While venture investing outside the US has come a long way in recent years, our analysis shows it remains an entirely different industry than US venture capital. And when we say different, we mean totally different.
We looked at venture investment trends in 2007-2011 from PitchBook and compared them with VC exit results in 2012-16, to very roughly compare investment in one 5 year period with exit results in the ensuring next 5 years, roughly matching VC investment cycles.
INVESTMENT TRENDS SHOW ‘WHAT YOU WOULD EXPECT’
Over 2007-11, European venture started to accelerate. Of course the industry remained a fraction of the US in size, but by 2011 there were 1400+ European investments made vs just under 4,000 in the US, a healthy jump in activity. And average round size was nearly $5 million vs, $7 million for the US. All indicative of a European VC industry developing rapidly from a much smaller base.
EXIT TRENDS POINT TO ENTIRELY DIFFERENT INDUSTRIES
The subsequent 5 years, 2012-16, show entirely different exit profiles. Its encapsulated in a single number on the bottom right of the chart below:
The average US venture capital exit is nearly $200 million, versus $70 million for Europe.
The number of $250 million exits during this 5 year period? 22 across all of Europe, versus 166 in the US. That’s a huge, persistent disparity, especially given the evolution of European venture over the past decade.
WHAT’S GOING ON?
While European venture has come on leaps and bounds, it remains a ‘smaller round, smaller exit’ market.
It is extremely dangerous for European earlier stage VC’s to raise ever-larger funds, or early stage European companies to take very large A or B rounds. The European exit market is still far less developed, and putting more into companies can only damage returns.
The above has nothing to do with ambition, it simply reflects a current reality slowly changing; to make significant returns CEO’s and investors need to invest less into more capital efficient businesses that can return enough in a smaller, though successful exit.
A ‘good’ exit in Europe is $100 million or more, while a ‘good’ exit in the US is at least $250 million.
WHAT IS TO BE DONE?
The key is to fill the Series C ‘black hole’ that currently exists for European tech. This will give the most ambitious CEO’s and investors the opportunity to tap late stage capital to accelerate beyond the $100 million exit mark, in turn creating more future ‘unicorns’ in Europe; currently Europe has 1/10 the US number.
Here are specific, feasible actions that can address this gap in a reasonable time-frame:
- Extend the success of tax-advantaged investing to larger rounds – The UK’s EIS scheme has fuelled unprecedented growth in Series A funding. Extending that and similar schemes around Europe to larger later rounds, will undoubtedly increase the available capital for the most promising ‘scale-up’ companies.
- Introduce specific government financing/co-funding for Series C rounds. It is very possible to do this via attractive debt instruments, since later stage companies are often profitable and able to fund low-interest debt. For example, if each €15m+ equity round qualified for a €5m matching government debt instrument priced at a very low interest rate, overnight it will increase the larger round market, and leverage even greater gains for late stage investors, in turn bringing more capital to Series C and later rounds.
- Increase the number of highly skilled worker visas available for tech scale-ups. Europe has inherent advantages vs Silicon Valley; more stable workforce, far less current hostility to immigrants, and a long tradition of numerous high quality engineering schools. Adding to that a large scale inward ‘genius visa’ program like H-1B in the US’s will enable companies raising Series C to have confidence they can recruit the volume of engineers they need quickly, in turn making it even easier to raise their rounds.
- Create smaller ‘scale up hubs’ along the lines of ‘start up hubs’ springing up around Europe. There is no shortage of European incubators, hot desk workspaces and other types of ‘start up hubs’ but all cater to companies just starting. A more sophisticated and smaller scale set of ‘scale up hubs’ catering for 100+ employee companies, where more advanced mentoring and selective support is available, could spread experience and know-how to aspiring CEO’s, and reduce scale up and financing risks significantly. These hubs would be much smaller than start up hubs as they would cater for a few dozen CEO’s not a few hundred, and aimed at filling the experience and mentoring gaps that can otherwise undermine large capital raises.
Without specific actions, the industry will need 20-30 years to evolve towards US levels. With specific actions, we think this can be cut to perhaps 10.
Shortening this time horizon could perhaps create 10-20 more future tech unicorns, adding perhaps $50-100 billion of future aggregate economic value to European tech.
Now that is an attractive return on investment.
Featured Image: Bryce Durbin