Venture is the leading funding mechanism for Europe's latest generation of unicorns
Over the course of the last decade, venture capital has become a funding mechanism of choice for Europe's most ambitious entrepreneurs that aspire to become global category leaders and build companies of scale with enduring success. The increase in the availability of venture capital, the sophistication of VC investors and also general awareness of the perceived value of raising it, has resulted in a clear shift in the ratio of companies that scale to billion-dollar valuations and beyond with or without raising venture capital. Looking back, it was more common to see companies scale to large outcomes without having raised venture capital. More recently, the number of large companies that have raised venture captial to fund their journey far exceeds those that take alternative paths.
🦄 202 VC-backed unicorns
Just two years ago, at the time of publication of the 2019 edition of this report, there were 99 VC-backed companies that had reached a unicorn status. By the end of 2019, Vinted had become Europe's 100th VC-backed unicorn. In less than 24 months since then, the number of VC-backed $1B+ companies has more than doubled, fuelled by a rapid acceleration in the number of unicorns that surpassed the billion-dollar valuation milestone in 2021. The European VC-backed unicorn herd has grown from 115 at the end of 2020 to 202 at the time of writing the report.
European VC capital under management doubled between 2016-2020
The European venture asset class is scaling. Capital under management for European VCs has more than doubled in size from 2016 to 2020 from $59B to $111B, while dry powder, which refers to the amount of available capital available for future deployment, has now reached a new high of $47B in 2020. The growth in the amount of dry powder has been accelerating in recent years as fundraising levels have increased in Europe. Dry powder is a helpful metric and serves to provide a greater sense of the available liquidity in the market held by local investors in comparison to other metrics such as annual VC funds raised.
There is more (long needed) growth capital going into our market helping European companies to think bigger and become global category leaders, instead of local champions.
In our view the VC market is right now undergoing its biggest disruption in history. New players enter with new playbooks. Capital has commoditised. Network becomes key to win deals. Look at multi-stage US VCs opening offices in Europe; new emerging single GP managers such as Harry Stebbings’ 20VC or Max Claussen’s System One; or hedge funds such as Tiger or Coatue who provide fast and “less complex” capital. But at the same time Europe is highly decentralised and not easy to enter for international players: at Visionaries we unite successful digital entrepreneurs, family businesses & industry leaders in a micro VC to complement the world's best VCs. To be honest there has never been a better time for us to be an “entrepreneur in VC” constantly challenging ourselves to continue building the best product for founders.
European VC dry powder is not equally distributed geographically
In aggregate, European VCs are seated on $47B of dry powder. Dry powder here refers to the amount of money VCs have left to spend. Two regions, (1) UK & Ireland and (2) France and the Benelux region, capture 60% of the available dry powder. There are clear signs however of growing dry powder across all sub-regions. In Central and Eastern Europe, for example, VC dry powder has grown by over 3x since 2016.
The current move to more remote deal sourcing has been great for Jobandtalent as a company based in Spain. Proximity to an investor is no longer an advantage.
The main investment hurdle is being a Spanish company. Spain is still a young ecosystem that has not generated yet any €10B+ tech company, which generates some fears for investors about our capacity to create global winners in our country. We are not in one of the top tech hubs with a high concentration of VC-Growth investors, and that put us in disadvantage in the past when we were raising funds against companies that were closer to the cash.
Pace of capital deployment into start-ups accelerated over the course of 2021
The pace of deployment of capital into startups in 2021 has ramped up over the course of the year. January kicked off the year with a record month of capital invested and launched a series of record-breaking with each month beating any prior year-on-year records. The activity also accelerated as the year went on, culminating at $15B invested in a single month in June. The ecosystem saw $12B of capital invested in the last month of our reporting. As of September 2021, the cumulative investments into the European tech ecosystem is nearly 3x the equivalent at the same time last year 2020.
Competition is intense
The rapid acceleration in the velocity of capital deployment into the European tech ecosystem coupled with a large growth in the number of active investors has unsurprisingly resulted in an intensification of the competitive dynamics of today's market reality. 93% of VC respondents to the survey stated that investment opportunities have become significantly or slightly more competitive in the past 12 months. This marks a significant change in sentiment compared to 2020. There is no doubt that competition has heated up.
Increased competition is being felt by investors at every stage
Investor sentiment on the changes taking place to the competitive landscape is broadly aligned irrespective of their preferred stage of entry. It's clear that competition to get access to and win over the best founders is changing from the first cheque that is invested all the way through to the late-stage growth stage of the market.
At Lightspeed, we made our first Europe investment back in 2009, then invested in Blockchain.com in the UK in 2014 and have now invested >$500M in Europe so have always been big believers in the geography…
… and I am biased being English myself! After these investments, our interest in Europe has only grown and that's a result of seeing such strong founders emerge who have gone on to build companies like Multiverse, Calm, Vinted, Zapp and Grafana. These are often 2nd or 3rd time founders who have built experienced management teams around them which only increases my optimism for Europe. I would point at companies such as Multiverse where founders like Euan Blair are disrupting the apprenticeship market first in the UK and then in the US and they will very much become a global winner by focusing on Europe first. We have always believed in Europe's ability to create global successes which is also why you see Blockchain.com start in the UK and now be a winner across many countries.
This perceived increase in competition is felt by VC respondents from across Europe
The perceived increase in competition is shared by VC respondents based across different markets in Europe. VC respondents from the Netherlands had a slightly different outlook on how competition has changed, though even those respondents overwhelmingly perceived the market to have become more competitive.
Inflated valuations are the perceived main consequences of increase competition
We asked investors to share their perspectives on the implications of increased competition on current funding round dynamics. Unsurprisingly, valuation inflation is the most cited impact, a sentiment shared by investors at every preferred stage of investment. As they need to square higher valuations with fund ownership targets, it's perhaps also not surprising that cheque size inflation is also frequently-cited consequence of today's market dynamics. The need to act differently in order to beat the competition is why pre-emptive rounds have become an increasingly common feature of the market, most notably at the later stages. As funding round timelines compress due to the increased velocity of the market, it's clear that investors are seeing lighter due diligence as another implication of the current market environment.
Double clicking on pre-emptive rounds
It's interesting to note how VC perspectives on the increased prevalence of pre-emptive rounds varied depending on the size of the fund they work for. Respondents working at larger funds (€500M) had a significantly higher probability of calling out the level of pre-emptive rounds than those working at smaller funds. This obviously aligns with the variance seen in responses based on a VC respondent's preferred stage of investment. Interestingly, survey responses also showed that respondents that had a higher probability of citing pre-emptive rounds as a consequence of the changing market dynamics were also the most likely to cite that the market has become significantly more competitive.
More collaboration is one way to counter competition
Beyond the considerations that we have already highlighted, VCs also shared their perspectives on other, perhaps secondary, consequences of increased competition. These include greater propensity for co-led or collaborative rounds, a change in the dilution sensitivity of founders (less dilution!), and a greater frequency of secondary share sales to enable founders, early team members or investors to take some liquidity. These trends were cited with much lower frequency, but they have certain become more common in the market, though to varying degrees by stage. They are further indications of how VCs are responding to competition, but also of a change in the negotiating leverage held by founders that find themselves with multiple investors competing for their partnership.
It’s fantastic to see the ecosystem expanding to include different investors, many of whom bring diverse perspectives.
For example, just this year at Ada Ventures we’ve co-invested with impact investors, investors narrowly focused on specific sectors, investors providing a hybrid debt and equity model and investors targeting overlooked founders. This is a really healthy sign and I hope it will lead to less group-think and a wider range of businesses and founders getting funded.
A step-change in valuations globally in 2021
The perceived change in valuations is reflected in the actual data. This year saw a step change in valuations on both sides of the Atlantic. The median pre-money valuation of a funding round in the US reached $115M in 2021, up 64% from $70M in 2020 and 156% from $45M in 2017. In Europe, the median pre-money valuation across all rounds increased 71% from $14M in 2020 to $24M in 2021. The median pre-money valuation is up 167% from $9M in 2017. The trend lines are the same, but valuations in Europe remain much lower on average than in the US. It's clear, however, that the underlying dynamics differ markedly between the top and bottom quartile opportunities. While valuations at the 25th percentile increased 50% year-on-year in Europe, they increased by 132% for those at the 75th percentile.
The competition for funding is certainly hotting up as some of the US players establish operations in Europe.
We’re also seeing more-traditional US-headquartered technology companies continue to expand their presence across the region. All of which creates momentum behind venture funding, but it doesn’t influence or change my perspective per se. I focus on the founders, their teams, their vision and mission, and the ability of the product and/or service to transform a market. The fact that most of those companies are in Europe is more a function of my past and my personal and professional network--and being based in Estonia these days means I have my ear closer to the regional ground than before.
Round sizes and round stage labels are disconnected
In today's market, it's hard to hold on to any norms. Seed rounds today look like yesterday's Series A rounds. Series A rounds look like Series B rounds, and so on. Rounds sizes and round labels, at least as the market once understood them, have become disconnected. At Seed, for example, the median round size increased again in 2021 to $1.8M, up 50% from 2020 and 2.6x versus five years ago. At the 75th percentile, Seed rounds have now increased to $3.5M, up from $2.5M in 2020. At Series A, the median round size has now increased to $9.1M, while the average round size at the 75th percentile grew to $16M. These increases in round sizes over time with a notable step change in 2021 are reflected at every round stage in the dataset.
The era of its product light, top-line focused ventures is coming to an end and the region has built-up an impressive repertoire of tech-first startups that became thought and category leaders on a global scale.
Europe’s tech ecosystem is maturing but far from maturity. Every year, I’m continuously impressed by the rising calibre of talent. I also believe the unbundling of equity is here to stay. Companies shouldn’t use expansive equity dollars on initiatives with capped upside - Sales & Marketing spend for example. As the power shifts from a buyers (i.e. investors) to a sellers (i.e. founders) market, we’ll increasingly see companies pushing for a healthier capital structure (including equity, debt and other forms of financing), as is commonplace for public companies.
VC funds also keep growing in size, yet another testament to the market's competitiveness
As funds look to calibrate increased cheque sizes with fund models that often optimise for portfolio diversification and ownership, especially at the early stages, one consequence is an increase in fund sizes to ensure investors have the firepower to execute their strategy. This is reflected in the data that shows a continued increase in median fund sizes. The median VC fund closed in 2021 hit a new record high for Europe at $102M, up from $62M in 2020 and more than double the median in 2017. This trend is visible both for first-time funds, as well as for follow-on funds, both of which hit new record levels in 2021.
Innovating to stay competitive
To better understand how VCs are innovating and adapting their strategies to stay competitive we asked respondents to share what, if anything, they are doing differently. Over 90% of VCs, representing all fund sizes, shared that they are rolling out at least one or more new initiatives or changes in strategy to stay competitive.
Founders are not homogenous — they have different backgrounds and personalities, and it’s reflected in their companies. It makes sense that the hyper-growth model of the traditional Silicon Valley-style VC is not suitable for every entrepreneur or business.
The rise of alternative financing will help fund more diverse founders, enable the growth of different types of companies and result in a broader variety of problems being solved. Building a company is challenging; making it successful is exceptional. The type of funding that fits your goals, ambitions and entrepreneurship style best is one of the most critical choices a founder must make. Every funding type carries its own opportunities, challenges and expectations. Having options will allow more companies and founders to make their ambitions a reality, resulting in a stronger ecosystem for all.
Relationships matter
Building strong founders relationships early on is the most important success factor to winning in a competitive deal sitution, according to VC respondents. This is followed by speed and the ability to demonstrate relevant expertise. Interestingly, VCs were much less likely to cite price, terms or pre-emptive motions as decisive factors.
VCs are adapting to the market dynamics in different ways
There are certain changes that all VCs are making in order to stay competitive, including focusing on building relationships with founders earlier and increasing the speed of their investment processes. There are others that bigger funds have the luxury of , such as scaling the size of the investment team to give more capacity or building out a platform team to work with founders.
The idea of a linear development of a business is almost gone and increases compression of the investment landscape.
We are witnessing an increased squeezing of the VC landscape - top tier VCs are increasingly trying to play a role at seed and pre seed and companies like Hopin are skipping traditional funding stages. Valuations are also being highly inflated, and there are other signs we need to watch. In the UK, the impact of Brexit coupled with high inflation and low interest rates is quite a lot to absorb for the industry. We can’t talk about a bubble yet however. Europe is still relatively underserved - France has typically been a difficult market to break into for VCs, but funds like Singular Ventures are now raising huge amounts there. The opportunity in Germany is still huge.
🤖 Data and machine learning becoming more common place in venture
The role of data and technology is becoming more important for VCs. More than 50% of all VC respondents shared that they have made 'significant investments' into data-driven sourcing capabilities in the past 12 months. Understandably, given the different level of resources of funds of different scale, VC respondents from larger funds (>€500M) are most likely to say they have been doubling down on this capability, though there is a strong level of agreement across respondents from all fund sizes.
VC respondents have shared their views on what they believe it takes to win in a competitive deal situation as well as the strategies they are rolling out to stay on top of competition. On the other end, founders have also provided their opinion on what they look for in a partner so it is interesting to compare and contrast, even though they are not exactly like for like.
Founders swiping left on VCs tactics to win them over
