The valuations of European startups are booming
The pandemic has exposed the weaknesses of the value chain and challenged all sectors and industries. Innovation has become the new arms race, with rapid digitization and adoption of consumer technologies accelerating as up to seven years since Covid-19 hit in early 2020. The European tech ecosystem has thrived as a result, with the combined value of the region’s leading tech companies growing otherwise it would have taken several years to achieve.
Where technology has led, European venture capital has followed, with capital flows increasing dramatically throughout 2020 and 2021, despite COVID-19 uncertainty and macroeconomic volatility. According to The latest Dealroom report, Europe is the fastest growing major region in terms of venture capital investment – overtaking both the United States and China – with start-up funds increasing 2.9 times in a year to reach 49 billion euros in the first six months of 2021 alone. At this rate, the total value of transactions could reach the 100 billion euro mark by the end of the year.
But, while positive, this rapid growth also raises important questions. What is driving this huge influx of capital? And, with rising valuations, what impact will this have on the long-term health of the European ecosystem; its ability to live up to the hype, but also to maintain that success and momentum for years to come?
An influx of new venture capitalists
The European venture capital landscape has changed dramatically in recent years, as more and more non-traditional venture capitalists, such as private equity and large hedge funds, have entered the ecosystem. . Names such as Tiger Global, SoftBank and Coatue have become regular features of trading news, attracted by high demand for capital, lower risk and the promise of strong returns on long-term investments. With tech startups staying private longer, the result is that venture capital deals are more like the private equity growth deals of the past.
In addition to the mix, US and Asian VCs have also expanded their footprint in Europe, seeking to take advantage of lower valuations. Government initiatives such as the UK Future Fund (£ 1.1 billion), the French support fund of 4 billion euros and the German fund of 10 billion euros Zukunftsfonds, injected additional funds into the sector and, not to be outdone, companies and SMEs have also become involved, whether through direct investment or company funds. The competition for the best deals is intense and valuations are drastically increased as a result.
The EU unicorn factory
All these extra funds mean that unicorns are no longer a rare phenomenon in Europe, along with the region. boastful 70 in May of this year, and a total of 296 since 1990 – 20 more than China. We have proven that billion dollar companies can be created in a selection of geographically disparate hubs, while fewer founders choose to uproot themselves in the United States to seek investment, scale-up or an introduction. in stock exchange. European public procurement has seen its busiest first half in recent history this year. Non-standard transactions are no longer outliers in the European venture capital ecosystem, as multi-million euro rounds increase in value and regularity.
But are the fundamentals good?
But while high valuations and deal size make great public relations, they should also be approached with some caution. Yes, more money means more flexibility to test new things and potentially develop better or more products faster. But, on the other hand, the higher the valuation and size of the trade, the greater the need to perform and grow quickly, in order to ensure that investors see their exit returns. A huge valuation can put founders under more pressure than they want and, with a greater tendency to misallocate funds, companies can become uninvested if the team fails to generate enough value to justify them. future tours.
Competition among venture capital firms also increases risk, as the pace of transactions has increased and closing times have decreased significantly. There are examples where due diligence is performed in three days, rather than three weeks, making it much more difficult to assess the finer details of a business or transaction, a realistic assessment and the setting up guarantees to avoid future problems.
Asymmetric exposure and supply of capital
Another consequence of increased competition is that late stage capital now dominates, with many investors focusing on the hottest companies and dynamic investment stocks. The pandemic has also encouraged this shift by forcing investors to make decisions from a distance, making them less inclined to take risks on younger or lesser-known companies.
This has distracted the attention of more established companies, demanding larger amounts in very competitive and – in many cases – very risky deals, while diverting attention and funds from early stage companies in Europe. According to Beauhurst, the number of businesses closing deals for the first time decreased by 36% in the UK and 50% in the EU between 2018 and 2020, while total capital raised at pre-seed level halved over a similar period (from € 446 million in 2016 to 213 million euros in 2020). These start-ups are the lifeblood of the ecosystem.
So while the early numbers show a positive picture, the current high valuations and moving to a later stage could pose a real risk to the long-term health of start-ups and startups in Europe, if they are not. processed quickly. In the excitement of rapid growth, we must not ignore the fact that we must continue to build investor clusters led and funded by Europe, which prioritize companies at an early stage. Otherwise, we might find out that the next time we check back, our pipeline of future unicorns has dried up.