After the start of the Ukraine war, optimism prevailed among start-up financiers: Although the valuations of technology companies on the stock exchange collapsed, some of them dramatically, it was said at the time that the venture capitalists themselves would hardly be affected. Their financiers, institutional investors from pension funds to the asset management of wealthy families, ultimately only expected a return after a few years – and by then the crisis was long over.
But this hope of the financial managers proves to be deceptive. This means that far less money will be available to the global start-up scene in the coming years than was last hoped – in a situation in which new technologies such as artificial intelligence and climate protection actually require a particularly large amount of venture capital. Experts are already warning that the big investors could miss opportunities.
According to calculations by the data service Preqin, investors put less money into venture capital funds in the last quarter of 2022 than they have in nine years. The boom in the venture capital asset class thus ended abruptly. At $20.6 billion, 65 percent less money flowed than in the same quarter last year. 226 venture capital funds received funding from their backers, known as LPs. In the final quarter of 2021, when the start-up hype was at its peak, there were still 620 funds.
The sharp drop reflects what is happening among start-ups with a time lag: IPOs are currently not very attractive for growth companies from Amazon to Zalando because of the sharp fall in prices on the stock exchanges. This means that the venture capitalists of older start-ups have no prospect of exiting.
For venture capital funds, start-ups are commodities: they use the money they collect from investors to invest in young companies in order to increase their value through rapid growth – and after a few years resell them profitably or list them on the stock exchange. At the end of the multi-year term, the funds can then repay the money paid in to their respective lenders with a surcharge. The failure of a large proportion of start-ups is priced in.
However, young companies are currently worth significantly less on paper than they were just over a year ago. The number of successful start-ups, known as “unicorns” in industry jargon, that can boast a company value of over one billion dollars is falling. This makes it harder for the founders to get fresh venture capital.
In this situation, the start-up founders try to make do with the money from venture capital funds for longer. German flagship start-ups such as the scooter rental company Tier, the fast delivery service Flink or McMakler therefore cut expansion plans and jobs. The Berlin fast delivery service Gorillas, which was highly traded when it started three years ago, even had to save itself in an emergency sale to its Istanbul competitor Getir due to a lack of fresh funds.
This shows that the start-up boom of recent years, with more and more highly rated young companies and successful IPOs, is over for the time being. This apparently also ends the expectation of many large investors to be able to achieve significantly higher returns with the asset class venture capital than, for example, on the stock market.
German venture capitalists had also advertised professional investors with high returns. According to Perqin, three German start-up investors in particular stood out: Blue Yard, Target Global and a comparatively small fund from Earlybird, each with a return (net IRR) of over 60 percent.
Just six months ago, this yield argument was still being used between the Rhine and the Oder: According to Perqin, by October 2022 the money not yet invested in the German fund had increased by around two billion euros compared to the previous year. For example, Headline from Berlin, which used to be called eVentures and is behind start-ups such as Gympass and Blinkist, reported its largest new capital round of 914 million euros in the summer of 2023.
The Berlin early-stage investor Project A, which like WELT belongs to Axel Springer SE, also reported a record fund of 360 million euros in the summer. However, these two financiers, who mainly finance young start-ups, must have started looking for investors several months earlier – i.e. before the start of the Ukraine war.
What’s more, such companies that are well-known on the European market have an advantage. On the other hand, it will be more difficult for young start-up financiers who cannot yet look back on many years of success. “Investors favor established fund managers. 73 percent of the collected capital went to managers with four or more previous fund generations,” write the Preqin experts. This is making the start-up scene more conservative – especially since, according to Perqin, the return on venture capital fell significantly again worldwide in the fourth quarter of 2022.
So the length of the crisis is making venture capital fund LPs more cautious. But that is apparently not the only reason for the sharp decline in new funds worldwide, which is affecting Asia the least. With the lack of exit opportunities for the start-ups themselves – i.e. sales and IPOs of young companies that have grown up – the flywheel of the start-up scene itself also gets out of step.
In recent years, asset managers have often put the money they earned with venture capital back into such funds. Since this income is currently absent, there is no fresh money either.
According to their investment guidelines, important donors, such as foundations of US universities, are often no longer allowed to invest fresh money in venture capital companies. This is also an effect of the slump on the stock market: because their equity investments have fallen sharply in value, but the risk capital has not depreciated accordingly in the books, the percentage of this asset class in the portfolios has risen above the internal limit in some cases. This means that these last reliable financiers are currently being eliminated. As a rule, small investors cannot invest directly in venture capital anyway.
The large risk companies are reacting to this capital squeeze. For example, the important Californian investor Andreessen Horowitz (Twitter, Airbnb, Skype) has informed his lenders that the money from his current crypto fund will be passed on to founders more slowly than initially thought, writes the “Wall Street Journal” (WSJ).
This means that the venture capital funds themselves do not have to advertise for new investments in their funds any time soon – especially since they apparently have to make strong concessions to potential investors at the moment in order to keep them on board. The WSJ also reports that Sequoia (PayPal, Google), one of the largest start-up investors in the world, is currently offering its investors special conditions.
The German venture capital scene, which has grown in recent years, is currently benefiting from its structure. Because during the crisis, funds that invest in start-ups at an early stage are considered to be less risky – and thus give smaller sums per investment.
This applies to most German players: 42 venture capital funds are registered in the Federal Republic, only one of which is explicitly for late, large rounds. The rest invest mainly shortly after founding a company, so have a particularly long time before exiting.
In the long term, the Preqin experts remain confident that alternative asset classes will continue to boom globally: 23.3 trillion dollars would be invested in this area at the end of 2027 – almost ten trillion dollars more than at the end of 2021. These investments beyond the classic stock exchange include private equity and hedge funds , real estate, debt instruments, infrastructure, natural resources – and venture capital.
Because long-term yield expectations are still high: Even with current investments, the currently low valuations could mean that the 2023 vintage could prove to be particularly profitable at the end of the term, the Perqin experts are optimistic.
After all, particularly high-yield start-ups have also emerged in previous crises: “Investors should remember that – apart from the hype of the past few years – some structural technological trends persist that will benefit some venture capitalized companies enormously. It’s just that the market decided to pay a different price for it.” In plain language, this means that start-ups are particularly cheap now – an opportunity for courageous financiers.
“Everything on shares” is the daily stock exchange shot from the WELT business editorial team. Every morning from 7 a.m. with our financial journalists. For stock market experts and beginners. Subscribe to the podcast on Spotify, Apple Podcast, Amazon Music and Deezer. Or directly via RSS feed.
