The state of start-up funding in Europe
Tech is booming. It’s been booming for a while and the pace doesn’t appear to be slowing down.
Around $100 billion was invested in European start-ups over 2021
Regardless of whether you benchmark based on start-ups, funding or research, it’s a market that is surging, with every other headline seeming to announce new records in the world of tech financing.
Although this is very much a global tech boom, the dynamics in Europe are different, and it has been a landmark year in the region in many respects, with the continent growing faster than any other major tech hub.
To give you some context, there were 98 unicorns created in Europe in 2021, and $100 billion of capital has been invested, close to three times the level of 2020. We are now seeing a $100 million funding round roughly every other day, according to Atomico’s State of European Tech 2021 report.
Fintech is no different. One in five European unicorns are fintech companies. There are huge opportunities for technology companies to remove friction and inefficiencies within the financial system. But to build new products, scale a team and compete with incumbents while fighting off new competitors, a strong financing strategy is key to winning in a competitive marketplace.
The good news is, with European tech creating value at its fastest rate ever, we have seen a tidal wave of funding come into the ecosystem and a definite increase in investor appetite for early-stage European tech companies.
Start-ups looking to scale up their businesses have plenty of routes available to do so, but need to look carefully at the options available to them and weigh up the ones that can offer the capital they need whilst matching the company’s risk profile.
Unlike the US, Europe has never really experienced a full-on tech boom. The European start-up scene was too small and concentrated to fully benefit from the Dot Com era and the boom preceding the financial crash came at a time when the industry was only just starting to mature.
The turbulence of the 2010s and Europe’s generally more conservative investment culture means that few European VCs or entrepreneurs have much real-world experience of the current market. Consequently, the scope to make bad financing decisions is much more acute than in the more battle-hardened US.
So, what does this mean for European entrepreneurs?
There has always been a fine balancing act founders need to play when promoting the ambitions of their start-up against the reality of their business. For European founders, this balancing act is now even more complex.
On one hand, the boom in investment has led to outsized expectations showcased by eye-watering valuations. On the other hand, the complexity of scaling in Europe means that the rapid growth that can be obtained by US start-ups is not necessarily replicable for many companies.
As such, seeking investors with specific regional and sector experience is more important than ever before. Depending on your business model, it may mean focusing your investment strategy on partnering with VC firms based in or with experience of your home country.
Of course, this can reduce the options available, but it will vastly increase the chances of partnering with an investor that has a realistic vision of your start-up’s growth trajectory, given your home market conditions.
The next aspect of the European boom is the fact that deals have never moved faster. This means that founders may find themselves being swept along during a round. Indeed, in some cases it seems the ‘exploding term sheet’ has returned, designed to pressure a start-up into making a deal.
Consequently, there is a very real risk of closing a round that, on reflection, is a bad deal for your business. My most important piece of advice is to take your time, which I know is easier said than done as there’s a temptation to get the money in the bank during the good times.
If you have a good idea and a well-run company though, the investors should wait a reasonable amount of time for you to weigh up your options.
What financing options are currently out there?
In general, as the VC market has become more competitive through a significant influx of capital and new players, we’ve seen an increase in founder friendliness and improved terms from VCs in Europe.
However, it’s not the only option out there. It might be too slow for a business that needed cash yesterday to develop new products, for example. Or businesses on a slower growth trajectory.
Many traditional financial institutions now offer much more flexible and start-up friendly loan options. This trend has been accelerated by the pandemic and the growth in self-employed workers. Then there are government and local council grants and investment programs. Although more limited in cash amount and often tied to a geographical area, they often offer incredibly favourable terms.
Finally, there is the new generation of non-dilutive financing options that provide upfront access to future revenues against a fee. These can be a particularly appealing option if a start-up has a solid pipeline of predictable revenue. As such, fintechs that have a clear site of their revenue and growth for the next year are ideal candidates.
If we look at the US, a core difference between the two ecosystems is the extent to which founders use non-dilutive financing to grow their business. In Europe, around 5% of capital raised in 2020 (<$100m rounds) was through venture debt (vs 95% equity). However, in the US, around 16-20% of capital raised in 2020 was venture debt.
Keep it simple
Overall, evidence shows that investors are looking to innovate and adapt their offering as competition grows to win over the best founders and fill the gap between founder needs and market options.
With proximity to investors also no longer holding the same importance, this means that European start-ups are starting to have access to a far broader and more founder-focused investment ecosystem.
With a noisy market at the moment, the best advice for start-ups is often the most simple – take your time, consider all your options, be mindful of misaligned or outsized expectations, ignore pressure from outside and within and commit to a long-term investment strategy.
