A version of this article first appeared in Sifted’s Daily newsletter, sign up here.
In 2021, investors ploughed a record $675bn into startups globally, double the haul of the year before. Many companies didn’t need revenue, or customers, or perhaps even a clear business model, to attract eye-watering amounts of capital. In hindsight, it was clearly a bubble.
In 2024, VCs with large funds and impatient LPs might be creating a different kind of challenge for the ecosystem. I’m talking about the ‘flight to quality’ — the big cheques being written for, and big valuations being awarded to, a select few ‘quality’, often growth-stage, startups. The concentration of capital in these companies puts extra pressure on them to succeed, and could potentially limit future exit opportunities should they not deliver.
‘Quality’ startups are those with really strong founding teams, solid business models and, often, some (or a lot of) revenue traction. These days, one VC recently told me, investors still have a lot of capital to deploy, but are wary of investing in anything but startups that tick those boxes. That means that when there is a hot deal of a quality company, they go big and pile in.
Some recent examples: defence tech startup Helsing, which raised €209m just last September, secured another €450m at a reported €4.95bn valuation last month. Mistral, the Paris-based OpenAI challenger, raised a whopping €468m equity round in June after having just raised €385m in December. UK neobank Monzo raised $610m at a now-$5.2bn valuation across two funding rounds earlier this year.
“There’s not a lot of Helsing-like companies in the world, and if VCs have capital to deploy, they’re probably going to chase those few ones. You see the same thing with DeepL, right? This was also a very competitive round,” says Andreas Goeldi, partner at b2venture and an investor in AI language startup DeepL, which raised a $300m round in May.
Of course, it helps that many of the above businesses are also in the AI sector — and likely saw their valuations get an extra bump as a result.
LP pressure
A key undercurrent to all of this is that VC firms have managed to raise large sums for their own coffers in recent years: European funds raised a record $28.9bn in 2022, according to Dealroom data — and need to deploy that capital. “There’s also, frankly, probably some LP pressure, because some funds maybe raised a large fund in 2022 and [didn’t do much investment] in 2023. LPs are also saying, ‘Well, why are we paying management fees if you don’t invest’?” says Christian Saller, general partner at German VC HV Capital.
Valuations are increasing
The market has recently grown more concentrated in hot areas like software, AI and robotics, suggests Saller — and valuations are quickly rising again. “What you’re seeing in strong SaaS companies, AI companies, is valuations are 15x to 20x [annual recurring revenue], which is significantly higher than it was in 2023 and it’s also higher than what you see in the public markets,” he says, adding that it is still below 2021’s high water mark. “I wouldn’t say it’s crazy valuations,” but they’ve “come up again quite a bit.”
“Funds are still relatively disciplined” about price tags, Saller says, but “there’s no real value deals anymore.”
The median size of European Series B and C deals increased nearly 15% and 2%, respectively, from 2023 through the end of May this year, according to PitchBook data provided to Sifted. The median pre-money valuations for Series B and C deals, meanwhile, increased 23% and nearly 10%, respectively, over the same period. The median valuations are also higher than pre-Covid days.
Making big bets is, after all, the name of the VC game: when you see these supposed once-in-a-generation companies, it makes sense not to be stingy. But will this concentration of capital put these companies in a tricky spot when they go on to try and raise at a premium in their next round — or look for an exit?
“It will all depend on how exit markets are going to shape up,” notes Goeldi. “If and when the IPO market comes back, then all these high valuations will probably make sense, because these are tremendously successful companies that certainly will see a lot of traction in public markets. But right now it’s hard to predict when that’s going to happen.”
VCs, I’d love to get your take: do you think these quality startups are getting valued a little too highly? Or are they making enough money to justify the price tags? How competitive are these rounds, and how is that impacting the valuations? Are you feeling pressure from your LPs to invest more this year? I’m all ears.
Read the orginal article: https://sifted.eu/articles/quality-startups-funding-vc/
