When the He 51 was tested in combat in the Spanish Civil War, it was shown that speed was far more important than maneuverability. The Luftwaffe took this lesson to heart, and started a series of design projects for much more modern aircraft. One of these projects, Rüstungsflugzeug IV, called for a day fighter with a top speed of 400 km/h (250 mph) at 6,000 m (19,500 ft) which it could maintain for 20 minutes out of a total endurance of 90 minutes. It also needed to be armed with at least three machine guns with 1,000 rpg, or one 20 mm cannon with 200 rounds. The specification required that the wing loading should be below 100 kg/m² - a way of defining the aircraft's ability to turn and climb. The priorities for the aircraft were level speed, climb speed, and then maneuverability in that order.

In October 1933, Hermann Göring sent out a letter requesting aircraft companies consider the design of a "high speed courier aircraft" - a thinly veiled request for a new fighter. In May 1934, this was made official and the Technisches Amt sent out a request for a single-seat interceptor for the Rüstungsflugzeug IV role, this time under the guise of a "sports aircraft". The specification was first sent to the most experienced fighter designers, Heinkel, Arado, and Focke-Wulf. It was later sent to newcomer Bayerische Flugzeugwerke (Bavarian Aircraft Works or BFW) on the strength of their Bf 108 Taifun advanced sportsplane design. Each company was asked to build three prototypes for run-off testing. By spring 1935, both the Arado and Focke-Wulf aircraft were ready, the BFW arriving in March, and the He 112 in April.

Heinkel's design was created primarily by twin brothers Walter and Siegfried Günter, whose designs would dominate most of Heinkel's work. They started work on Projekt 1015 in late 1933 under the guise of the original courier aircraft, based around the BMW XV radial engine. Work was already under way when the official request went out on 2 May, and on 5 May the design was renamed the He 112.

The primary source of inspiration for the He 112 was their earlier He 70 Blitz ("Lightning") design. The Blitz was a single-engine, four-passenger aircraft originally designed for use by Lufthansa, and it in turn was inspired by the famous Lockheed Model 9 Orion mail plane. Like many civilian designs of the time, the aircraft was pressed into military service and was used as a two-seat bomber (although mostly for reconnaissance) and served in this role in Spain. The Blitz introduced a number of new construction techniques to the Heinkel company; it was their first low-wing monoplane, their first with retractable landing gear, their first all-metal monocoque design, and its elliptical, reverse-gull wing would be seen on a number of later projects. The Blitz could almost meet the new fighter requirements itself, so it is not surprising that the Günters would choose to work with the existing design as much as possible.

He 112 was basically a scaled down version of Heinkel He 70 and shared its all metal construction, inverted gull wings, and retractable landing gear. Like the He 70, the He 112 was constructed entirely of metal, using a two-spar wing and a monocoque fuselage with flush-head rivets. The landing gear retracted outward from the low point of the wing's gull-bend, which resulted in a fairly wide span track, giving the aircraft excellent ground handling. Its only features from an older era were its open cockpit and fuselage spine behind the headrest, which were included to provide excellent vision and make the biplane-trained pilots feel more comfortable.

Prototypes
The first prototype, He 112 V1, was completed on 1 September 1935, but as the planned Junkers Jumo 210 engine was unavailable, a 518 kW (695 hp) Rolls-Royce Kestrel Mk IIS was fitted. Initial test flights at the factory revealed that drag was much higher than expected, and that the aircraft was not going to be as fast as originally predicted. The V1 was sent off to be tested by the Reichsluftfahrtministerium (RLM) in December at Travemünde.

The second prototype, V2, was completed on 16 November. It had the 477 kW (640 hp) Jumo 210C engine and a three-blade propeller, but was otherwise identical to the V1. Meanwhile, the data from the V1 factory flights was studied to discover where the unexpected drag was coming from. The Günter brothers identified the large, thick wing as the main culprit, and designed an entirely new smaller and thinner wing with an elliptical planform. As a stop-gap measure, V2 had its wings clipped by 1.010 m (3 ft 7 in) to allow it to compete with the 109. This made the He 112 creep over the wing loading requirements in the specifications, but with the 109 way over the limit, this was not seen as a problem, and the V2 was sent off for testing.

The V3 took to the air in January. Minor changes included a larger radiator, fuselage spine and vertical stabilizer, but it was otherwise largely the same as the clipped wing V2. Other changes included a single cover over the exhaust ports instead of the more common "stack", and it also included modifications to allow the armament to be installed in the cowling. It was expected to join the V2 in testing, but instead was assigned back to Heinkel in early 1937 for tests with rocket propulsion. During a test, the rocket exploded and the aircraft was destroyed, but in an amazing effort the V3 was rebuilt with several changes, including an enclosed cockpit.

The Contest
The He 112 V1 started in the head-to-head contest when it arrived at Travemünde on 8 February 1936. The other three competitors had all arrived by the beginning of March. Right away, the Focke-Wulf Fw 159 and Arado Ar 80 proved to be lacking in performance, and plagued with problems, and were eliminated from serious consideration.

At this point, the He 112 was the favorite over the "unknown" Bf 109, but opinions changed when the Bf 109 V2 arrived on 21 March. All the competitor aircraft had initially been equipped with the Rolls-Royce Kestrel engine, but the Bf 109 V2 had the Jumo. From that point on, it started to outperform the He 112 in almost every way, and even the arrival of the Jumo-engined He 112 V2 on 15 April did little to address this imbalance.

The He 112 had better turn performance due to its larger wing, but the Bf 109 was faster at all altitudes and had considerably better agility and aerobatic abilities. During spin tests on 2 March, the Bf 109 V2 showed no problems while the He 112 V2 crashed. Repairs were made to the aircraft and it was returned in April, but it crashed again and was written off. The V1 was then returned to Heinkel on 17 April and fitted with the V2's clipped wings.

Meanwhile, news came in that Supermarine had received a contract for full-scale production of the Spitfire. The Spitfire was far more advanced than any existing German aircraft and this caused a wave of concern in the high command of the Luftwaffe. Time now took on as much importance as any quality of the winning aircraft itself, and the RLM was ready to put any reasonable design into production. That design was the Bf 109, which in addition to demonstrating better performance, was considerably easier to build due to fewer compound curves and simpler construction throughout. On 12 March RLM produced a document called Bf 109 Priority Procurement which indicated which aircraft was now preferred. There were some within the RLM who still favored the Heinkel design, and as a result the RLM then sent out contracts for 10 "zero series" aircraft from both companies.

Testing continued until October, at which point some of the additional zero series aircraft had arrived. At the end of September, there were four He 112s being tested, yet none was a match for the Bf 109. From October on, the Bf 109 appears to have been selected as the winner of the contest. Although no clear date is given, in Stormy Life Ernst Udet himself delivered the news to Heinkel that the Bf 109 had entered series production in 1936. He is quoted as saying, "Pawn your crate off on the Turks or the Japanese or the Romanians. They'll lap it up." With a number of air forces looking to upgrade from biplanes and various designs from the early 1930s, the possibility for foreign sales was promising.