending on the size of the enterprises and the sector in which they operate. In some sectors, shortcomings are all too apparent. These will have to be actively addressed. The government can support this process by creating a positive environment for investment and innovation. Once such an environment has been created, small and medium-sized enterprises actually have particularly good opportunities because of their flexibility. They can benefit from the change in processes with regard to production, organisation and information. In our annual survey, we interviewed 43* German savings banks in summer 216. As a priority topic, the survey also collected assessments on the current status of digitalisation in Germany s SME segment. In this context, more than three-quarters of the savings banks relationship managers for business clients reported that the vast majority of small and medium-sized enterprises had implemented digitalisation only in specific areas. Roughly ten percent of the respondents stated that German SMEs had even reached an advanced stage of digitalisation, while no respondent had stated in the overall assessment that the digitalisation of German SMEs had reached a very advanced stage. Conversely, ten percent of the savings banks stated that the digitalisation efforts of SMEs were still at a planning stage. However, in only very few isolated cases did the respondents note that SMEs had not yet given any thought to digitalisation. The personal interviews which were conducted with selected experts in addition to the postal survey among all the savings banks by and large confirmed the findings of the survey. As expected, one of the findings of the survey conducted among savings banks was that, when broken down by economic sector, the manufacturing sector was most advanced in terms of digitalisation. More than half of the respondents stated that digitalisation had reached an advanced stage in the manufacturing sector. By comparison, the construction sector is much less advanced. In this sector, only three percent of the savings banks relationship managers für business clients stated that 6 * (as of July 216)

9 SME Diagnosis Key Findings at a Glance their customers had reached an advanced stage in digitalisation. At roughly 38 percent, the majority of savings banks diagnosed digitalisation in some areas only. According to 34 percent of the respondents, digitalisation projects were still in the planning phase. In the assessment of savings banks, trade holds a mid-field position in terms of digitalisation, above the average of all enterprises. One in four savings banks reported that digitalisation had reached an advanced or even very advanced stage in this economic sector. In the assessment of the savings banks relationship managers for coporate customers, Other Services ranked second after the manufacturing sector. Craft establishments were at the bottom in terms of digitalisation. Two-thirds of the experts stated that digitalisation was still in the planning stage or had not yet been given any thought. As expected, our survey showed that the level of digitalisation among Germany s SMEs increases with the level of annual turnover. In enterprises with a turnover of between 25 million and 5 million, twothirds of the respondents saw an advanced or very advanced stage of digitalisation. For enterprises with a turnover of between 5 million and 25 million, this assessment is still given by one-third of the experts. And in more than half of these cases, the experts stated that digitalisation had been implemented in some areas. Small enterprises with a turnover of up to 1 million have not achieved a very advanced or advanced stage in digitalisation in virtually any sector. Only large-scale enterprises with a turnover of more than 5 million had achieved a very advanced stage of digitalisation, according to nearly one-third of the responses. In the assessment of the savings banks experts, digitalisation was primarily driven by the desire to reduce costs and to increase efficiency. However, customer expectations, sales and competition were nearly as important, while the development of new products or services was much less important. SMEs fell far behind in this respect. According to the survey, the mentality prevailing in an enterprise was the most important impediment to greater digitalisation. According to the responses, (lack of) employee skills was the second most important impediment. Without a 7

10 SME Diagnosis Key Findings at a Glance positive and proactive role by management, digitalisation cannot be consistently addressed. Another important condition is that employees must be open-minded and amenable to digitalisation. A significant proportion of the respondents drew attention to the capital expenditure associated with digitalisation. In view of these findings, economic policymakers should make further efforts to facilitate digitalisation in Germany s SME segment. This will require a faster expansion of fibre-optic networks, further adjustments of the regulatory framework, and investments in education and training. However, it will also be necessary to give greater priority to this issue. This could be achieved by establishing a separate department in the German government, following the example of the EU Commission. In addition to the focus theme digitalisation, the 217 SME Diagnosis also contains an assessment of the current status of the Germany s SMEs. This assessment is based, on the one hand, on the analysis of the year-end financial statements of small and medium-sized enterprises and, on the other hand, the results of a survey conducted among all German savings banks in late summer 216. The collection of balance sheet data comprises a maximum of more than 3, year-end financial statements per year, which makes it the biggest database of its kind in Germany that can be systematically analysed. This edition of the SME Diagnosis is based on the year-end financial statements up to the year 215. The survey reached a response rate of over 8 percent. This means that the survey conducted among experts of German savings banks in late summer 216 can be regarded as being very representative. In summer 216, most respondents rated the business performance of Germany s SMEs as good. While only about one-third of the respondents stated that the business performance of SMEs was better than in the previous year, two in three experts stated that the performance was at least unchanged. As the recovery continues, there is of course less of an opportunity to achieve further improvements. However, only very few respondents stated that the SMEs performance had deteriorated. The results of the survey are consistent with the macroeconomic finding of a solid recovery. However, the catch-up process is coming up against its limits and is approaching a plateau. 8

11 SME Diagnosis Key Findings at a Glance A preliminary analysis of the balance sheet data for 215 has shown that the profitability of SMEs deteriorated slightly. Based on the 112, balance sheets already available, the median of the return on sales decreased by 1.1 percentage points, compared with 214. Nevertheless, return on sales reached a very solid level of 7.4 percent. In the balance sheets analysed, return on assets fell by 2.4 percentage points in 215, reaching a level of 9.4 percent. Return on assets is defined as an enterprise s net income and interest on borrowed capital as a percentage of total assets. The personnel expenses of small and medium-sized enterprises as a percentage of their total output decreased in 215. The personnel expenses ratio fell by 1.1 percentage points to 16.8 percent. In view of the macroeconomic trends, this reduction of personnel expenses comes as a surprise. In 215, the compensation per employee in the national accounts increased by 2.5 percent. The compensation also includes the employers social security contributions. At the same time, the nationwide statutory minimum wage entered into force at the beginning of last year. Apparently, most of Germany's small and medium-sized enterprises managed to compensate for these charges with stronger turnover growth. In addition, the overall decline in personnel expenses observed in the balance sheet data is primarily due to smaller enterprises. In enterprises with an annual turnover of 1 million or more, personnel expenses increased. It is noteworthy that Germany s small and medium-sized enterprises continued to increase their equity capitalisation in 215. In the 215 balance sheets available to date, the median of the equity ratio increased substantially (by 4.2 percentage points) to 26.8 percent, which is a new record. Until 23, the equity ratio in Germany s SME segment had been below five percent for decades. According to the survey conducted among savings banks, the positive trend in the equity ratio continued in percent of the respondents reported that the equity capitalisation had once again improved in the SME segment in the course of the year. Nearly one out of three savings banks reported that the equity ratio had remained unchanged. There were virtually no reports of a deterioration of equity ratios. 9

12 SME Diagnosis Key Findings at a Glance A high equity base increases the robustness of enterprises and facilitates their access to borrowed capital. This means that small and medium-sized enterprises should be able to cope well with the high capital expenditure that, to some extent, is associated with digitalisation. However, aside from a trend towards financing investments from their own resources, the significant increase in the equity ratio is also indicative of a persistent reluctance on the part of small and medium-sized enterprises to invest. Even high capacity utilisation and excellent financing conditions did very little to change this. The weakness of investment is therefore primarily the expression of great uncertainty, in particular as a result of the global economic environment. However, the lack of investment also suggests that there is need for action with regard to the national regulatory framework. In this difficult environment, only one in five savings banks reported in late summer 216 that they had provided more funds for financing investments than one year earlier. Nearly 3 percent of the savings banks even stated that they had made fewer funds available than in the previous year. One out of two savings banks reported that there had been no change in 216 compared with the previous year. Once again, the replacement of old plant and machinery was the predominant investment motive. Overall, Germany s SMEs continue to have a thoroughly sound financial footing. While their profitability decreased slightly, their financing position is excellent. Germany s SMEs can and should make greater use of investment opportunities. The big digitalisation trend opens up a broad range of opportunities. And in Germany s SME segment, there is also a need for greater efforts to be made with regard to digitalisation. These efforts will have to be made if Germany's SMEs want to maintain and further strengthen their strong position and competitiveness, both in Germany and internationally. 1

13 SME Diagnosis Key Findings at a Glance 11

14 The Modules of the SME Diagnosis Focus Theme b The digitalisation of SMEs Analysis of Balance Sheet Data b Analysis of the largest collection of year-end financial statements of German enterprises b Up to 3, balance sheets of SME customers of savings banks and Landesbanken per year b 111,874 balance sheets for 215 were already available at the time of the analysis

15 Survey among Experts b The savings banks assessment of the business performance of SME customers b Up-to-date assessment as the survey was conducted in summer 216 b Specific additional questions were asked with regard to the focus theme b High response rate: over 8 percent of questionnaires were returned in 216

16 SME Diagnosis 217 Titel 2 Focus Theme The Digitalisation of SMEs A challenge facing enterprises Where do Germany s SMEs stand today? External studies confirm and complement our findings Conclusions and demands for policymakers 36

17 SME Diagnosis Focus Theme The Digitalisation of SMEs Digitalisation will radically change the way we do business, the way we work and our everyday lives. In some parts of the SME segment, profound changes are already manifest today. This includes, for instance, retailing (e-commerce), the publishing industry, the entertainment industry, and tourism. Digitalisation provides great opportunities for enterprises, employees and consumers. However, it also poses an enormous challenge for Germany s small and medium-sized enterprises. 2.1 A challenge facing enterprises Digitalisation is creating an information-based, smart, highly productive, networked world. All enterprises will be affected by digitalisation, although the extent to which they will be affected depends on their size, sector and customers. While this transformation will primarily occur in the manufacturing sector (Industry 4.), craft establishments and service providers will also be affected. SMEs can and must remain on par with large-scale enterprises with regard to digitalisation. The new technologies will provide opportunties in competition, in particular for small and medium-sized enterprises: the systematic analysis of large data volumes ( big data ), targeted customer contacts, intelligent networking, lower costs, and more efficient production. This will enable enterprises to tap into new markets. On the other hand, new competitors will enter the market. Frequently, it will even become necessary to develop completely new business models. In addition, digitalisation will also enable enterprises to make more sustainable use of resources and the environment. And digitalisation will make it possible to better cope with demographic change. However, to secure an enterprise s success, it will be indispensable for management to deal intensively with the various aspects of digitalisation in a timely manner. Data are the key raw material for digitalisation. The data have to be collected, processed, 15

18 SME Diagnosis Focus Theme linked and protected these activities will become key competencies of successful enterprises. Digitalisation affects the entire value chain and the entire life-cycle of products, including product development and production, logistics, sales and service, as well as internal processes such as human resources management and cost control. Innovation and investment will become key concepts in successfully adapting to the digital world. The greatest impact of digitalisation will be felt in the manufacturing sector. Since the Hannover Trade Fair in 211, Industry 4. has become an established buzz word in this context. Digitalisation in the manufacturing sector is regarded as the fourth industrial revolution. Mechanisation at the end of the 18th century was followed by high-volume production using electrical energy at the beginning of the 2th century. Subsequently, automation through the use of electronics and IT emerged at the beginning of the 197s. Industry 4. means the end-to-end interconnection of value chains through digitalisation, communication and automation technologies. Industry 4. is the interaction of mechanics, electronics and software. This permits a continuous exchange of information during the entire process, including production, logistics, service and recycling (smart factory). Suppliers and customers are integrated into the networking process. In industrial applications, this makes it possible to control and coordinate processes at various locations in real time. This permits more flexible and more individual production at lower cost, which is achieved, among other things, by improving inventory management. Capacity utilisation of plant and machinery can be increased because the machines will, inter alia, automatically order spare parts in time. The supply of plant and equipment no longer involves only the delivery of a machine, but encompasses entire system solutions, including the associated services. Industry 4. will lead to the development of new ways of adding value and new business models. The new technologies will provide opportunities, in particular for start-ups and young, innovative businesses, as well as for small and medium-sized enterprises. What is referred to as cyber-physical systems (CPS) is at the heart of Industry 4.. These are networks of small computers equipped with sensors ( eyes and ears ) and actuators ( hands and feet ). These computers, which are referred to as embedded systems, are integrated into equipment, machines, materials, and products and are interconnected via the web ( Internet of Things ). In future, there will be billions of 16

19 SME Diagnosis Focus Theme intelligent products of this kind. These products remain connected via the web throughout their (entire) life cycle. They store large amounts of data including data on their own operating status in a data cloud. In addition to the cyber-physical systems, there are three additional technological drivers of Industry 4.. The interconnection of machines and products creates enormous data volumes ( big data ). Interlinking the data is crucial for success ( smart data ). The data are interlinked horizontally between the enterprises involved in production, and vertically, at the various levels of the manufacturing companies. The analysis of the data requires innovative analytical tools. In addition, the large data volumes generated by cyber-physical systems can only be efficiently used by means of cloud technologies. Last but not least, Industry 4. involves the use of what is referred to as additive production processes such as 3D printing. This is the only way to implement the technologically feasible full individualisation of products in line with customer specifications i.e. a lot size of one at low cost. It is not yet possible to reliably assess what quantitative macroeconomic effects the predominantly qualitative process of digitalisation will have on the German manufacturing sector. The results of various studies vary widely. To some extent, this is due to different assumptions. In part, it is also due to the definition of Industry 4. or the economic sectors covered. In any case, the effects are expected to be significant. A study conducted in 215 on behalf of the Confederation of German Industry (BDI) marks the upper end of the scale. According to this study, the gross value added in German industry may increase to 425 billion by 225. The potential identified for European industry amounts to as much as 1.25 billion. In 215, Germany's Federal Ministry of Economics and Energy also commissioned a large-scale study. The purpose of this study was to analyse more than 6 publications on Industry 4. and 29 studies with a total of 15 indicators. In addition, a separate survey was conducted with 53 industry experts. For six selected industrial sectors, Industry 4. was estimated to generate additional annual turnover of approx. 3 billion within a period of five years. This corresponds to an additional gross value added of approx. 8 billion per annum. This will require capital expenditure of 18 billion per year. In the sectors covered in this study, turnover growth is expected to be most significant in 17

20 SME Diagnosis Focus Theme the automotive industry ( 1.5 billion), mechanical engineering ( 6.4 billion), and electrical engineering ( 4.7 billion). These estimates are considered to be optimistic, in part because they are based on the assumption that the required investment will actually be made. In addition, it is also assumed that the companies will cope with the extensive structural change. However, surveys have shown that investment in digitalisation will not generate correspondingly higher returns in the first five years. For this reason, there is a risk that capital expenditure will probably not reach the estimated order of magnitude. 2.2 Where do Germany s SMEs stand today? The German business community will only cope with digitalisation successfully if small and medium-sized enterprises (SMEs) are also able to master the fourth industrial revolution. This is due to the prominent role played by small and medium-sized enterprises in Germany. However, because of their close links with large-scale enterprises, the competitiveness of large-scale enterprises would also be jeopardised if small and medium-sized enterprises missed the boat. Digitalisation provides growth opportunities for SMEs, just as it does for large-scale enterprises. These opportunities arise from more efficient production and extensive interconnection, more targeted customer contacts and analyses of large data volumes. However, there are also significant challenges. Business models are subject to review. Value chains and supply chains will change radically across national borders. Last but not least, new competitors will emerge with customer-focused services. It is therefore not surprising that many small and medium-sized enterprises have adopted a waitand-see attitude. Too many questions are open; opportunities and risks are too hard to assess because there is no blueprint for the digital transformation. The focus of this year s annual survey on the performance of SMEs, which was conducted in summer 216 among Germany s 43* savings banks, was on the status of digitalisation among German small and medium-sized enterprises. The vast majority (78 percent) of the savings banks relationship managers for SMEs stated that digitalisation had been implemented in some areas in their client enterprises. Approx. ten percent of the respondents reported that digitalisation had already reached an advanced stage. An equally high percentage stated that digitalisation was still at a planning stage. 18 * (as of July 216)

21 SME Diagnosis Focus Theme Overall, how do you assess the status of digitalisation among your business clients? Mean value of all responses as a percentage Baden-Württemberg Bavaria Advanced Implemented in some areas At planning stage Not yet given any thought Berlin/Brandenburg Hesse Mecklenburg- Vorpommern Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Rhineland Palatinate Saarland Saxony Saxony-Anhalt Schleswig-Holstein Thuringia Germany as a whole Due to rounding of figures, percentages do not sum up to exactly 1 Chart 1 19

22 SME Diagnosis Focus Theme The two extreme responses i.e. digitalisation has reached a very advanced stage or have not yet given any thought to digitalisation were given in only a few of Germany s federal states, or not at all. When interpreting the findings broken down by federal state, it should be borne in mind that differences in the size of business clients and in their share of the economic sectors play a role. The survey did not produce a clear pattern in the breakdown by federal state. Following the Bavarian savings banks, for instance, the savings banks in Thuringia and Mecklenburg-Vorpommern reported the highest shares of advanced digitalisation. On the other hand, the share reported by savings banks in Baden-Württemberg was below average. However, if the two reponse categories advanced and implemented in some areas are taken together, the result was more in line with expectations. Bavaria and Baden-Württemberg reached high shares, with over 9 percent each. On the other hand, structurally weak federal states like Rhineland-Palatinate and Saarland were lagging behind. However, Hesse and North- Rhine Westphalia also ranged below the national average. With approx. 19 percent, the State of Hesse came out on top with regard to the response at the planning stage, followed by Saarland with 17 percent. In six federal states, a low percentage of the savings banks experts noted that no thought had as yet been given to digitalisation. Aside from Saxony-Anhalt and Rhineland-Palatinate, this appied to Hesse, Bavaria, Baden-Württemberg and North-Rhine Palatinate, i.e. fairly strong federal states in the western part of Germany. However, there are certainly also underdeveloped regions in these larger federal states. The personal interviews which were conducted with selected experts in addition to the postal survey among the savings banks by and large confirmed the findings of the survey. They permit a look behind the scenes, as it were, and hence help to understand the survey results. Some of the interviewees, for instance, drew attention to the fact that SMEs had a limited understanding of digitalisation. Their insight was essentially restricted to the use of the web as an additional sales channel and isolated improvements in the production process. In the assessment of other experts, less than half of the enterprises had a strategy for digitalisation. They stated that young businesses, referred to as "start-ups, benefited from the fact that their modernisation was not hampered by established structures. However, they also conceded that technology-intensive enterprises were making greater progress. 2

23 SME Diagnosis Focus Theme How do you assess the status of digitalisation among your business clients, by sector? Status of digitalisation Germany as a whole, as a percentage of all responses in the manufacturing sector in the construction sector Advanced Implemented in some areas At planning stage Not yet given any thought in retail trade in other services in the craft sector Chart 2 21

24 SME Diagnosis Focus Theme In the survey among experts, the breakdown by economic sector provides a clearer picture, although the picture that emerges is again different. According to the savings banks relationship managers for business clients, digitalisation is by far most advanced in the manufacturing setor. In the view of approx. 56 percent of the respondents, digitalisation has reached an advanced stage in the manufacturing sector; 6 percent even stated that digitalisation was very advanced in this sector. On the other hand, the percentage shares of the two responses still in the planning stage and not yet given any thought given for the manufacturing sector were negligible. If the two categories very advanced and advanced are taken together, structurally weak federal states in addition to Bavaria - come out on top. This applies to Schleswig-Holstein, Mecklenburg-Vorpommern and Rhineland-Palatinate. Digitalisation provides the opportunity for these federal states to catch up. Saarland, Saxony-Anhalt, Thuringia and Hesse are at the lower end of the scale. In Berlin/Brandenburg, digitalisation reached an above-average rating, at least with regard to the response advanced. On the flip side, however, the share of the response not yet given any thought is also the highest (11 percent). The construction sector is not yet as far advanced as the manufacturing sector in its preparations for digitalisation. The savings banks experts confirmed that, except for in Bavaria, enterprises in the construction sector had not reached a very advanced stage in their preparations. In addition, there were hardly any responses stating that digitalisation had reached an advanced stage. Mecklenburg-Vorpommern stands out positively in this respect. Not even one out of two respondents believed that digitalisation had been implemented in some areas in the construction sector. On the other hand, more than one in four relationship managers for business clients stated that digitalisation was still at the planning stage or that it had not yet been given any thought. Again, responses varied widely, depending on the federal state involved. Fairly good positions were achieved in Thuringia, Mecklenburg-Vorpommern and Berlin/Brandenburg i.e. federal states in the eastern part of Germany but also in Schleswig-Holstein. Saarland, Hesse and Saxony came last in the construction sector. In the assessment of savings banks, trade holds a mid-field position in terms of digitalisation, above the average of all enterprises. As many as one in four respondents stated 22

25 SME Diagnosis Focus Theme that digitalisation was advanced or even very advanced in this economic sector. Particularly good results were achieved in Schleswig-Holstein, Berlin/Brandenburg and Saarland. Nearly two-thirds of the respondents stated that digitalisation had been implemented at least in some areas. Mecklenburg-Vorpommern, Saxony-Anhalt and Thuringia achieved very high ratings in this category. In addition, Saarland and Hesse are expected to catch up in the next few years. Other services rank second following the manufacturing sector. This heterogeneous sector includes not only the ICT industry but also business-related service providers and service providers for private households. More than one-third of the savings banks experts confirmed that the digitalisation of these enterprises had reached a very advanced or an advanced stage. The frontrunners are Berlin/Brandenburg, Bavaria, North-Rhine Westphalia and Saarland. More than half of the respondents reported that the enterprises had successfully digitalised their activities in some areas. This applies in particular to Saxony-Anhalt, Schleswig-Holstein and Lower Saxony/ Bremen/Hamburg. On the other hand, Hesse, Rhineland-Palatinate and Thuringia lag behind. This also applies to Mecklenburg-Vorpommern, although the positive responses also reached a high level. Craft establishments are at the bottom of the table in terms of the current status of digitalisation. More than two-thirds of the savings banks' experts stated that the digitalisation process was still at the planning stage or had not yet been given any thought. Only slightly less than one-third of the respondents stated that craft establishments had digitalised their activities in some areas. No respondent stated that digitalisation had reached a very advanced stage, and hardly any respondents reported that digitalisation had reached an advanced stage. With reference to craft establishments, responses also varied, depending on the federal state involved. Mecklenburg-Vorpommern, Thuringia and Berlin/Brandenburg top the table, while Saarland, Baden-Württemberg and Hesse are at the lower end of the scale. With reference to the situation in the various economic sectors, the supplementary interviews also provided additional insight. Most of the interviewees stated that there were also significant differences within the sectors. The leading role of the manufacturing sector was consistently confirmed. However, the interviewees drew attention to the fact 23

26 SME Diagnosis Focus Theme How do you assess the status of digitalisation among your business clients, by turnover? Business clients Germany as a whole, as a percentage of all responses up to 1 million over 1 million up to 5 million Advanced Implemented in some areas At planning stage Not yet given any thought over 5 million up to 25 million over 25 million up to 5 million over 5 million Chart 3

27 SME Diagnosis Focus Theme that there were also positive examples of craft establishments which were suppliers for larger enterprises. In addition, they emphasised the significance of the size of enterprises, which in some cases was more important than the economic sector in which enterprises operated. This applied, for instance, to trade. The breakdown by the enterprises turnover also provides deeper insights. As expected, the survey among experts showed that the level of digitalisation increased with the size of enterprises. While the savings banks experts found that there were virtually no enterprises with a turnover of up to 1 million in which digitalisation had reached a very advanced or at least an advanced stage, as many as two-thirds of the respondents reported such advances in digitalisation in enterprises with a turnover of between 25 million and 5 million. A positive leap in digitalisation had already been observed in enterprises with a turnover of between 5 million and 25 million. According to onethird of the respondents, digitalisation had reached a very advanced or advanced stage. More than half of the respondents stated that digitalisation had been implemented in some areas in this segment. In enterprises with a turnover of over 5 million, the share of responses stating that digitalisation had reached an advanced stage does not increase any further. In the category very advanced, however, there was a leap from 11 percent to 3 percent. This means that the share of the responses advanced and very advanced increased to over 8 percent for large-scale enterprises. Conversely, the responses at the planning stage or not yet given any thought given by two-thirds of the relationship managers for business clients decreased to nearly zero for enterprises with an annual turnover of more than 25 million. In the interviews, most of the experts cited an annual turnover of 25 million as a threshold. The level of digitalisation increased significantly above this mark. However, there was no linear correlation between turnover and digitalisation. Instead, the experts had observed discontinuities or a step curve. Again, this does not include start-ups. One of the experts drew attention to the fact that turnover was not the appropriate benchmark. Instead, he suggested that the enterprises profitability was the key prerequisite to investments in digitalisation. Another expert stated that the economic sector in which an enterprise operated (which was also covered in the survey) was more important than its turnover. With reference to the drivers of digitalisation in the SME segment, over one-third of the 25

28 SME Diagnosis Focus Theme In your assessment, what are the key drivers of digitalisation in enterprises? As a percentage of all responses New products Cost reduction/efficiency Customer expectations/sales Competition Other (specify) Baden-Württemberg Bavaria Berlin/Brandenburg Hesse Mecklenburg- Vorpommern Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Rhineland Palatinate Saarland Saxony Saxony-Anhalt Schleswig-Holstein Thuringia Germany as a whole Chart 4

29 SME Diagnosis Focus Theme responses given in the survey among experts cited cost reductions and/or efficiency gains as the key motives. However, almost the same importance was attached to customer expectations, sales and competition, while the development of new products or services was regarded as much less important, accounting for only about four percent of the responses. This underlines the fact that SMEs lag behind in this respect. When broken down by federal state, the results varied widely in some cases, however, without showing a clear pattern. In the interviews, the experts also cited cost reductions and/or efficiency gains along with customer expectations and sales as equally important drivers of digitalisation. The first two drivers were mainly predominant in highly competitive segments. In this context, the experts once again stressed the importance of the attitude prevailing in an enterprise. Digitalisation pioneers are mainly found in enterprises in which young managers bear responsibility. Greater progress had been achieved in enterprises in which younger managers who are well trained in information technology were responsible. In addition, stipulations imposed by supply and service agreements were also cited as drivers of digitalisation. Progress was achieved in particular in enterprises that were subject to strong pressure to adjust, e.g. from clients. The driving force of competition was stressed mainly with regard to trading enterprises. At the same time, however, the experts also emphasised the dependence on the size of enterprises, which in some cases was more important than the economic sector in which they operated. Their international business was cited as another criterion which promoted digitalisation. However, there are not only drivers of digitalisation, but also impediments. The mentality prevailing in an enterprise was cited as a major stumbling block in one-third of the responses given in the survey by experts. As long as the management of an enterprise is not convinced of the momentum and the impact of digitalisation, the necessary strategic decisions will not be taken and the required resources will not be made available. It is striking that less importance is attached to mentality in the federal states in the eastern part of Germany, except for Saxony-Anhalt, while mentality is considered to be a major impediment in structurally weak federal states in the western part of Germany such as Saarland, Lower Saxony and Schleswig-Holstein, but also in Hesse and North-Rhine Westphalia. 27

30 SME Diagnosis Focus Theme Impediments to digitalisation in SMEs? As a percentage of all responses Qualification of employees Data security Regulatory framework Mentality in enterprises Capital expenditure Uncertain returns Infrastructure Other reasons (specify) Baden-Württemberg Bavaria Berlin/Brandenburg Hesse Mecklenburg- Vorpommern Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Rhineland Palatinate Saarland Saxony Saxony-Anhalt Schleswig-Holstein Thuringia Germany as a whole Chart 5

31 SME Diagnosis Focus Theme The second most important impediment cited by the experts is the qualification of employees. The rate of responses citing lack of employee qualifications as an impediment was particularly high in structurally weak federal states such as Saarland, Berlin/Brandenburg, Mecklenburg-Vorpommern and Rhineland-Palatinate. The third most important impediment, cited in nearly one-fifth of the responses, is the capital expenditure associated with digitalisation. At first glance, this response is astonishing, not only because the vast majority of enterprises have sufficient equity but also because low-cost financing is available through bank loans. In the final analysis, the hesitant attitude of management the most frequently mentioned reason for the lack of investment in digitalisation therefore probably plays a role in this context. Insufficient infrastructure was only cited by 11 percent of the respondents. However, infrastructure was cited much more frequently as an impediment in Mecklenburg-Vorpommern and Saxony-Anhalt. The percentage of responses citing data security (which is intensely debated in public) and the uncertain return on investments in digitalisation as impediments was surprisingly low. In the supplementary interviews, however, the experts drew attention to the fact that, while data security played a minor role in the talks with the savings banks, the enterprises attached considerable importance to data security. Overall, this once again confirms the impression gained from the survey that the mentaility prevailing in an enterprise and the lack of employee qualifications constituted the greatest impediments. In the supplementary interviews, however, the experts also drew attention to the great uncertainty associated with investments in digitalisation. According to the experts, one problem was that measurable success often took a long time to materialise. In addition, rapid technological change in this field might encourage enterprises to wait for the next, more efficient generation before buying and implementing high-quality IT solutions. Last but not least, some experts also cited insufficient infrastructure in rural regions as an impediment to digitalisation. The distinction between the adjustment of business processes and the change in the business models plays a key role In the discussion on digitalisation. According to 8 percent of the savings banks relationship managers for business clients, changes in business processes are clearly predominant in Germany s SME segment. This applies to the larger economically strong federal states 29

32 SME Diagnosis Focus Theme Baden-Württemberg, Bavaria and North- Rhine Westphalia. However, this finding is even more pronounced in structurally weak federal states such as Saarland, Thuringia, Rhineland-Palatinate and Schleswig-Holstein. Only one in five respondents cited the adjustment of the business model as the key objective. On the other hand, this motive was cited much more frequently in Mecklenburg-Vorpommern, Berlin/Brandenburg and Saxony. In several interviews with experts, it was pointed out that the distinction between business processes and the business model could not always be upheld in practice. Processes had to be adapted in line with the business model. Apart from this, however, the digitalisation of business processes was clearly predominant. There was a risk that, by concentrating on processes, enterprises were failing to give sufficient thought to their business model. This was seen as having potentially serious consequences for the future of the enterprise. Reflections on the business model required a certain corporate culture. Indeed, this might be regarded as an Achilles heel of small and medium-sized enterprises in Germany. Seeking to perfect existing procedures (the incremental approach) was often held up as a strength of German enterprises, whereas the creation of completely new (disruptive) models was associated with greater uncertainty and less likely to be seen in this light. The interviews with experts provided additional information about the status of digitalisation among Germany s SMEs. The first question was about where the responsibility for digitalisation resides. Only in enterprises with a higher turnover does this responsibility rest predominantly with the board of management or the top management. In smaller enterprises, competence for this matter was more likely to lie with specialists lower down the tier. At the same time, these smaller enterprises benefited from having a less differentiated hierarchy than in larger enterprises. Whatever the case, some of the impetus for digitalisation had to come from management. Moreover, success was only likely if digitalisation was actively practised in all units of the enterprise. Another question raised in the interviews with experts concerned the amount of the investment budget for digitalisation. Most respondents indicated that it would account for less than ten percent of the total investment budget. One interviewee even stated that half of small and medium-sized enterprises earmarked up to five percent. One-fifth of 3

33 SME Diagnosis Focus Theme enterprises invested five to ten percent. Almost one-third devoted more than ten percent of their investment funds to this purpose. Finally, interviewees were asked how investment in digitalisation was financed. Several respondents suggested that this was a traditional field for leasing. Other options included public funding and venture capital for young enterprises. Some interviewees, however, identified traditional loans as a financing option. Relationship managers working with business clients were now facing new challenges that were being met by training courses and centres of excellence. In some cases, enterprises submitting loan applications were asked about their level of digitalisation. 2.3 External studies confirm and complement our findings The findings of the survey conducted among savings banks and the supplementary interviews with experts are essentially in line with the findings of many other studies. In addition, these other studies raise a number of additional, complementary issues. Direct comparisons are difficult, however, not least because the methods adopted in the surveys are very different, especially in terms of the size of the enterprises and the sectors which were surveyed. This might in part explain why some of the findings are contradictory, for example on digitalisation in vehicle manufacturing. A different perspective emerges, for example, when large-scale enterprises are included in the survey and when other countries are drawn into the scope. This was the approach adopted by the audit and consulting firm PwC. In a global study in late 215/early 216, 513 industrial enterprises in Germany were interviewed about their level of digitalisation. Major differences emerged between sectors. Electrical engineering, transport & logistics, vehicle manufacturing and the chemicals industry led the field. Metals & mining, mechanical engineering, construction and aviation lagged behind. Another report examines, firstly, the position of the German digital industry, i.e. the ICT sector and the Internet economy, and subjects them to international comparison. Secondly, the report analyses the level of digitalisation in selected business sectors in Germany. This study was carried out by TNS Infratest and the Centre for European Economic Research (ZEW) on behalf of the Federal Ministry of Economics and Energy. In the Monitoring Report Wirtschaft DIGITAL 216, 924 German enterprises of different sizes 31

34 SME Diagnosis Focus Theme from eleven sectors were surveyed in detail between April and July of that year. It ranked the domestic digital economy sixth out of ten countries, the same ranking as the previous year, with a score of 53 points out of 1. France scored only one point less. The top three places went as in the previous years to the United States (76 points), South Korea (7 points) and the United Kingdom (65 points). China scored 47 points. According to the Monitoring Report 216, only two commercial sectors in Germany have achieved a very high level of digitalisation. The ICT sector notched up 75 index points and knowledge-intensive services 7 points. Seven of the eleven sectors were rated as having an average level of digitalisation: financial services & insurance with 61 points, the trade sector with 55 points, energy & water supply with 48 points and mechanical engineering with 46 points. This category also includes chemicals & pharmaceuticals with 45 points, transport & logistics with 43 points and vehicle manufacturing with 4 points. Low levels of digitalisation still prevail in the health sector and in other manufacturing with 35 points each. Furthermore, the Monitoring Report Wirtschaft DIGITAL 216 examines the level of digitalisation as a function of the size of enterprises. In 216, German SMEs with ten to 249 employees scored 5 points on the index, a level of digitalisation that lay five points below that of the economy as a whole. The study found the highest level of digitalisation among the smallest enterprises with up to nine employees, where the score was 55 points. Large enterprises with over 25 employees scored 53 points. Although SMEs were just as aware as all other enterprises of the importance of the issue, their levels of product digitalisation and the share of turnover they achieved with digital services were a little lower. There were major differences, however, when it came to the use of digital equipment and technology. Three out of four of all enterprises indicated that almost all of their employees made use of digital devices, but among SMEs the figure was just one in two. Similar findings were established for the use of digital infrastructure and cloud computing. SMEs were also lagging well behind with regard to Industry 4. projects and big data analysis. Two-thirds of SMEs reported efficiency gains followed by innovation capacity and competitive advantages as the critical drivers of digitalisation. For half of these enterprises, the digital know how of employees was particularly important. 32

35 SME Diagnosis Focus Theme Another report compares the position of Germany s digital industry, i.e. the ICT sector and the Internet economy, with the rest of the world. It also analyses the level of digitalisation in selected sectors of Germany s trade and industry. This study was conducted by TNS Infratest and the Centre for European Economic Research (ZEW) on behalf of the Federal Ministry of Economics and Energy. For the Monitoring Report Wirtschaft DIGI- TAL, 77 German enterprises of different sizes from eleven sectors took part in an indepth survey during the late summer of 215. As in the previous year, the domestic digital economy was ranked sixth among ten countries in 215 (53 out of 1 points). China advanced from seventh to fourth place (55 points). The top three places were held, as in the prior year, by the United States (8 points), South Korea (66 points) and the United Kingdom (57 points). According to this Monitoring Report, ICT was the only German sector that performed well above average in terms of digitalisation, scoring 66 points out of a potential 1. Knowledge-intensive service providers turned in an above-average performance with 59 points, as did the financial services and insurance sector with 55 points. An average level of digitalisation was ascertained in the trade sector with 5 points. Energy & water supply underperformed in 215 with 39 points, as did chemicals & pharmaceuticals with 4 points. Levels were well below average in the health sector with 36 points, vehicle construction with 37 points and other manufacturing with 36 points. The two lastnamed sectors were, however, shown to be catching up fast. The Monitoring Report also compared the level of digitalisation in enterprises with ten to 249 employees with that of trade and industry in general. In late summer 215, the level of digitalisation among SMEs scored only three points less than the economy as a whole. Although SMEs were just as aware as all other companies of the importance of the issue, their levels of product digitalisation and the share of turnover they achieved with digital services were a little lower. There were major differences, however, when it came to the use of digital equipment and technology. Three out of four of all enterprises indicated that almost all of their employees made use of digital devices, but among SMEs the figure was just one in two. Similar findings were established for the use of digital infrastructure and cloud computing. SMEs also lagged well behind with regard to Industry 4. projects and big data analysis. Two-thirds of SMEs 33

36 SME Diagnosis Focus Theme reported efficiency gains followed by innovation capacity and competitive advantages as the critical drivers of digitalisation. For half these companies, the digital know how of employees was particularly important. A study conducted in 216 by the digital association Bitkom evaluated two extensive collections of examples to illustrate how Industry 4. was being applied in Germany. The aim was to demonstrate the different kinds of innovation seen as typical for Industry 4. at work in the different sectors. Ten application categories and nine manufacturing sectors were summarised in a matrix. Mechanical and electrical engineering performed best among the leading sectors. They were followed by vehicle construction and metallurgy. Few applications were identified, on the other hand, in the chemicals & pharmaceuticals industry. The same applied to the rubber, plastics, glass & ceramics, food, drinks & tobacco and furniture sectors. The Federal Ministry of Economics and Energy commissioned a comprehensive study designed to provide a well-substantiated basis for mapping levels of adaptation and identifying areas that required a political response. This was published in June 215 under the title Erschließen der Potenziale der Anwendung von Industrie 4. im Mittelstand, and addressed the potential for applications of Industry 4. in small and medium-sized enterprises. For enterprises with up to 2,5 employees, the study analysed four dimensions: technology, organisation, people and business models. It arrived at the general conclusion that it was too early to make any blanket statements about the implementation of Industry 4. among SMEs. Many enterprises were only just starting out, while others had taken initial steps. The study looked in detail at five functional fields. The level of implementation in data collection and data processing (1) was moderate to good. Much work remained to be done, however, on data analysis. Assistance systems (2), i.e. technologies designed to assist employees in their work, had only partially been implemented by SMEs. A knowledge deficit was identified with regard to the technical options available. SMEs were only just beginning in 215 to network and pursue horizontal and vertical integration (3). Security concerns played an important role in this context. Service orientation and decentralisation (4), which are at the core of Industry 4., required a corporate rethink: away from centralised management and away from a product focus towards a service orientation. There is a need for information and research 34

37 SME Diagnosis Focus Theme in this respect. Lastly, the functional field of self-organisation and autonomy (5), whereby smart products manage their own production, remains on the agenda for the future, as high levels of implementation must be achieved in the other fields before this can happen. To assess how well German enterprises are faring by international comparison, the EU Commission annually compiles a Digital Economy and Society Index (DESI). It collates data on five areas: connectivity, human resources, use of Internet, integration of digital technology and digital public services (e government). In 216, Germany scored.57 points on a scale from zero to one. It had improved year-on-year in all areas except for connectivity (composite 215:.54 points). However, the use of fast broadband services and digital public services remains below the EU average. This places Germany ninth among the EU Member States with a composite score above the EU average (.52 points). It ranges alongside the Netherlands, Austria, Portugal, Estonia and Malta among the leading group of countries. In 216, the report compared the EU Member States for the first time with the most advanced countries in the world: Japan, the United States and South Korea. Only the leading EU countries feature in the top class globally. Taken as a whole, the European Union has some serious catching up to do. Another study carried out for the Federal Ministry of Economics and Energy in 215 described Germany as very well positioned by global comparison on almost all issues of relevance to the future. Consequently, our country can become not only a leading user of technology, but also a leading provider. A top position was identified in the fields of robotics, mechanical engineering, sensor technology and logistics. The Handelsblatt Research Institute has tried to draw on macroeconomic indicators to define the competitive credentials of German industry in terms of digitalisation and specifically the ICT sector in Germany. Its study published in June 216 compares Germany with its leading competitors, i.e. the United States, China and Japan. The purpose of the study was to establish a more objective basis and better comparability than survey-based findings can deliver. The focus is on four themes, each with several indicators. First of all, the study addresses the position of the manufacturing sector, which is at the heart of Industry 4., and in particular the ICT sector. It then compares the infrastructure for information 35

38 SME Diagnosis Focus Theme technology. New business models are also considered, and finally the challenges in terms of human resources. The study concludes that German manufacturing is holding up well against the international competition. It does lag behind, however, in terms of spending on research and development. The assessment of Germany s ICT sector is particularly unfavourable. Apart from underspending on research, it displays a pronounced weakness in the export of goods. As for the capacity for innovation, Germany, China and Japan lag a long way behind the United States, but as China is tangibly closing the gap, Germany and Japan are falling behind. There are problems in Germany, among other things, with setting up start-ups and the availability of venture capital. Germany does perform quite well, on the other hand, in a comparison of education levels, not least owing to the dual system of vocational training. When it comes to digital infrastructure, Germany is well behind the United States and Japan on mobile broadband connectivity. Here again, there is a lack of willingness to invest in telecommunication technologies. Germany does perform well, on the other hand, on security issues and download speeds. 2.4 Conclusions and demands for policymakers Small and medium-sized enterprises make a substantial contribution to the commercial success of the German economy. This applies both to their technological input and in the context of globalisation, with German enterprises adopting strong positions in world markets. To consolidate this success in the next few years, SMEs must tackle the opportunities and challenges of digitalisation. The right conditions are there among SMEs, with their capacity for innovation, their robust finances and their entrepreneurial attitude. However, a positive climate is vital to innovation because only then will major investments be made on the scale required. Finally, it also requires employees to be flexible and willing to adapt. Ultimately, government needs to create the right environment. Our society must also take up the challenge. On the one hand, German enterprises need support if they are to maintain or enhance their strong position in international competition. On the other hand, it is essential to continue attaching great importance to data protection and data sovereignty. This can also add to Germany s attractiveness for business enterprises. And the quality of work is also important. Some of these issues can 36

39 SME Diagnosis Focus Theme only be addressed with a European policy in a single European digital market. Only by implementing successful digitalisation will Germany continue to be an attractive, competitive base for manufacturers and service providers in five or ten years time. The overwhelming view of the experts is that, by and large, small and medium-sized enterprises in Germany have some ground to catch up on digitalisation. In most cases, there is certainly no lack of awareness, but rather of consistent implementation within enterprises. The many positive examples, especially in small start-ups, do not undermine the diagnosis that, across the board, SMEs need to break the backlog. The various uncertainties, not least with regard to the return on investments in digitalisation, are no excuse for delay. Sometimes, a middle course needs to be sought between charging ahead and excessive caution. The ability of SMEs to adapt will determine their future success. Consequently, digitalisation belongs on the agenda of the managing directors or the board of management. The excellent standing of German industry in the global markets should not result in this technological revolution being confined to the manufacturing sector. The transport sector (driverless vehicles), public administration (e government), the health sector (e health) and education (e learning) are all being transformed fundamentally by digitalisation. This is not just about Industry 4., but about our digital economy and society as a whole. Apart from networked production across the value chain, new business models and the emergence of new market players are extremely significant factors. The division between manufacturers and service providers could be gradually erased, and entirely new structures could evolve. A suitable environment is part of this digitalisation scenario for the German economy. There is much that can and must be done by government to support the digitalisation of the economy and of society. The German government s Digital Strategy 225 sets the right priorities. First of all, there is a need for a high-performance infrastructure, a widely available fibreglass network permitting real-time gigabit communication everywhere in the country. Secondly, a regulatory environment must be created to ensure a level playing field. In addition, the strategy must protect the rights of individuals and leave scope for investment and innovation. The abuse of market power must be prevented. The data sovereignty of consumers and an open Internet must be safeguarded. Political 37

40 SME Diagnosis Focus Theme action must also continue to encourage and facilitate entrepreneurial competence and creativity. Skills must be strengthened in information and communication technologies and in the use of software. Not least, there is a need to secure skilled employment and decent working conditions (Work 4.). Finally, there is a European dimension to digitalisation. Germany cannot ward off the growing competition from American and Asian players on its own. The interim evaluation of the German government s Agenda has identified progress, but also need for action. After two years, half of the measures have been implemented. At the level of governance, it would be helpful if all the responsibilities for digital transformation were clustered within a single federal ministry as it is at the EU Commission. Moreover, Germany should set up a digital agency. This would assume the responsibilities of various federal agencies and support the German government as a think tank and service provider. The digital agency should reflect the technical, economic and legal aspects of digitalisation, and identify and eliminate barriers to implementation. The German government provides support for SMEs pursuing digitalisation through its funding focus Mittelstand Digital ICT Applications for Business. In the final phase of the funding initiative Mittelstand 4. Digital Production and Work Processes, there were ten centres of excellence around the country catering for Mittelstand 4., as well as one centre of excellence devoted to the digital craft sector, and a number of Mittelstand 4. agencies. The centres of excellence should disseminate up-to-date, practice-oriented knowledge about digitalisation and Industry 4. applications using the kind of language that is spoken by SMEs. Useful solutions for SMEs should be collected and presented in an appropriate form. Ways should also be found to enable companies to test a range of technological solutions. Each of the agencies is devoted to one of the following themes: cloud computing, processes, corporate communication, and trade. The progress achieved by German SMEs in their efforts towards digitalisation, as described in this SME Diagnosis, confirms the need for action. The current stage of preparation varies considerably, depending on the size of the enterprise and the sector in which it operates. Shortcomings are clearly visible in some sectors, and they must be actively 38

41 SME Diagnosis Focus Theme addressed. If they are, small and medium-sized enterprises may even have particular opportunities owing to their flexibility to benefit from the change in production, organisational and information processes. 39

42 SME Diagnosis 217 Titel 3 Business Performance The Business Performance of Germany s SMEs Business performance continues to be strong Stable earnings performance in SME segment Financial position once again improved, persistent weakness of investment 47 4

43 SME Diagnosis Business Performance The Business Performance of Germany s SMEs The Savings Banks Finance Group has two unique sources at its disposal to assess the business performance of Germany s SMEs. A survey among the relationship managers for business clients of all German savings banks provides an up-to-date assessment of the mood in the SME segment. The extensive analysis of balance sheet data establishes the facts. However, this information is, of course, not available for the current year but in this edition of SME Diagnosis for the year 215. The business client relationship managers of the 43* savings banks in Germany have extensive knowledge about the performance of SMEs. This knowledge is very often based on long-term business relationships with their clients. The SME Diagnosis utilises this knowledge by conducting a survey among the local experts. The information obtained from the survey supplements the analysis of balance sheet data. The survey conducted among the experts also provides an outlook on the following year, which complements the macroeconomic forecast. * (as of July 216) In July 216, all of Germany s 43* savings banks received a questionnaire, including the questions asked every year and additional specific questions on the digitalisation of SMEs, the focus theme of this edition of SME Diagnosis. With a response rate of 84 percent, the survey once again gives a comprehensive nationwide account of the opinions expressed by the savings banks relationship managers for business clients. 3.1 Business performance continues to be strong In late summer 216, the business performance of Germany s SMEs continued to be good, as confirmed by the survey conducted among the business client relationship managers of Germany s 43* savings banks. While a much lower percentage of the respondents (approx. 31 percent) stated that the business performance of SMEs had improved compared with the summer of the previous year (43 percent), it must be borne in mind that the share of enterprises achieving further improvements will of course decrease as the economic recovery continues. Two-thirds of the 41

44 SME Diagnosis Business Performance experts compared with 54 percent a year earlier stated that the business performance had not changed in late summer. Only very few respondents reported a deterioration of the business performance. This is in line with the macroeconomic finding of a stable upswing in the economy, with growth rates of nearly two percent. And it is also in line with our expectation of somewhat weaker economic growth in the second half of 216 and in 217. In regional terms, it is striking that, this year, the savings banks reported that there had been more improvements in federal states that tend to be structurally weak. On the other hand, the ratings of the business performance of SMEs were below average in the large, economically strong federal states. As the recovery continues and the economic upswing spreads to domestic demand, the weaker regions also seem to be affected now. There were strikingly significant differences in Berlin/Brandenburg compared with the previous year. In 215, 91 percent of the respondents had stated that the performance of SMEs had improved. This year, only 38 percent reported an improvement. Contrary to the macroeconomic trend, the experts in Mecklenburg-Vorpommern, Saxony-Anhalt and Thuringia reported that the share of SMEs whose performance had improved this summer was higher than one year ago. 3.2 Stable earnings performance in SME segment According to the analysis of the balance sheet data avalable for 215, the return on sales slightly decreased in the SME segment. The median i.e. the numerical value separating the higher half of the enterprises from the lower half decreased by 1.1 percentage points to 7.4 percent for the entire SME segment. However, the return on sales varied, depending on the turnover volume. Return on sales decreased in particular in the case of small enterprises with an annual turnover of less than.5 million. This had an impact on the overall median. With a return of 2.1 percent, the performance of large-scale enterprises with a turnover of over 5 million was stable at a low level. A larger number of financial statements were already available for larger enterprises. For structural reasons, however, the return level was much higher in smaller enterprises, where the proprietor s income accounts for a 42

45 SME Diagnosis Business Performance Assessment of current performance of client enterprises compared with previous year As a percentage of responding savings banks Baden-Württemberg Better Worse Unchanged Bavaria Berlin/Brandenburg Hesse Germany as a whole Mecklenburg- Vorpommern Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Germany as a whole Rhineland Palatinate Saarland Saxony Saxony-Anhalt Germany as a whole Schleswig-Holstein Thuringia Due to rounding of figures, percentages do not sum up to exactly 1 Chart 6 43

46 SME Diagnosis Business Performance Return on Sales as a percentage, by turnover volume category to 1 million Small enterprises 1 million to 5 million Medium-sized enterprises to 5 million SMEs > 5 million Large-scale enterprises Chart 7 significant share, so that the return must be classified as earned income rather than pure profit. This makes it difficult to compare the return of smaller enterprises with that of enterprises with a higher turnover. The macroeconomic picture supports the assessment that returns on sales remained roughly at the same high level. In the reporting year 215, the recovery continued at the same pace as in 214, with an increase in the price-adjusted gross domestic product by 1.7 percent. This volume growth increased earnings. However, the price increase slowed down once again at almost all levels. Consumer prices, for instance, increased by only.3 percent in 215. Only prices of consumer-related services and prices in the construction sector increased significantly, at 1.3 percent and 1.5 percent, respectively. On the other hand, retail prices stagnated. Industrial producer prices even decreased for the third consecutive year, at -1.8 percent even more so than in the previous year. However, because of the substantial cost reduction due to lower prices of input materials, in particular lower energy prices, the weak development of final prices did not automatically have an adverse impact on margins. At the same time, labour costs continued to increase significantly in 215. In the eastern part of Germany, the return on sales in the SME segment is traditionally lower than in the western part of the country. This also applied to 215, with 5.2 percent and 7.6 percent, respectively. However, the decrease from 214 to 215 was smaller in the eastern part of Germany (.8 percentage points) than in the western part (1.2 percentage points), which meant that there has been a certain alignment. The difference between the eastern and the western part of Germany continues to be significant, in particular with regard to small enterprises up to a turnover of 1 million. At 15. percent, the return on sales was 3.8 percentage points higher in the western part of Germany than in the eastern part of the country last year. Once again, the proprietor s income plays an important role in this context. In 215, the return of Eastern German enterprises with a turnover of between 1 million and 5 million amounted to 3.9 percent, which was 1.3 percentage points lower than the return of comparable enterprises in the western part of Germany. On the other hand, large-scale enterprises in the eastern part of Germany achieved a return 44

47 SME Diagnosis Business Performance Number of Enterprises with Profits and Losses as a percentage, by turnover volume category to 1 million Small enterprises 1 million to 5 million Medium-sized enterprises to 5 million SMEs Profit-making enterprises Loss-making enterprises > 5 million Large-scale enterprises Chart 8 of 2.1 percent in 215, which unlike in the previous year was at the same level as the return achieved in the western part of the country. Based on the data available, the break even ratio i.e. the percentage of enterprises which did not earn a profit or even made a loss amounted to 17.5 percent for 215, which was higher than in the previous year (16.3 percent). In the year under review, this ratio was also much higher in the eastern part of Germany (23.2 percent) than in the western part of the country (17. percent). A breakdown by turnover volume category shows that the ratio is much higher for large-scale enterprises (23.2 percent) than for SMEs; this applies in particular to enterprises with a turnover of between 1 million and 5 million (16. percent). A breakdown by economic sector shows that, based on preliminary data, the decline in return on sales was most pronounced in the services sector and in the manufacturing sector in 215. In the services sector, the return on sales decreased in the SME segment by 1.2 percentage points to 11.4 percent. In the manufacturing sector, the return on sales also declined by 1.2 percentage points to 5.7 percent. In the services sector, however, both the very large and the very small enterprises were able to escape this trend. In fact, their return on sales increased. In trade and in the manufacturing sector, the returns of large-scale enterprises remained virtually unchanged. The return of medium-sized enterprises with a turnover of between 1 million and 5 million amounted to 3.5 percent in trade and to 5.1 percent in the manufacturing sector, which was lower than in 214. This was also true in the construction sector, where the return decreased to 6. percent. In the western part of Germany, the decline in the returns was more pronounced in the manufacturing sector and in the construction sector. In 215, the break even ratio of SMEs decreased in all the sectors, except for trade. Based on the year-end financial statements, the return on assets of small and medium-sized enterprises decreased, year-onyear, by 2.4 percentage points to 9.4 percent in 215. The return on assets is an enterprise s net income and interest on borrowed capital as a percentage of total assets. The return therefore fell significantly below the level of the previous years. 45

48 SME Diagnosis Business Performance Return on Assets as a percentage, by turnover volume category to 1 million Small enterprises 1 million to 5 million Medium-sized enterprises to 5 million SMEs > 5 million Large-scale enterprises Chart 9 The decreasing lending rates to be paid, taken by themselves, led to an increase in profits. However, because of the long-term financing culture of the enterprises, lower interest rates in new lending business affect the enterprises profit and loss accounts with a significant delay. The interest expense of all enterprises referred to, more precisely, as non-financial corporations in official statistics decreased by 2 billion to 41 billion in 215. However, the reduction in the interest burden was offset by higher debt of the enterprises. While debts to German banks increased by only 17 billion according to the banking statistics of Deutsche Bundesbank, total debts increased by 49 billion because of higher borrowing abroad, according to the financial accounts of Deutsche Bundesbank. However, this probably applied first and foremost to large-scale enterprises. In the final analysis, the interest paid on (borrowed) capital is a transitory item for return on assets. For the income generated from the assets side of an enterprise s balance sheet, the sub-division into profit income and interest income is irrelevant in a summary view. In enterprises with a turnover of between 1 million and 5 million, the decline in the return on assets by 1.5 percentage points to 1.4 percent in 215 was lower than the decline in return taking into account the small enterprises. For small enterprises, the return on assets decreased by as much as 3.4 percentage points to 8.2 percent. A breakdown of SMEs by economic sector showed that the return on assets ranged from 13.7 percent in the construction sector to 7.9 percent in the services sector. However, there were only minor differences between the sectors with regard to the decline in the return from 214 to 215, which ranged from 1.9 to 2.4 percentage points. Except for the services sector, the decline in return on assets was lower in the eastern part of Germany than in the western part. However, in the federal states in the eastern part of Germany, the level of the return on sales is also lower. Among the balance sheet ratios presented, the development of labour costs is reflected by the personnel expenses ratio, which indicates an enterprise s personnel expenses as a percentage of its total output. For 215, the analysis of the balance sheets shows that the personnel expenses ratio of SMEs decreased by 1.1 percentage points compared with 214. However, this decline was 46

49 SME Diagnosis Business Performance Personnel Expenses Ratio as a percentage, by turnover volume category to 1 million Small enterprises million to 5 million Medium-sized enterprises to 5 million SMEs > 5 million Large-scale enterprises Chart 1 predominantly due to small enterprises for which the personnel expenses ratio decreased by 5.8 percentage points to 4.6 percent. In enterprises with a turnover of between 1million and 5 million i.e. enterprises with significant headcounts the personnel expenses ratio even increased slightly yearon-year. At 23.3 percent, the personnel expenses ratio was higher in this turnover segment than in the other turnover volume categories. In large-scale enterprises, the personnel expenses ratio increased slightly to 15.2 percent. In the eastern part of Germany, the personnel expenses ratio of enterprises with an annual turnover of over 1 million was higher than in the western part of the country. In small enterprises, on the other hand, the opposite was true. A breakdown by economic sector shows that the decline in the personnel expenses ratio was most pronounced in the services sector. In the construction sector, in trade and in the manufacturing sector, on the other hand, the personnel expenses ratio increased slightly. Against the background of the macroeconomic trends in 215, a reduction of personnel expenses could not be expected. The increase in labour costs barely slowed down. The compensation of employees (which also includes the employers' social security contributions) increased by 3.7 percent in 215, i.e. nearly as much as a year earlier. Per employee, the increase still amounted to 2.5 percent. The nation-wide introduction of the statutory minimum wage of 8.5 per hour led to an increase in costs, in particular in the eastern part of Germany. In eastern Germany, the median of the balance sheet data for all SMEs in terms of the decline in the personnel expenses ratio (-.7 percentage points) was lower than in western Germany (-1.1 percentage points). 3.3 Financial position once again improved, persistent weakness of investment The trend towards a better equity capitalisation of Germany s small and medium-sized enterprises continued in 215. According to the analysis of nearly 112, balance sheets of the reporting year 215, the median of the equity ratio increased by 4.2 percentage points to 26.8 percent. This is another record high. From the mid-199s to 23, the equity ratio had been below five percent. In the western part of Germany, the increase was 47

50 SME Diagnosis Business Performance Equity Ratio of Enterprises as a percentage, by turnover volume category to 1 million Small enterprises 1 million to 5 million Medium-sized enterprises to 5 million SMEs > 5 million Large-scale enterprises Chart 11 more pronounced than in the new federal states in the eastern part of the country. Nevertheless, the eastern German enterprises defended their lead as far as this financial ratio is concerned. A high equity base makes enterprises less vulnerable to economic downturns or other shocks. In addition, it facilitates access to external finance. In the various turnover volume categories, the available data are already more robust than the data for the entire SME segment because shifts in the reporting dates do not have a distorting effect across the turnover volume structure. For enterprises with a turnover of between 1 million and 5 million, the equity ratio increased by 2.1 percentage points to 27.2 percent in 215. In large-scale enterprises, the equity ratio increased to 32.9 percent, which was only a slight increase compared with the very high level of the previous year. Nevertheless, these enterprises also continued to build up their equity. In the eastern part of Germany, on the other hand, the equity ratio of large-scale enterprises increased significantly, by 4.4 percentage points to 33.4 percent, so that large eastern German enterprises for the first time caught up with their counterparts in western Germany. The big leap of small enterprises by 7.2 percentage points to 26.2 percent has to do with the fact that many small enterprises with a relatively low equity ratio supply their balance sheet data at a later point in time. They are not yet fully covered in the data for 215. The percentage of enterprises without equity or with negative equity i.e. the break even ratio for this metric dropped significantly by 5.8 percentage points. This decline was particularly pronounced in the western part of Germany. In the segment of large-scale enterprises, the percentage of entities without equity once again remained below five percent. In enterprises with a turnover of between 1 million and 5 million, the decline in the break even ratio was only just half as significant as for the entire SME segment. In 215, the remaining percentage of enterprises without equity was highest among small enterprises, where formal equity is often replaced by the use of private assets as collateral. A breakdown by economic sector shows that, in 215, the increase in the equity ratio was 48

51 SME Diagnosis Business Performance Number of Enterprises with and without Equity as a percentage, by turnover volume category to 1 million Small enterprises 1 million to 5 million Medium-sized enterprises to 5 million SMEs With Equity Without Equity > 5 million Large-scale enterprises Chart 12 most significant in the services sector, followed by trade. The increase was least significant in the construction sector. In medium-sized manufacturing enterprises, the equity ratio which already ranked highest increased by 2.6 percentage points and thus exceeded 3 percent for the first time. In the eastern part of Germany (unlike in the western part of the country), however, there was no significant improvement in equity capitalisation in trade and in the construction sector. According to the survey among experts, the positive development of the equity ratio in the SME segment continued in 216. In summer, 7 percent of the savings banks' respondents reported that the equity base of their clients had improved once agan. This means that the equity base increased for the fourth consecutive year. Nearly one-third of the respondents stated that the equity base was unchanged. There were virtually no reports of a deterioration of equity ratios. Only ten percent of the respondents in Saxony reported that equity ratios had deteriorated. A regional breakdown shows that 67 percent of the respondents from the federal states in the eastern part of Germany stated that the equity base of their clients had improved, compared with 51 percent in the previous year. In the western part of Germany, on the other hand, the share of these responses stagnated at a high level. On average, the equity base of enterprises in the SME segment has reached a very high level, which has made the enterprises more robust. At the same time, this has prepared the ground for increasing investment. In view of the economic situtation, there is still a relative reluctance to invest not only in the SME segment. And for years, enterprises have had a preference for financing investments primarily from their own resources. Given the fact that interest rates are at a record low and that solvent enterprises have unhindered access to credit, this finding raises questions with regard to the investment environment in Germany. A high degree of uncertainty in Europe and worldwide has contributed to this reluctance. In this environment, the difference between the expected return on real capital and the rate of interest on money has a crucial impact on the investment decisions of enterprises. The yield on German government bonds with a maturity of nine to ten years, which can serve as a reference for the 49

52 SME Diagnosis Business Performance Year-on-year development of equity ratios of client enterprises As a percentage of responding savings banks Baden-Württemberg Better Worse Unchanged Bavaria Berlin/Brandenburg Hesse Mecklenburg- Vorpommern Germany as a whole Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Germany as a whole Rhineland Palatinate Saarland Saxony Saxony-Anhalt Germany as a whole Schleswig-Holstein Thuringia Due to rounding of figures, percentages do not sum up to exactly 1 5 Chart 13

53 SME Diagnosis Business Performance rate of interest on money, fell to a record low of.5 percent in 215. One year earlier, the yield had still amounted to 1.2 percent. With this in mind, investments in physical capital remained very attractive because of a high yield advantage. In addition, the capacity utilisation of property, plant and equipment also encouraged enterprises to invest in new plant capacity. In 215, capacity utilisation both in the manufacturing sector and in the overall economy tended to be above the long-term averages. Nevertheless, a recovery of investment activities did not materialise. This was due not only to the high degree of uncertainty mentioned above but also to moderate growth prospects. In Q2 and Q3/216, equipment investments declined once again in Germany. Nevertheless, one in five savings banks reported that they had provided more investment finance than a year earlier. Overall, the aggregate response is now roughly balanced. Against the background of the increases in loans to enterprises already achieved in previous years, it will be more difficult to further accelerate the extension of fresh loans. Nevertheless, savings banks once again increased their portfolio of loan receivables from corporate clients in 216, which is ultimately what matters. There was almost no change with regard to the question about the investment motives, compared with the summer of 215. Overall, a very stable pattern has emerged in this respect. This may also have to do with the fact that, in practice, it is not easy to distinguish between motives. A new machine which replaces an old one often also permits rationalised production and has a positive capacity effect. In summer 216, nearly half of the responses cited the replacement of old plant as an investment motive. The other half of the responses was almost equally divided between rationalisation investments and expansion investments. The strong, albeit not booming economy apparently prompted only very few enterprises to invest in an expansion of their production capacity. Incidentally, digitalisation investments by small and medium-sized enterprises are also classified as rationalisation investments. 51

54 SME Diagnosis Business Performance Investment lending compared with the previous year As a percentage of responding savings banks Baden-Württemberg More funds Less funds Same amount of funds 17.2 Bavaria Berlin/Brandenburg Hesse Germany as a whole Mecklenburg- Vorpommern Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Germany as a whole Rhineland Palatinate Saarland Saxony Germany as a whole 214 Saxony-Anhalt Schleswig-Holstein Thuringia Due to rounding of figures, percentages do not sum up to exactly 1 52 Chart 14

55 SME Diagnosis Business Performance Investment motivation As a percentage of all responses (with a maximum of 2 responses per savings bank) Baden-Württemberg Bavaria Berlin/Brandenburg Hesse Mecklenburg- Vorpommern Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Rhineland Palatinate Saarland Saxony Saxony-Anhalt Schleswig-Holstein Thuringia Replacement investment Rationalisation Expansion Germany as a whole 216 Germany as a whole 215 Germany as a whole Due to rounding of figures, percentages do not sum up to exactly 1 Chart 15 53

56 SME Diagnosis Business Performance There are no major differences between the western and the eastern part of Germany with regard to the investment motives. However, replacement investments were slightly more important in the eastern federal states (52 percent), while expansion investments made up a correspondingly lower share. Rationalisation investments accounted for the highest share of investment in Thuringia and for the lowest share in Berlin/Brandenburg. Expansion investments accounted for the highest share of investments in Mecklenburg-Vorpommern and for the lowest share in Thuringia. Replacement investments accounted for the highest share of investments in Saxony- Anhalt and for the lowest share in Rhineland-Palatinate, both of which are structurally weak federal states. As far as employment in German SMEs is concerned, our survey also reflected the steady upward trend in the German labour market. The percentage of experts who expected employment in their region to rise in 217 had increased slightly once again (27 percent). Two-thirds of the savings banks relationship managers for business clients stated that the situation in their local labour market had not changed. On the other hand, only very few experts expected a deterioration of employment in the following year. An above-average percentage of experts from the eastern part of Germany reported an increase in employment (39 percent). In the western part of Germany, there was a clear north/south divide. In the southern federal states, 32 percent of the experts expected an increase in the number of jobs, while this was true for only 24 percent of the experts in the northern federal states. The percentage of experts who reported an increase in employment was highest in Mecklenburg-Vorpommern and in Saxony- Anhalt. At the same time, experts from this federal state also represented the second highest percentage of responses reporting a decrease in employment. This obviously suggests that there are considerable regional differences within the federal state. The highest percentage of responses reporting a decline in employment (33 percent) came from savings banks in Saarland. 54

57 SME Diagnosis Business Performance Assessment of Employment in 217 As a percentage of responding savings banks Baden-Württemberg Tends to increase Tends to decrease Unchanged Bavaria Berlin/Brandenburg Hesse Mecklenburg- Vorpommern Germany as a whole Lower Saxony/ Bremen/Hamburg North-Rhine Westphalia Germany as a whole Rhineland Palatinate Saarland Saxony Saxony-Anhalt Germany as a whole Schleswig-Holstein Thuringia Due to rounding of figures, percentages do not sum up to exactly 1 Chart 16 55

58 SME Diagnosis 217 Titel 4 Fundamentals Sources and Methods Sources Overview of the key financials Calculation methods 61 56