This piece was written in collaboration with the AllocateGP team which is building a community of European emerging VC managers and forward-thinking LPs.
The European venture capital market needs a makeover. Over the last two decades, Europe has struggled to keep up with its US counterpart. Historically, returns in European venture has lagged the US, which over time have given rise to a poor perception of Europe. However, over the last few years, the European venture landscape has shown signs of significant change for the better—with the returns starting to come through. Perhaps it is time to debunk several myths that people believe about European tech, and by doing so, we will shed some light on the investment opportunities emerging in Europe.
Myth #1: Europe Lacks Innovation And Talent.
Often, investors and entrepreneurs remark that truly breakthrough technologies essentially all come from Silicon Valley. There is no doubt that Silicon Valley is an extraordinary technology hub and there is no need to list the successes that were born there. However, Europe’s own technology hubs have developed to a level where they are now reaching an inflection point where a new wave of innovation will be developed.
First, the talent is there: Europe has more STEM graduates, twice as many STEM doctorates, more developers (6.1M vs 4.3M in 2019) than the US. Half of the top 10 computer science schools are European. Huawei, Sony, Samsung have research centres near European universities by no accident. This talent has developed breakthrough technologies in the past, such as: mobile phones, Bluetooth, broadband, and coding languages (C++)—think of the likes of Nokia, Siemens, SAP, Alcatel which were built. It is also true that talent in Europe has flocked to the US for better opportunities, but according to the surveys in the Atomico State of European Tech report, they are increasingly staying at home and European technology hubs are budding.
Myth #2: Europe Cannot Produce Big Winners.
There is also the perception that all the world’s unicorns come from the US (or increasingly, US and Asia). Europe is churning a growing number of unicorns too—the total European tech unicorns count is 174, over half of which were VC-backed. 13 European unicorns are now valued at >$5B and four have crossed the $10B valuation mark. The growth spurt in unicorns is beautifully shown in the chart below. It is worth noting that Europe has not yet produced the same sized tech titans that the US has – the Apples and Amazons of the world. However, over the next ten years as the private (and public) European markets catch-up, we may have some European titans of our own.
Myth #3: Fragmentation In Europe Is A Constant Headwind.
The inevitable issue that investors raise with the European venture capital market is that there are significant cultural and language barriers which slow or limit innovation. These are real. While fragmentation still exists today and will continue to do so, this barrier is increasingly lowering. Moreover, the negative perceptions can actually be viewed in a positive way.
Firstly, we should note that countries across Europe are competitive in their own right: in the Bloomberg Innovation Index 2020, six of the top 10 countries are European, Germany is ranked #1 and US is #6.
Second, fragmentation has not hindered technology hubs from developing across the continent—the UK has a well-known Fintech hub in London and DeepTech hubs in Oxford/Cambridge. Berlin has benefitted from the rise of Rocket Internet and is also churning out big names: Zalando, HelloFresh, and DeliveryHero among others. The Nordics have numerous big winners too: Skype, Spotify, Klarna, Zendesk, King, Kahoot!, and JustEat to name a few. Fragmentation has clearly not stopped the ability for European tech companies to scale – in fact, Sweden has a relatively limited talent pool in Europe but has produced the likes of Spotify and iZettle.
Third, each country contributes to its own ecosystem, but has additional support from being part of the EU. There are government initiatives which offer support for follow-on capital—for example, the British Business Bank in the UK, the KfW in Germany, and the €2B pledge from France. Overlaying this is the European Investment Fund, who has been extremely active across the continent.
Fragmentation means that there is a diversity of thought and ideas. Technology has enabled us to easily transfer data and ideas across the world. Cultural barriers within Europe are being offset by initiatives such as the Blue Card program which allow easy migration. Historically, this was perhaps a real barrier to innovation. However, in today’s post-COVID world, as Bessemer Venture Partners (BVP) puts it: innovation is borderless.
Follow The Breadcrumbs
Once you debunk some common myths about European venture capital, the case to invest builds itself. It is tough to gain conviction in a market which historically has underperformed, but our perception of Europe should be forward-looking.
In addition to the points above, there are other indicators that Europe is on the verge of a new wave of innovation. Top-tier US venture capital firms have increasingly become active in Europe—the likes of BVP, Andreessen Horowitz, Lightspeed, General Catalyst, 8VC, Sequoia—the list is endless and does not go unnoticed by the leading LPs in the venture ecosystem that are now also focusing more on European fund managers. Many of these global venture franchises participate in Series A and beyond, so the next generation of European managers in the Seed space will benefit greatly.
The valuations in Europe are undeniably lower than the US. As European investors welcome the US, the valuations should converge providing European investors a higher return on investment. In fact, on a 1-year and 3-year basis, the ‘Horizon pooled net return’ for the European Developed Venture Capital Index has outperformed the US equivalent. The 5-year and 10-year figures are almost on par.
Now just might be the perfect time to enter the market.