A few years ago, establishing itself in Europe was the soup du jour for North American venture capitalists. From OMER and Lightspeed to Bessemer Venture Partners, the market attracted companies of all sizes, and the Spotify IPO seemed to awaken North American venture capitalists to Europe's potential to create outsized exits. Venture capitalists wanted to make sure they didn't miss out on the next wave.
But it's unclear if they were able to catch him. The trends haven't completely reversed since the halcyon days of 2021, but they've come pretty close.
Still, the European startup market has grown rapidly over the last decade. Transaction volume has more than doubled in that time period, according to Proposal book data, and there have been numerous success stories such as Klarna, Deliveroo and Arrival. It is understandable that North American venture capitalists want a piece of that market, but establishing a successful long-term strategy in the region has not been easy.
Big names like Coatue and The OMERs formally withdrew in the region in recent months, and the venture funds that have remained are significantly less active. Navina Rajan, senior analyst at PitchBook, said the overall value of European deals with at least one US investor was down 57% in 2023 compared to the previous year, and the number of deals was down 39%. In comparison, overall transaction value decreased by 46% and transaction count decreased by 31% in the same time period.
The European startup market has nuances that make it difficult for North American investors. Each country in Europe has its own language and sometimes currency. Investing in both Romania and Italy is different from investing in both Texas and California. Additionally, startups and universities produce different networks for European startups than in the US.
Together, all of those nuances create a challenging market at the best of times, not to mention the crisis of recent years. It is no surprise then that North American investors have struggled to find a secure base as they attempt to cross the Atlantic.
Easier said than done
Another reason North American VCs are having difficulty in the European market is that while their interest in the ecosystem has grown, so has the European VC market. Nowadays, there is much more competition for the best deals, especially in the early stages, which is where prices are lowest and the potential for great returns is greatest.
Sten Tamkivi, a partner at Estonia-based operator-led venture fund Plural, told TechCrunch that the startup market has changed dramatically since he started as a founder a decade ago. Startups in Europe used to default to seeking funding in the United States, he said, but that is no longer the case. “Over the last decade, initial investment has shifted much more towards local players; 80% of the capital deployed in Europe is European,” he stated.
Unless a startup is planning to expand to the US immediately, rather than launching in other European countries first, Tamkivi explained, it makes more sense to work with a local investor who knows the nuances of local markets. He added that there is not as much European venture capital in the late and growth stages, meaning startups can attract these investors later while still having a local focus from the start.
It probably doesn't help that most North American venture capitalists have been setting up shop in London, which is no longer part of the European Union and is just one of the region's startup hubs. Having “boots on the ground” in London is not the same as having “boots on the ground” in the rest of the continent.
“A lot of American traffic stops in London,” Tamkivi said. “[The market] It is much more diverse. If you set up shop in London, that may or may not give you exposure to Copenhagen. When you have arrived in the UK, you will probably have to make a little effort.”
This focus on the UK also increases competition for deals in London, making it much more difficult for North American GPs to get a stake. It also means they could be ignoring opportunities elsewhere.
This dynamic explains why a company like General Catalyst would merge with an early-stage company in Europe. General catalyst in October said it would merge with La Famiglia, which is based in Berlin. General Catalyst was already investing in the region through an office in London, but said this partnership would help it better invest in early-stage opportunities in continental Europe.
Borys Musielak, founding partner at SMOK Ventures, said he has lost deals to U.S. investors in recent years, but many of them are now sitting out deals. He hopes the pullback will allow his firm to capitalize on strong deals with its new fund.
“I think those guys are waiting a little longer,” Musielak said. “So it's actually an opportunity for me and our friends who raised funds for this region. We will be able to access the best offers in the local ecosystem. The Americans will enter Serie A or B anyway.”
Reason to keep trying
However, despite all those challenges, North American companies are still trying to put down roots in the region. While some companies folded in 2023, Andreessen Horowitz and IVP opened offices in London.
There is a good reason why many companies continue to try to establish themselves: regulation. Hot startup categories, including artificial intelligence and cryptocurrencies, continue to operate in the still gray areas of regulation in the US, with no real clarity in sight for these sectors. This makes it harder for startups to build and for investors to know which companies deliver, or even if they will in the future.
That doesn't mean that Europe has all the regulations figured out; Regulators are not as magnanimous toward companies in these new sectors as they could be, but at least they are clear about what they want to see. A16z's London office focuses primarily on blockchain and cryptocurrencies, probably for this reason.
US-based LPs have also shown growing interest in Europe. When Plural set out to raise its first fund in 2022, Tamkivi and his team reached out to American Grants to start a relationship, hoping it would lead to an investment in the future. But to his surprise, many decided to invest in that fund and write even larger checks for the firm's recent Fund II.
David York, founder and CEO of Top Tier Partners, a fund of funds, said LPs have long been asking for a way to invest in managers backing European startups, and after successes like Spotify, that interest hasn't more than growing. He suspects it will continue to rise as big markets like China become less attractive.
“Europe has become more reliable as a generator of results,” York said. “It originally started with Spotify, but we've had a lot of liquidity there over the course of the last six years. [to] seven years. I think there is a tailwind as China looks inward and globalization occurs. I think Eruope will end up being one of the international markets where people want to build businesses.”
PitchBook's Rajan and Musielak feel that the European ecosystem remains underpenetrated despite its growth and the difficulties faced by North American venture capitalists. So, it seems like there is definitely room for international venture capitalists to set up shop and build a portfolio. Companies just need to come up with a strategy that ensures their efforts will bear fruit.