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Venture Capital Benchmark Q2 2023
US, Europe, AND Latin America
23
It’s always darkest before the dawn
The phrase “it’s always darkest before the dawn” has literal and psychological meaning. Penned by Thomas Fuller, an English theologian, in 1650, he meant that literally the darkest moment of the day is just before the sun peaks its head over the horizon and illuminates the sky. However, the phrase has gained popularity in the centuries since as a rally cry to motivate pioneers to overcome monumental obstacles with seemingly no end in sight. The phrase alludes to that often just before massive triumphs, people face their greatest challenges. That very well may be where we are today for startups across the world.
From hundreds of conversations we have had this past quarter with founders, investors, and ecosystem members, a common thread continues to arise: founders are resilient by nature and strive to achieve success, but the road, especially this past year, has been difficult. It’s no secret market conditions have been unsupportive for exponential growth, and many founders find themselves weathering the storm rather than taking massive risks.
We are confident the founders that are able to survive and continue forging ahead will be handsomely rewarded. We have already seen startups fold over the past couple quarters, and unfortunately we expect more will do so. For the founders who build companies grounded in product, with lean teams and positive unit economics, and foundations to scale when capital is more readily available - they will grab market share and expand at record paces. We are excited for the future and to support these generational companies.
Welcome to our Quarterly VC Benchmark Report, where we analyze all of the startup and investing activity over the past 3 months and stack it up against what we saw in the previous quarters and years. We scan across the US, Europe, and LatAm to bring you the best insights, be it you are an investor, founder, or just interested in the startup investing space. Let’s dive in.
The biggest headlines
Many startups right now need perspective on where we are in this market cycle and what lies ahead. We will provide some clarity around this topic as we break down where we are headed in the second half of 2023.
Founder perspective
Juan Ignacio, Founder of Boopos and one of our portfolio founders, has his finger on the pulse regarding startup performance and fundraising. He is in the business of helping startups get acquired by providing M&A financing. Juan had this to say when asked about what investors are looking for in startups to purchase:
“Our direct exposure to the digital M&A market allows us to perceive first-hand changes in investor sentiment. For example, this quarter we noticed that investors are bullish about SaaS, which has remained a strong performer through the ups and downs of the past 4 years, whereas e-commerce and related businesses have reverted to the mean, attracting a smaller share of venture money recently. Overall, this remains a buy side market and therefore founders and business owners should expect moderate valuations. On the other hand, there is healthy demand for digital services, so perhaps it's a good time to focus on executing instead of fundraising. The hiring environment also points in that direction, with lots of strong talent looking to join new projects. Interestingly, many companies are pushing for a full return to the office, and that's where ecosystems like Miami are increasingly important as tech people continue to flock to the city.”
Juan provides some key points of advice: focus on execution and people. The companies that can effectively deliver on their product and growth in between fundraises, while assembling the teams to execute on their long-term visions, will have the best chance to raise capital when the time comes.
For a year now, relatively stable funding volume
Despite how headlines evolve, numbers and figures tell a more concrete tale. 2021 and early 2022 were highlighted by extreme levels of overexuberance, where funding volume reached unsustainable heights and startups received capital with little connection to their quality of product and customer base. This produced $100B+ quarters with valuations climbing into the stratosphere, often despite lack of traction.
This hype has come back down to earth as of Q3 2022, and since then funding volumes have stayed relatively consistent. Q2 2023 landed at $59.4B across the US, Europe, and LatAm, which was down just -3% from last quarter. Over the past year, funding volume across quarters has stayed within the band of $56.7B - $65.3B, just an $8.6 margin. This consistency shows promise that economic conditions are improving from their lowest levels and we may have seen the worst of this cycle.
VC perspective
We have always been, and will always be, founder first. However, we cannot support every startup that comes through the door. Startups today must build lasting companies with products that customers demand and struggle to live without.
As Elizabeth Yin, co-founder of Hustle Fund, aptly put it:
“2021 prolonged the lifetime of startups that would've ordinarily died in a ‘normal’ market. Companies with no product-market fit. Many of these companies were given an extended lifeline with valuation markups.”
When founders speak about today’s fundraising experiences and the challenges that come with them, they are absolutely correct that receiving capital now is tougher than a year ago. However, one must decipher the great companies who have reached product-market fit and raised rounds because they have sustainable, repeatable business models from the companies that would have not existed today without the bar being lowered 1 year ago.
When we identify those startups that are building generational products, we go to the ends of the Earth to ensure they thrive.
Lessons from Y Combinator
Nine months ago we published a living document: “Actionable tips for surviving an economic downturn” and many of the lessons are still relevant. We co-wrote this with our founder and investor network so founders could crowdsource best practices and ideas to survive the impending fundraising winter.
We have revisited those lessons, and drawn upon new inspiration from other trusted voices within our space. Y Combinator published YC’s Essential Startup Advice, lessons that ring true and are a must-read for any early stage founder in any market cycle. There are many great nuggets in the guide, but some of our favorites are:
Macroeconomic commentary
Key market data puts the bulls and bears at odds
Entering 2023, the prevailing market sentiment was generally that trouble lies ahead as the Federal Reserve combats inflation. Few investors, if any, could have predicted what would transpire over the next two quarters. Fast forward 6 months (as of June 19, 2023) - the S&P 500 ended 19 percent higher than a year ago, 23 percent above its low in October, and roughly 8 percent away from a record high. So what is driving this rally?
There are certainly still reasons for caution and pessimism. Inflation remains relatively high and above the Fed’s 2% target. Bank failures, corporate bankruptcies on the rise, and likely more interest rate hikes give reason to consider this rally short lived. More market data will give us better clarity on what to expect in public and private markets.
Analyzing key drivers of performance can give us an idea of what’s ahead
Where are we now, and what can we expect going forward?
VC perspective
Miguel Armaza is a Co-Founder and General Partner at Gilgamesh Ventures. He is well versed in market movements and how they affect private market transactions from his prior work at large banks Citi and MUFG. He gives his perspective on what we have seen recently and what is to come:
Data Deep Dive
Retention and expansion
In this market environment, we are hyper-focused on acquisition strategies and cash burn. Too often we see startups spending too much to acquire what they perceive as significant customers, only to fall short and have to go back to the product drawing board.
David Smith, Chief Data Officer at TheVentureCity, speaks to how he views long-term startup success from a data perspective. When he looks at startup data right now, he pays particular attention to customer retention and expansion.
If founders spend time on their most accretive channels and formulate product around retention and expansion (ideally through product-led growth), then David sees strong opportunity to raise further capital rounds due to customer stickiness.
Fundraising by Geography
More of the same
Founders across the US are looking for a return to 12-18 months ago, when capital was plentiful and investor appetite was abundant. There are reasons for optimism, but those reasons have yet to translate to fundraising numbers. The US produced $41.5B in fundraising volume across 3,449 deals last quarter, a -11% drop QoQ and -43% decline YoY.
Despite these unencouraging figures, the US VC ecosystem has remained relatively flat since Q3 2022 and average deal size ($12M) is larger than two and three quarters ago. With the improving macroeconomic data and thawing of public markets, some private market investors are looking at ways to take advantage of this relative market bottom.
VC perspective
Kyle Stanford, Lead Analyst at Pitchbook, engrosses himself with how the VC market is developing, and how that translates to metrics. He gives his perspective on what is to come given recent events and how macro trends are developing:
“Q2 was a calm quarter in VC, especially compared to Q1 that had the collapse of Silicon Valley Bank. Deal value is still low, and valuations are showing more strain than we have seen through the slowdown. The poor exit environment, especially for IPOs, is hampering the dealmaking market because capital is sitting stagnant at the top of the market. During the high exit value years of 2020 and 2021, more than 80% of the value created was generated through public listings. The largest companies in VC need a strong IPO market to unlock the returns trapped from investors and LPs. Without returns, there is less capital to be recycled into the industry through fundraising commitments, which could lead to slow deal activity down the line. We are looking at the next six months as very pivotal for the market. Should inflation balloon back up, and interest rates continue their rise, we should expect a swift decline in dealmaking with the worst conditions. Should headwinds subside, we could see a revival of exits which will, in turn, drive dealmaking activity within the market.”
Europe starts to rebound
In a turn of events, European fundraising activity ticked up in Q2 and was higher than the previous 2 quarters. Q2 saw $17.2B poured into startups across 1,591 deals, a 19% increase from Q1 and 9% increase from Q4 2022. This figure was supported by a few mega deals, particularly Verkor and H2 Green Steel, which raised north of $2.1B and $1.6B, respectively. Although Q2 underperformed on a YoY basis, that isn’t the takeaway here.
Despite the Russian/Ukrainian conflict, less funds being raised in the region, and an energy crisis, European fundraising has stayed resilient and even rebounded in Q2 2023.
VC perspective
Despite the uptick in performance, European investors remain cautious and thoughtful in how they deploy capital. Ricardo Jacinto, Partner at Shilling VC, gives his take on the state of European startup activity:
“Q2 has still been very cautious on the investor side with many companies trying to find alternatives to extend runway to get better metrics and overcome this market downturn. A strong sign of this trend is the focus by large funds on companies in earlier stages, creating a bit more competition in the pre-seed and seed stages and not a relevant decrease in round sizes and valuations. There are a few exceptions of companies performing quite well even in later stages, also AI has been performing quite well, where big rounds and spectacular valuations are still happening.”
Finally some good news for Latin America
Since Q2 2022 the narrative for LatAm has been consistent: worsening market conditions led investors new to the region to pull out in favor of sticking to what they know: investing locally. Hopefully, we are seeing that trend reversing and Latin America gaining back the fervor of the investor community.
Q2 saw investors deploy $650M into Latin American startups across 117 deals, a 76% jump from Q1’s volume. This figure is still slightly down from Q4 and approximately a third of what we saw invested one year ago, but progress is progress.
What is encouraging is there was not a large concentration of deals where one or two fundraises skewed the data dramatically. There was only one company that raised nine figures in Q2, and outside the top 10 largest deals, all other fundraises were <$20M. Decentralization across fundraises tells us that this increase in fundraising is potentially sustainable.
Ecosystem member perspective
Andy Tsao, Head of Global Gateway at Silicon Valley Bank, has been active in supporting Latin American startups for almost two decades. He gives his perspective on the LatAm ecosystem and its propensity to come back, based primarily on the resilience of founders in the region:
South Summit Spotlight
TheVentureCity caps off South Summit with a bang
Laura González-Estéfani, Founder and CEO of TheVentureCity, has long realized there is a special bond between Miami and Madrid. In Refresh Miami’s article, she outlines how she landed and built TheVentureCity in Miami, with Madrid as our European hub. Both cities are Spanish-speaking, abundant with talent, and share a mutual ecosystem where people in tech find themselves bouncing back and forth between the two cities.
South Summit, one of Europe’s largest and most important tech conferences, occurs every year in Madrid. We always enjoy seeing friends and familiar faces come into town and catching up. This year we took South Summit to the next level considering it had been three years since we had seen our entire European ecosystem in one room together.
We gathered the entire TheVentureCity team, founders, investors, and others from the ecosystem to throw a tech party with over 300+ attendees. It was an amazing way to cap off the conference and we hope to host you again in Madrid next year!
Spotlight:
Women in VC
When the rest of the market sank, female-founded companies held firm
Sometimes no news is good news. When the rest of the US market was down -11% from Q1, female co-founded startups raised $6.7B across 689 deals, the same volume as last quarter. This indicates some level of progress in relation to the industry, but there is not much to celebrate. So far in 2023, female co-founded companies represent 18.1% of all US VC dollars raised and female founded teams have raised 1.9% of the total US pie, down from 2.1% in 2022.
The main takeaway: female co-founded companies have not seen much negative change over the past 3 months, but clearly little has been done to more actively support female founders.
VC perspective
Despite the generally negative news around capital deployed for female founders, there was a nugget of inspiration in the space. A true trailblazer and veteran, Itxaso del Palacio, General Partner at Notion Capital, has been an active investor in the European VC ecosystem for over a decade. We are happy to see that she and her partners successfully raised a $300M Fund V, even in this difficult fundraising environment. She was also promoted to General Partner, a huge milestone! She comments on that experience and how she will go about deploying this new fund over the next 3 years:
“Last week we announced the close of our 5th flagship venture fund at $300 million to invest in early-stage business software opportunities across Europe. While we closed the fund at its ‘hard cap’, one shouldn’t assume that the fundraise was easy. We are in a challenging market with limited exit opportunities and with many investors that are overexposed to venture. In our case at Notion, we believe that our consistency and focus were critical to the successful raise. For the last 15 years, Notion has been focused on backing business software companies at Series A. Even in strong markets when money was flowing nicely, we didn't raise massive funds and we didn't play in large, overpriced rounds; and more importantly, we have continued to raise our funds on 3-year cycles (not in shorter cycles taking advantage of the capital available in the market). This consistency has helped us build a stable portfolio as well as trusted relationships with our investors, who continue to support us over the years.
In terms of the deployment of the fund, we are strong believers in the opportunity in business software in Europe. The European ecosystem has evolved over the years and today Europe is home of some of the fastest growing companies in the world. Some of these companies such as Paddle, Yulife, Mews and GoCardless are already in the Notion portfolio and we are committed to backing the next generation of global unicorns from Europe.”
Industry Spotlight: Artificial Intelligence
Moving at the speed of light
A mix of incumbents and new entrants are catapulting the space forward
Founder perspective
Anna Anisin, Founder of FormulatedBy, is a seasoned 3x founder and deeply knowledgeable about the startup space. She speaks to the importance of building with AI and the opportunity the tech presents for founders:
Where does the true value in the AI space lie?
Founder perspective
Marcos Sainz is the CTO of Returnly (acquired by Affirm), and one of our esteemed portfolio founders. He is an expert in the AI space and elaborated on how best to approach investing in companies in this market environment:
"In the AI investment landscape of 2023, it's crucial to understand what lies behind the term 'AI' in the startup you're considering. Are you funding the training of next-gen foundational models with internet-scale datasets? If so, remember that your capital could largely be going towards capex, and the cost of training these models is likely to drop significantly within a year. Alternatively, are you funding a thin wrapper around an OpenAI API? Consider that foundational models from OpenAI or Bard could close the value gap within a year, rendering many of these wrapper companies or projects obsolete.
The sweet spot for VC money may lie in companies implementing Retrieval Augmented Generation (RAG) by leveraging proprietary databases, and creatively using supervised fine-tuning (SFT) and reinforcement-learning with human feedback (RLHF) on top of powerful open-source foundational models, like IIT's Falcon-40b. The magic lies in the creative combination of the best foundational models with proprietary datasets and human-in-the-loop. That's where I'd place my bets in the AI sector today."
AI is moving at the speed of light, and we are excited by future advancements in this already fascinating space. By using market and product approaches in a complementary way, we aim to find the best founders building useful products in spaces that desperately need more efficiency and better customer experiences.
Fundraising by Stage
Seed Funding in Q2 '23
Seed stumbles slightly
In line with the rest of the VC market, seed saw a slight decline in fundraising volume and deals. Seed deals represented $4.6B in Q2 2022 across 1,229 deals, down -9% from Q1 and nearly half of volume one year ago. Despite the drop in volume and deal count, it wasn’t all bad news for seed companies.
Seed fundraises saw a lift in average pre-money valuations ($16.9M) and deal sizes ($3.8M) QoQ. This tells us something: for the seed deals that do get done (of which there are less), they are getting the valuations they command due to strong investor appetite at this portion of the VC market.
VC perspective
Jenny Fielding, Co-Founder and Managing Partner at Everywhere Ventures, is one of the most experienced investors in the seed space. She has 300+ investments as the first check into the company and has seen several market cycles. Here she comments on how this one is shaping up:
“The first half of 2023 was rocky for founders raising capital, with growth rounds feeling it most acutely. Investors with large pools of capital to deploy concentrated their bets into the top 5-10% of companies. So in our portfolio, that played out with a couple of our growth stage companies raising monster rounds while the rest were hard-pressed to raise. Many companies that need to raise have been delaying the inevitable pain. The second half of 2023 into 2024 will likely be tough for some of these companies.
All that said, early stage continues to plug along with pre-seed and seed deals, our sweet-spot, not seeing a huge impact despite the data showing a steep drop in capital being raised. We have seen valuations come down 10-20% but not much more which is either good news for early stage founders or just a lagging indicator of what’s to come.”
Early Stage Funding in Q2 '23
Series A and B companies still weathering the storm
This market has proven unforgiving for companies beyond the seed stage. Series A and B investors have continued their retreat from early 2022 levels and continue to deploy less capital into new companies entering early VC stages.
Companies that have received pre-seed and seed funding rounds are elongating runway and raising extension rounds, plus anything else they can fathom to weather the storm when capital becomes more readily available.
Investors deployed $8.2B across 338 deals into Series A and B startups, down -15% from Q1 and -62% YoY. Average deal value was actually up QoQ to $24.2M, but that was the only bright spot in an otherwise difficult fundraising environment.
VC perspective
Andy Areitio, General Partner at TheVentureCity, is on the ground floor speaking with early stage founders every day. He acknowledges the difficulty in the market, but from his conversations foresees opportunity on the horizon:
VC perspective
Dami Osunsanya, Co-Head of Softbank Opportunity Fund, shares many of the same views as our General Partner Andy Areitio. She opines on what she is seeing at early stages here:
“In the early and early-growth stages, strong companies with outstanding founders ready to create meaningful impact continued to build. Overlooked founders particularly continue to be resilient in this environment given they are accustomed to growing companies under fundraising constraints – as a result, operationally efficient companies with clear paths to profitability emerge. As a generalist fund we’re excited to uncover founders passionate to leverage technology, and innovate in various industries from edtech to sustainability to healthtech. I also continue to be excited about how AI is overlaying these industries to accelerate the technology revolution.”
Late Stage Funding in Q2 '23
Late stage deals rebound, but the devil is in the details
Late stage deals surprisingly came back in a big way in the second quarter. Q2 produced $21.3B in deal volume across 162 deals, up 139% QoQ. This deal volume is still below the record-breaking quarters of 2021, but still higher than any of the past three quarters.
The reason for this massive jump is a few outliers skewed the data: Stripe’s massive fundraise got reclassified to Q2 from Q1, and Verkor and H2 Green Steel’s fundraises accounted for $10.6B total volume. These 3 deals represented 50% of the quarter’s deal volume - hardly an indicator of future momentum moving forward.
However, one cannot discount that the numbers did not decline QoQ and other factors may indicate there may be positive things to come at late stage.
A mixed bag of trends spells uncertainty at late stage
VC perspective
If there is anyone who can help us make sense of late stage investing right now, it is Shu Nyatta, Co-Founder and Managing Partner at Bicycle Capital. He has witnessed the past year of struggles, but sees light at the end of tunnel:
“The growth market in Latin America has been in a coma for over a year, but the patient is finally moving some fingers and toes. It’s exciting to see companies raising B rounds again; it’s also healthy that some later stage companies are considering down rounds for primary or secondary. A reset is needed – it may seem painful at the moment, but will be healthy for the ecosystem long-term.”
Concluding Thoughts
There remains much to be excited about when evaluating the world of startups. The past year has certainly levied its share of challenges. However, we see reasons for optimism. Macro trends seem to be turning (however too early to say, we will know more in 1-2 quarters) and the public markets are starting to respond. Startup founders are finding creative and novel ways to build their companies with less burn and more productivity (see: AI).
We are seeing some stirring across investment stages where the investment bottom has potentially been reached. Lastly, AI presents a whole new opportunity to develop and fund companies with more attractive value propositions. The past year has been difficult. However, we look to the future with excitement as we believe some of the best companies of the decade are only yet to come.
