Sector Focus: Europe, Rising?

Europe's growing number of technology hotspots – led by London, Berlin, Paris, Stockholm, Copenhagen, Helsinki and Tel Aviv – as well as the rising number of home-grown 'unicorns' (startups valued at $1bn+), such as Spotify, Transferwise and Shazam, has attracted a great deal of attention from media and investors alike. However, the underlying picture in the European venture capital scene is rather more nuanced. 

According to Dow Jones VentureSource, across 2014, European venture-backed companies raised a total of €7.9 billion in 1,460 deals, representing a dip of 11 percent in deals completed on 2013, but an improvement of 25 percent in euros invested. Meanwhile, the overall number of fund closings in 2014 dropped by 4 percent to 76 from the previous year, while the total amount raised by venture funds fell by 18 percent year-on-year, to €3.4 billion.

Notably, however, the number of European venture-backed IPOs rose to 55 in 2014 – a threefold increase on European listings in 2013. In addition, the number of M&A transactions involving venture-backed companies and completed in 2014 (201) improved by 21 percent year-on-year. 

A primarily US trend of rising valuations of VC-backed tech companies, illustrated by Facebook's $19 billion acquisition of WhatsApp and Uber's $40 billion+ price tag (indeed, the taxi app's next fundraising round is likely to value the company at $50 billion) has fuelled talk of another tech bubble. Benchmark Capital partner Bill Gurley, an investor in Uber and Snapchat, is just one leading Silicon Valley figure to warn that the tech industry has taken on too much risk. “I do think you'll see some dead unicorns this year,” he warned in March.

But is Europe at a similar position? Davor Hebel [see box-out], a partner at Fidelity Growth Partners in London, told PEI that unlike the dot-com bubble of 1999, there are today strong fundamentals underpinning European growth including market size, the number of proven entrepreneurs, market reach thanks to distribution platforms such as Facebook, Android and Apple's App store, and also profitability.

However, Hebel too has a concern that valuations have headed into dangerous territory. “We're seeing more and more companies being valued at $1 billion plus, and that's a sizeable number,” he says. “When you think about how many companies are really likely to achieve exits on that scale, the answer is probably not a lot.”

Yet despite some caution surrounding valuations, as well as a few lingering concerns over access to capital for startups, particularly when compared with the US, the consensus among VCs interviewed for this article was that Europe's technology, entrepreneurial and venture ecosystem is steadily improving.

We asked Hebel and three other leading London-based venture capitalists to explain why, and to consider some of the challenges ahead. 

Christian Hernandez, managing partner, White Star Capital

“The question whether Europe can produce global technology success stories has been answered: it can.

Based where: London and New York
Investment geographies: North America (East Coast) and Western Europe
Investment sectors: Late seed and Series A into digital businesses with potential for global scale
Year founded: 2007 as a personal investment vehicle. Evolved in 2013 into a VC fund
AUM: Undisclosed. Through Dec 2014, $18 million
Fund currently investing from: Started investing from the current fund in 2013 (final close undisclosed)
Signature investments: Betaworks (seed investing, New York), 
Dollar Shave Club (specialist retail, Los Angeles), 
Summly (digital media, London)

“There is no question that entrepreneurship is now global. A group of technically savvy and ambitious founders can build a global $1 billion-value company anywhere from Finland (Supercell) to Milan (Yoox), and from London (Transferwise) to Stockholm (Spotify). The pace of entrepreneurship has significantly increased across Europe in recent times. Between 2009 and 2014 the number of seed-funded companies in Europe increased eightfold. At the same time new, global platforms like Facebook and Android allow companies to scale globally much more quickly and at a much lower cost.

Finally the cost to scale a business has dropped massively. A study by Deloitte revealed that the cost to store a Gigabyte of information in 1992 was $569. By 2012 the cost had dropped to 3 cents of a dollar. These factors combined allow for a startup to scale with less funding, acquire users and monetise them at a faster rate and achieve the type of growth trajectories usually seen by Valley-based companies.

However, European companies still face challenges in receiving funding compared to their US equivalents. According to the European Private Equity and Venture Capital Association (EVCA), the amount of assets under management by European VCs has stayed flat between 2009 and 2013. On average a European company will raise $5 million less between Seed, Series A and Series B rounds than their US counterpart. This is beginning to change though, as evidenced by the number of new funds in Europe in recent years, including Point Nine and Notion in the Enterprise space, Mosaic and our own White Star Capital targeted at US-style Series A rounds, [as well as] Google finally opening up shop outside of the US, with a $100 million commitment per year to the European ecosystem. 

On the later stage side, Europe is certainly not yet in the crazy world we are seeing in the US where my mother-in-law's pension fund ends up owning a piece of Uber, but we are certainly seeing West Coast VCs opportunistically coming into Europe. As an example Andreessen Horowitz has recently led two back-to-back $20 million rounds, Improbable [a London-based software maker], and WorldRemit [a UK money transfer business].

When I joined Facebook in 2009, there was a healthy amount of internal debate as to whether Europe could produce any global winners for Facebook to partner with. Today, with Spotify Facebook's largest music partner, King and Supercell its largest gaming partners, and The Guardian one of its leading global media partners, that is no longer in question.”

Amy Nauiokas, founder and president of Anthemis Group

“LP interest in UK early stage technology seed and venture funds has been extremely high.”

Based where: London
Investment geographies: Primarily US and Europe
Investment sectors: Digital financial services and marketplace technology 
Year founded: 2010
AUM: n/a
Fund currently investing from: Anthemis does not currently have a fund. The company invests in seed 
and Series A rounds
Signature investments: The Climate Corporation (insurance data provider, San Francisco), 
Simple (direct banking, Portland),  
Betterment (automated investing service, New York)

“At least in the digital financial services sector, which is where Anthemis operates, Europe's early stage funding environment is strong and consistently growing stronger. It's easier to raise Series A and Series B funding than ever before, there's a ton of capital in the market, and both entrepreneurs and investors are extremely enthusiastic. Specifically in financial services startups, we're seeing the pace and opportunity grow exponentially. That isn't to say the people who point out the US market's strong record of success and entrepreneurship are wrong. The UK community has a shorter history in that respect and there are fewer founders here with multiple exits under their belts. But that also means valuations are lower and the sense of meritocracy is greater, two things that are endlessly useful to investors.

We hear a lot about the hype or hotness of venture capital and digital financial services in particular, but it really depends on your perspective. I have been working in this space for my entire career, as have most of my partners. All of this newfound interest excites us because it's validation of the trends that we have been identifying for many years. A business like ours, and other businesses with deep experience in the sector and a strong investment track- record, will always be able to refer to that no matter how many other players there are. Those are the funds and the organisations that entrepreneurs have to attract, and they are the ones that LPs need to focus on.

I've only been back in the UK for the last nine months, but during that time LP interest in early stage technology seed and venture funds has been extremely high – not just here but across the continent – and I expect that trend to continue. Certainly in digital financial services, we're seeing a significant and increasing amount of demand for investment opportunities for LPs. Partly it's because a lot of institutional LPs used to refuse to bet on the industry that could potentially put them out of business. But they're now appreciating that there are natural areas of collaboration and cooperation that make sense, and that the last thing they want is to be in a position where not only were they put out of business, but they didn't have a stake in the next version of the industry.”

Hussein Kanji, partner, Hoxton Ventures

“16% of the world's technology unicorns are now from Europe – but LPs remain sceptical.”

Based where: London
Investment geographies: Europe
Investment sectors: Software-driven companies
Year founded: 2013
AUM: $40 million 
Fund currently investing from: Fund I, $40 million, 2013
Signature investments: Deliveroo (food delivery, UK), 
Darktrace (cyber security technology, UK)  
Yieldify (e-commerce solutions, UK) 

“The biggest headline change is the idea that Europe can produce unicorns. We've been tracking this on a spreadsheet since 2000. The number of unicorns in Europe would have been about one a year or so back then. Today about 16 percent of the world's technology unicorns are in Europe. 

That's had the most dramatic impact on the ecosystem in the past few years, because venture capital is all about chasing outlier returns. If there are more companies that are outliers, then more people generate returns. More American money is coming into Europe and M&A is happening on a more consistent basis too. 

When it comes to the roadblocks ahead for Europe, there are two things that worry us. We still worry about capital. If you add up all the European venture capital, it's still smaller than what New York alone does in a given year. I would still say that the whole of Europe combined is probably where the New York or LA venture or technology community is – so we still have a way to go. There are still issues when it comes to access to capital for startups. 

Risk aversion in Europe is higher than in the US, which means that US investors are more willing to take bigger, bolder risks earlier – plus there are more of them in the first place. If you are a European startup, it can definitely feel that there are fewer folks who will want to invest at the early stages of capital funding. 

Nor is there a big European LP base. In fact, the biggest European LP base is probably the European Investment Fund. Somewhere between 40 to 60 percent of the aggregate capital in Europe in the venture market comes from a government source of one kind or another. The institutional LP base, meanwhile, is still sceptical of venture in Europe.

Second, we spend a lot of our energy worrying about talent scarcity. At our best companies, the ones that are scaling dramatically, who reach $6 to $12 million annualised run rates – and clearly have a path to get to $30 or $40 million – they need to bring on the next generation of executives. But there's a scarcity there. There's a scarcity on the VP of engineering side, on the chief revenue officer side, on the VP of sales side, on the COO side – there are just not enough people in Europe who have done it before.”

Davor Hebel, partner at Fidelity Growth Partners

“Europe's stock of quality entrepreneurs is improving.”

Based where: London, UK
Investment geographies: Europe and Israel
Investment sectors: Technology
Year founded: 1969
AUM: $400m
Current fund size: $155m
Signature investments: Wahanda (specialist directory), 
Seatwave (ticket service), 
notonthehighstreet (online gift shop)

“The VC market in Europe has come of age and that's demonstrated in a number of positive developments. One is that we are now seeing billion dollar – and probably soon a number of 10 billion dollar – companies built in Europe. And that's something we've never seen before. It validates the ability of European entrepreneurs and VCs to build amazing companies. Second, we're seeing a maturing VC ecosystem, where there are now experienced venture capitalists: we've been around for 15 years, the likes of Index Ventures and Accel have been around for 15, 20 years in Europe. It takes a while for that ecosystem to mature, and it's not just about the big players, it's also about the new market entrants such as Mosaic Ventures, Google Ventures and others, which only speaks to the strength of the kind of capability that is available to entrepreneurs today. 

Finally, I'd say that the availability of amazing entrepreneurs is better than ever before. That's expressed both as availability of second time entrepreneurs, people like Alex Chesterman, who was originally co-founder of LoveFilm and then went on to build Zoopla, another billion-dollar plus company in Europe. Those types of folks are everywhere today, and behind them there's an army of first-time entrepreneurs, who are not just in London, but also in Berlin and Stockholm, and many other cities around Europe. So while, historically, there were questions about the ability of Europe to build really large companies, those have been answered now. 

However, there are also a couple of risks ahead for Europe, in terms of failing to make the most of this opportunity. First, we need to continue attracting the best talent, because some of our companies are getting to a scale where they have maybe thirty to a hundred million of revenue, but they really need amazing teams to continue building them. We need more great people to leave comfortable management jobs at the likes of Amazon, eBay and SAP and come and build these amazing companies. Second, we need to have patience and commitment. In the long term, the future seems bright, but along the way there might be some bumps in the road and when there are bumps, you usually see the difference between people who are committed to a particular region or a particular sector and those who are, I'd call them, opportunists.”