Public market investors…
… have an uncanny way of spotting the money-making potential of the latest tech platform – and they do it every quarter!
Both Uber and Lyft’s flotations got stuck in the traffic as investors slapped a one-star rating. Uber tapped the public market for over US$8 billion at a US$82 billion IPO valuation. Uber loses over US$1 billion a quarter but still suggests that it will be back for more capital soon depending on the performance of new areas of growth such as food and freight. Unfortunately, the public spotlight is impatient.
Not all stock exchanges can provide more than US$10 billion of cash (Uber+Lyft) to a loss-making start-up with big dreams . Yet NASDAQ and NYSE have demonstrated repeatedly that they have the investor appetite and depth to raise such staggering sums. In Europe, the London Stock Exchange AiM and French Euronext present themselves as the partners for European start-ups, while the other exchanges tend to be focussed on more established business – such as those making money!
In this battle to attract technology companies, Europe is succeeding on one measure: European markets attract more tech IPOs, some 172 tech IPOs, compared to 96 for the US since 2015. But size matters.
The recent tech IPOs of Lyft, Pinterest and soon-to-arrive Slack, WeWork, and Palantir are raising more than 100x the amounts raised in a typical IPO during the internet bubble of the late 90s: billions today vs millions then.
Today’s tech IPOs are from companies that are more mature, more refined yet still loss making because they are being kept private for longer, funded by patient private capital and only seeking an IPO once they dominate their market. Growth and market dominance are key for VCs in the valley. Furthermore, recent analysis shows the number of private companies in the US rising significantly against a sharp fall in the number of public listings.
Stock exchanges are national icons. But in realty are they are private businesses seeking to match companies that wish to raise capital with investors who wish to invest. They apply their template of regulations that seek to standardise the timing and format of information that is available on each company to drive a level playing field for all investors. Liquidity is the core objective.
One significant challenge in Europe is market fragmentation. London’s stock exchanges have an approximate market cap of €4.44 trillion; Euronext, the pan European exchange has over €4.78 trillion: even combining these two come in at only 73% of the market cap of NASDAQ. European consolidation may be an attractive in-organic way of scaling up but competition authorities are unlikely to acquiesce even before you get into the nationalist interests. Brexit further complicates this discussion.
The greater the number of active investors on the exchange, the greater the chance for the company to achieve a fair valuation over time. Liquidity drives a more efficient valuation capability.
For tech companies, US investors in both public and private are attracting tech stars with their capital investment capability and record.
This capital comes from returns generated by the FAANGs (Facebook, Amazon, Apple, Netflix, Google: aka Alphabet), dating from the first internet infrastructure and internet boom of the late 90s. US investors are flush with cash and are keen to spin the wheels again. The extraordinary amount of wealth created has gone onto fuel the next wave of tech innovators in the private and then public markets at valuations unrecognisable in other geographies.
My recent visit to TiECon 2019 in the heart of Silicon Valley reminded me of the glass box that surrounds the Bay area. Innovators like Jack Hidary, Alphabet X and the Hidary Foundation look out into the world to address problems which are seemingly unsolvable with an ease akin to troubleshooting your laptop with a call centre. The rest of us then consider a solution that seemed so obvious. Such conferences are magnets for VCs to provide the capital to these ideas.
The magnet for innovation is talent and money. So what is Europe’s magnet?
Being heard in the US is challenging. Start-ups have to run quite far before they can attract investor interest as competition for airtime is huge. In Europe, the stage may be less congested. Exciting tech companies can attract disproportionate attention, potentially benefitting from being a big fish in a small pond. This appeals to entrepreneurs who efforts need to be focussed on their business rather than their profile.
The US is a significantly more regulated and protected marketplace. Expensive lawyers are ready to file a class action lawsuit on companies and individuals on any whiff of inaccuracy. Business forecasting is an art, rarely a science over the long term and managing investor communication while ensuring legal compliance is a challenge not to mention prohibitively expensive.
The European approach is much less litigious even when considering its leadership in regulation such as GDPR. Interestingly, when Adyen – a Dutch fintech titan valued at over €21 billion – listed on the Euronext Amsterdam it still managed to attract significant US investor interest without the additional protections afforded by US stock exchanges.
Recommending the hooks for UK/Europe stock exchanges was the question debated by a High Level Advisory Group (full disclosure, I am a member) in Paris last week which seeks to present its findings to the European Commission at the start of 2020.
Europe needs to play to its strengths and not be afraid to see migration as large fast growing global tech champions find themselves unable to trade efficiently without a US base. In fact, Europe with its significant market size (330 million population), leading research universities and supportive governments and a simpler, easy to navigate regulatory environment could be the world’s leading tech incubator. While this may be sailing against the geopolitical current of nationalism, successful entrepreneurs think globally and not nationally. The current trade wars instigated by the US against China and elsewhere may also give Europe a fillip.
Assuming we are all focussed on supporting our most exciting tech entrepreneurs and companies to grow, create jobs, intellectual property and value for all stakeholders wherever their origins; the drive for local ownership should be replaced with global partnership where all countries share in the global success. If Europe can help incubate the entrepreneur and company while it refines it business model, then this could well be the natural first step towards global dominance.
Introduction: Nish Kotecha is a tech (serial) entrepreneur, investor, advisor and board member based in London. His is the co-founder of Finboot, a Blockchain for enterprise group.
What does the future hold for VC funding in Europe?
European firms secured US$4.9bn in venture capital funding in Q3, far behind the US with US$28bn. But the European market could soon rebound.
The European venture capital (VC) funding market has dropped by 14 per cent in Q3 2018 compare to the previous quarter and is still lagging far behind North America and Asia, according to the MoneyTree report published by PwC and CB Insights in early October.
The report, which highlights the latest trends in VC funding globally, shows that Europe completed 638 deals and raised a total of US$4.9bn in Q3 this year. In comparison, North America closed 1308 deals for a total of US$28bn, while Asia completed 1359 deals and raised US$19.bn.
“These figures are mainly the result of larger VC deals being closed,” says Thomas Ciccolella, US capital venture leader at PwC in San Francisco and one of the authors of the report. “Over the last couple of years, we have seen more and more companies gathering a lot of private capital at levels we didn’t see before, mainly due to the arrival of new types of investors into the space such as hedge funds.”
The arrival of hedge funds in the VC market is a worldwide phenomenon. But what really makes a difference between Europe and the rest of the world is the capacity of US and Asian local tech giants such as Google, Amazon or Alibaba to invest large amounts into local innovative startups through their investment arms.
“For years, Asia was at par with Europe in terms of VC funding,” says Thomas Ciccolella. “But Asia eventually became a bigger part of the pie towards the end of 2016 thanks to investments made by local tech giants. This has resulted in larger deals in the region and, depending on the quarter, Asia sometimes outpaces the US.”
Thus, among the five largest VC deals – above US$500 million – listed by PwC and CB Insights, three took place in Asia and two in North America.
But for Georg Metzger, principal economist at KfW Bank in Frankfurt, the MoneyTree findings for Q3 are no indication that the European VC funding market is falling.
“VC investment can dramatically vary in size,” he says. “We see everything from seed investments of a few hundred thousand euros to larger rounds of several hundred million at a later stage of funding. Depending on when these mega-deals take place during the year, the quarterly figures can fluctuate and, thus, do not reflect long-term trends.”
Q2 2018 saw a few important deals in Europe. In April, the UK-based fintech Revolut raised US$250m, while Freeline Therapeutics secured US$116m in June. Both were backed by large European VC funds.
As to know what the future holds for those investments and whether investors will be able to cash out, the answer may lie in recent exits. In April, Spotify launched an IPO valued at €24bn (US$28bn), while the Adyen IPO in June was valued at €7bn (US$8bn).
“Future large exits will further improve the eco-system and we will see more and more VC funding in Europe as investors know they can make a return on their investments,” says Georg Metzger.
For now, the funding gap with the US and Asia remains, though. To address this issue, the European Union together with the European Investment Fund launched a US$2.6bn Venture Capital Funds-of-Funds programme (VentureEU) in April this year in the hope to boost investment in innovative start-up and scale-up companies across Europe.
In parallel, the European Commission is also working on the Capital Markets Union plan, which includes a number of actions to reduce barriers to cross-border investments.
“The issue with Europe is that it lacks a single area like the Silicon Valley and due to the different legal and regulatory regimes in Europe, VC fund managers are still reluctant to do cross-border investments and invest outside their home country,” says Georg Metzger. “Creating some kind of harmonisation will certainly help Europe to reach the same critical mass as the US or Asia.”
Are ICOs a viable funding solution for SMEs?
The reduced banking lending facilities and the difficult access to private funding have led SMEs to increasingly look at alternative solutions to access capital in recent years; Initial Coin Offerings (ICOs) are one of them.
But even though money continues to flood in the ICO market with US$1.12 billion raised in Europe in Q2 this year, according to data from ICORating, the number of SMEs reaching their fundraising target has dropped significantly in recent months.
Thus, 50 per cent of the ICO projects announced worldwide in Q2 2018 were not able to attract more than US$100,000. In comparison, only 13 per cent of the projects could not go above this amount in Q1-Q2 2017.
For Clément Jeanneau, co-founder of Blockchain Partner, a consulting firm based in Paris, this drop has to do with the quality of projects.
“There was a lot of enthusiasm for ICOs at the end of 2017 – beginning of 2018, which can be explained by the arrival of retail investors on the market who bought tokens because everybody was doing it,” he says. “But before an ICO takes place, the token actually needs to make sense. ”
ICOs are a fundraising mechanism, in which companies and projects issue digital tokens in the view for investors to purchase them in exchange for established crypto currencies such as Bitcoin or Ether.
Marina Titova, head of ICO Advisory at the blockchain investment bank, NKB Group, in London, concedes that many investors who entered the crypto market last year are now taking a step back as companies still fail to assess the real need for their token.
“As a company, you must bear in mind that your investors may want to sell the token on a platform at some point and make a profit out of it. So, if there is no real need for the token, it will be really difficult to find the investors in the first place.”
A number of conditions must be met before an ICO becomes successful. First, smart contracts that allow for the automatic transfer of digital assets between parties and which are based upon pre-specified conditions must be written. Second, the SME seeking to raise funds needs to determine which securities should be associated with the smart contracts.
In addition, the company should take a strategic approach and decide how many tokens will be issued, at what price and the exact role of the token. Finally, the company should determine the right timing and how long the ICO will run for.
This takes a lot of time and financial effort. But for Julien Béranger, a member of iEx.ec – a blockchain-related company based in Lyon that successfully raised US$12.5 million through an ICO in 2017 – this also requires some marketing knowledge.
“From a pure technical standpoint, it’s easy to launch an ICO,” he says. “We are talking about digital assets and this is something everybody can deploy through a series of smart contracts. But if you want to reach your target, you need to market your project at least six months in advance. Only the projects, which are known among investors can hope to raise large amounts of money.”
As to know which investors are more likely to take part in ICOs, all the experts interviewed as part of this article agree to say that, the quality of projects coupled with the new regulatory frameworks across Europe will help attract more sophisticated investors such as venture capitalists, corporate or even institutional investors in the coming years.