SOET for Founders

The impact of the market reset is visible in founder sentiment when asked about the change in fundraising conditions over the past 12 months. 80% of founder respondents to the survey say that it has become even harder to raise venture capital than last year, over the past year. Just 7% of respondents stated that conditions had eased.

It's worth noting that this year's responses suggest that fundraising conditions have deteriorated beyond what was already a challenging moment at the time of last year's survey. In other words, this year has been even harder than last year for 80% of respondents.

Looking at respondents from different demographics, underrepresented founders are having a relatively harder time. While the views of women and men founders are aligned, non-white founders report facing tougher barriers (87%) to fundraising compared to their white peers (79%).

The slowdown in investment activity is reflected in a decreased count of disclosed investment rounds. Looking at the investment activity across the last ten years, 2021 and 2022 are standout years, while 2023 is on track to land in line with prior years.

The category of rounds involving investment amounts of $5M or less continue to represent the overwhelming majority of all activity, equating to 73% of all rounds in 2023.

It should be noted, however, that this category is most impacted by the so-called reporting lag, which results in early stage investment rounds being systematically unpublicised for an extended period of time until reporting catches up to subsequent data disclosures.

This reporting lag notwithstanding, it's notable that sub-$5M rounds account have been shrinking as a proportion of total investment rounds raised in Europe each year. Over the past three years, $5M+ rounds have accounted for around one-quarter (24-27%) of all activity each year. A decade ago in 2014, that share stood at just over one-tenth (11%).

In this year's survey, we asked founders to share their specific experiences in attempting to raise their most recent rounds of investment.

The responses make for tough reading. The vast majority of founders highlighted the impact of challenging fundraising conditions on most aspects of their process. The most notable impacts cited were extended process timelines, the need to adjust valuation expectations down, and having to reduce round sizes or take more dilution than hoped.

That being said, there's always a small number of founders and companies that are able to successfully navigate challenging market conditions to negotiate with potential investors and command more favourable terms.

While there has been much discussion about a potential extension of the average time between investment rounds as founders seek to delay returning to the market to raise additional capital, this hypothesis is yet to be reflected in publicly-disclosed data.

This is likely due to the fact that companies that have had to elongate the time between their funding rounds have yet to come back to the market to raise capital in sufficient volume to impact the overall numbers. The companies that have had difficulty closing new rounds of investment or are simply waiting things out are, of course, not captured in the data.

As of Q3 2023, the median time between rounds for growth stage companies has remained largely unchanged throughout the five-year reporting period, clocking in at an average of 23 months between consecutive rounds.

For early stage companies, meanwhile, only a slight uptick in the median interval between investment rounds is visible in the data.

In last year’s State of European Tech report, a clear uptick in bridge rounds was already becoming evident by Q2 2022. Today, that uptick has developed into a clear trend, with 2023 seeing the highest share of bridge rounds across all stages globally since 2019.

Bridge rounds are more common at the earliest stages of a startup's fundraising journey, when they serve to buy more time to find product-market fit. This is also reflected in the data, with Seed stage (38%) and Series A (39%) seeing the highest share of extension rounds in 2023, as well as in previous years.

The relatively high share of bridge rounds in the later stages underscores uncertainty in the market, as founders look to reinforce balance sheets and boost cash runways.

Unsurprisingly, capital investment volumes are also being shaped by changes in round sizes, and not just the absolute count of rounds taking place. At the later stage, following a reduction in the latter half of 2022, there are now observable signs of stabilisation in round size over the course of the past four quarters. As a consequence, round sizes are back in line with the longer-term, 5-10 year averages for the growth stages.

The trend at the earlier stages, however, is somewhat different. At Seed and Series A, median round sizes have also seen a period of stabilisation following rapid increases during 2020 and 2021, but remain elevated at levels significantly above 5-10 year averages.

For growth stage founders in particular, this inevitably translates to having to achieve more with less capital for an extended period of time, despite the ongoing inflationary pressures on wages that are keeping talent costs elevated.

The same trends are playing out across the ocean, where US Seed stage companies raise significantly larger rounds - roughly twice as large as their European counterparts. This delta starts narrowing as companies mature, disappearing by Series C.

As in previous years, we asked founders to share their biggest commercial, operational, and financial challenges, both looking back over the past 12 months and looking forward to the year ahead.

Looking back over the past 12 months, the top three most frequently cited challenges highlighted by founders were: securing access to capital (38% of founder respondents), securing new customers (37%), and managing longer sales conversion cycles (30%). Other frequently-cited challenges over the past year included finding product-market fit, building repeatable sales processes and managing cash burn.

Looking to the year ahead, most founders cited a similar set of expected challenges, led by securing new customers (44% of founder respondents), securing access to capital (41%), and building repeatable sales processes (27%).

By stage, founders of Seed stage companies are relatively more concerned with securing access to capital in the next year (+10% compared to overall) while Series A founders have burn rates on their mind (+16%). As is to be expected, founders at Series B stage and beyond aren't worried so much about finding product-market fit, but are most focused on minimising existing customer churn instead.

Turning the page over to founder demographic, women founders are relatively less worried about managing burn rates, mostly as a function of a high concentration of women founders in Angel and pre-Seed funded companies where companies are still in the early stages of product development.

As seen in regional investment volumes, at the country-level, early stage funding has proven far more resilient across countries, while significant declines in growth stage funding rounds account for most of the decline in total capital invested.

The universe of funded companies is one useful measure of the scale of Europe's tech ecosystem, but a more comprehensive picture must also include the full universe of active tech startups, irrespective of whether they have raised venture capital.

This expands the tech startup universe by a factor of more than 10x from 45,000 to around 600,000 companies across the region. This also serves to highlight just how few tech startups (just 7.5% of all tech startups) actually embark upon the venture capital funding journey, whether voluntarily or involuntarily.

An analysis of the flow of earliest-stage investment by sector provides a useful forward-looking indicator of the sectors most likely to dominate future later-stage investment.

Looking at the distribution of sub-$5M rounds - which provide a general proxy for Pre-Seed and Seed investment trends - Software, Carbon & Energy, and Health are the top three most important sectors for early stage investment in 2023, followed by Enabling Technologies and Digital Infrastructure.

This chart also highlights the outsized share of investment into the Carbon & Energy sector in later rounds, which captured 28% of all capital invested in rounds of $5M or more.

The changing macro environment has created a new set of challenges and priorities for European tech talent. Hiring, both at the senior and junior level, is no longer a top-ranking challenge for founders, implying a cooling of the heated talent acquisition race witnessed in 2021 and 2022.

In its place, for founders reflecting on the past year and looking at the next 12 months, the challenge of managing compensation now comes in first. This mirrors the current macroeconomic climate, as both companies and employees are feeling the pressure of managing spend, inflation, and the ongoing cost of living crisis.

Interestingly, while working remotely became common practice in the wake of the Covid-19 pandemic, founders are still grappling with the challenges of managing a remote team. Each company is unique, and finding the best solution for remote team members has been a top-two ranking culture challenge for two years running.

Notably, the challenge of managing layoffs has fallen to the bottom of the list, according to 2023 survey respondents, both in terms of their experiences over the past year, as well as looking forward into 2024.

Taking the leap into entrepreneurship is one of the bravest and most challenging choices one can make. Anybody starting a company, at any time, has to embrace a journey filled with risk, sacrifice, and personal challenges.

That's why it's essential to remove barriers to entrepreneurship in order to unlock latent talent that has the potential to succeed. To explore this, we asked survey respondents this year to share their perceptions of the greatest barriers for founders looking to start a company in Europe today.

The top responses are a lack of access to external financing (59%) and personal financial constraints (48%), followed by the uncertainty created by the macro backdrop (43%). This aligns with findings explored elsewhere in the report, that show that the market reset has led to a slowdown in the rate of new tech startup creation. Given the scale of financial barriers, entrepreneurship is a luxury for those that can afford to pursue it. It is little wonder that this leads to risk aversion being cited by many (32%) as a factor in blocking potential founders from starting a company.

The STAR score itself is intuitive. The higher the score, the stronger the team that has been assembled.

This is brought to life when comparing the evolution of team scores over time for those companies that succeed in reaching a billion-dollar valuation vs. those that do not.

As illustrated in the chart, billion-dollar companies start their journeys with stronger teams right from the earliest years post-founding, and go on to build stronger teams over time.

Of course, there's no such thing as guaranteed success when it comes to startups, but this indicator is a helpful tool.