fINDING OPPORTUNITIES IN A SH** MARKET
Amidst the bustling Fall tech events across Europe (still recuperating from Slush!), Hugo and I have relished our time among the vibrant Venture ecosystem. Despite the anticipation of increased deal flow among numerous VCs before the winter chill, overall capital deployment across most firms remains under historical norms. However, as you’ve seen, here at Founders Capital, we've been actively engaged.
Below, I (try to) shed light on factors contributing to the apparent shortage in capital supply and the momentum of venture rounds. I'll also share an overview of our approach at Founders Capital as we adapt to this ‘interesting’ environment, persisting in supporting and investing in the best Seed & Series A founders across Europe.
Several prominent investors have significantly curtailed their investments. Surprisingly, despite lower deal prices and an excess of un-utilised capital (dry powder), there hasn't been the expected surge in purchasing activity. We attribute this to three primary reasons:
1) Elusive Traction
Backing businesses demonstrating substantial traction seems logical amidst this market-wide pullback. Yet, apart from a few exceptions, discovering genuinely promising ventures at the early stages has proven challenging (but not impossible). Previously, a "normal" Series A typically showcased:
Essential metrics like 100%+ YoY growth, £1M+ ARR, and 100%+ net retention on £1–5M of raised capital. This is alongside diligence on team, technology, market potential, distinctiveness, customer feedback, and more.
However, companies meeting these metrics are now scarce. Most in today's market are:
Pre-traction companies with relatively high valuations
AI and a few other trendy sectors still attracting experimental demand
Less mainstream locations and vertical markets historically overlooked by venture investors (this is worth an article of it’s own!)
2) Interconnected Startups: A Double-Edged Sword
Many startups have other startups (at various stages) as their customers, which aids growth during market peaks but accelerates decline when there are market jitters. While the wider economy seems to have sidestepped a recession, the startup ecosystem is undoubtedly experiencing one. Everyone is (quite rightly) critically evaluating their spend on SaaS + ‘non-essential’ costs.
Previously, achieving 120%+ net retention was pretty common. However, top-tier businesses across multiple sectors are now experiencing sub-100% net retention. Even the best companies are easing off the gas pedal, stretching the timeline for achieving 10x growth from 3–4 years to 6–8 years.
3) Pricing Conundrum
We're yet to establish a standard for what a Series [X] should look like in the current market scenario.
Seed investment seems relatively healthy, allowing multistage firms to deploy smaller capital amounts with lower risk. However, we have seen that pricing in Seed has been pushed up (around 20%), deviating from historical patterns that drove significant returns in that asset class. Similarly, despite some companies facing the reality of high down rounds, there remain groups yet to adjust to a new standard that would devalue them by 50% to 80%.
Many companies raised substantial capital in 2021, extending their runway. However, despite growth, many might fail to secure subsequent funding rounds, merely postponing the inevitable. As a result, I think it’s safe to assume that many of these companies will start to unravel in 2024.
BUT… It’s not all doom & gloom
Despite the challenges, there's a compelling case for optimism. Great companies often emerge during downturns. Personally, we feel we have found some real gems this year at some very compelling valuations. Periods like the one we have faced force companies to change their focus. Gone are the days companies can focus on unprofitable revenue and unsustainable growth.
We’re confident that the current moment is ripe with opportunity:
1) Innovations at Intersections
When multiple technological advancements converge, they can create transformative moments, similar to the cloud computing and mobile tech explosion in the early 2010s. Recent years have witnessed massive capital influxes fuelling various innovation curves, potentially reshaping the venture landscape. Advancements in infrastructure, communication, and readily available technologies are accelerating this transformation - there are some seriously valuable 1-2 person companies out there as a result.
2) Exceptional value in niche verticals
We’re starting to see a significant appetite in companies that previously wouldn’t have been considered “venture scale” - there are some bloody brilliant companies that have strong commercial track record that are operating in niche, legacy industries.
3) Consolidation for Larger Returns
Companies weathering market storms tend to yield greater returns. Long-term compounded innovation coupled with consolidation through M&A or talent concentration can deliver superior outcomes for both companies and investors. Yes some opps might not return you 100x but we might find more cash being recycled more quickly as a result.
At Founders Capital, akin to our portfolio companies, we are refining our strategy to seize the moment. Over the next 12 months we’re going to adopt a more steadfast focus on tech companies revolutionising niche/legacy industries based on our continued efforts to bring the best value deals with the biggest potential upside to our community. We are focused on adopting the "Longest View in the Room." Our investment model has been unwavering since day 1 & remains focused on finding EPIC founders leading early-stage companies who can demonstrate profitable traction.
We’ve never been the biggest cheque on the cap table, but always aim to bring as much value as we possibly can for our portfolio companies. Despite the contradictions and challenges in the 2023 venture capital landscape, we strongly believe we stand on the brink of a new era of growth.
