Startup funding headed for choppy waters in 2023

The outlook for the startup funding environment in Europe has worsened in recent months, as the economy is dealing with the impact of inflation, which remains stubbornly high, while interest rates continue to go up. Venture capital funding in Europe fell by 37.5 percent to USD 14.8 billion in the third quarter compared to the same period of last year. However, the Central and Eastern Europe region continues to attract investments despite the ongoing crisis in Ukraine.

By Ovidiu Posirca

Alexandru Vasile, Data Against Data

The Romanian startup ecosystem stayed on a development path in 2022 and had reached a combined value of EUR 2.9 billion by October 2022, according to a Dealroom.co report. If we included the value of startups that were founded in Romania but have since relocated to other markets outside CEE, the total value would climb to EUR 8.5 billion.

Cristian Munteanu, managing partner at Early Game Ventures (EGV), points out that everyone should be aware of the “storm” that will be heading our way in 2023.

“For startups in Romania, next year will be marked by less available capital, employees who will be less tempted to quit their jobs and join startup teams, and clients who will be more reluctant to test new products and services. The excruciatingly difficult job of startup founders will be even harder next year. On a positive note, the economic downturn will drive away both ‘tourist founders’ and ‘tourist investors,’” he tells BR.

Munteanu adds that savvy investors will look to deploy capital in deep tech startups that still need several years of product development before entering the market or in startups whose business models tend to thrive in times of crisis. For instance, EGV has invested in OxidOS, a developer of software that gets embedded into microprocessors for the automotive industry, as well as in BonApp, a mobile app offering heavy dis-

counts for food products. Serial entrepreneur Radu Georgescu wrote last August about the beginning of an economic crisis and the ways in which founders can step up to ensure the survival of their startups.

“Don't ignore the writing on the wall these days. Sitting ducks are always shot. Lay or double down depending on the opportunity (not on your dreams),” he wrote in a post published on crowdfunding platform SeedBlink.

In the last part of this year, VC funds are consolidating their conservative approach to fresh investments, which will also translate into prolonged negotiations over deals.

“Startups will likely also place more emphasis on rightsizing their business so they can conserve cash and better position themselves for a new funding round,” experts noted in a report published by professional services firm KPMG.

Cristian Dascalu, managing partner at Techcelerator and partner at GapMinder, believes that the Romanian & CEE startup market will not feel as big of an impact in 2023 as the one in Western Europe will. He notes that local funding volumes reached EUR 110 million in 2021 and public data on the first so much more efficient with their time and early-stage investors' money. Funding money will continue to exist, but the competition will be more intense,” Dascalu argues.

six months signals a decline of around 20 percent in Romania compared to 2021.

Asked about the categories of tech that are going to drive the development of Romania’s startup ecosystem, Dascalu mentions ENTREPRENEURIAL ENERGY IN CEE CONTINUES TO ATTRACT SIGNIFICANT FUNDS

Despite the economic uncertainty, the CEE startup industry has attracted 19 new funds to the region in the year to date. This includes the Catalyst Romania Fund II, which has a budget of EUR 50 million. “Next year will see the birth of many public-led initiatives, such as the West Region’s accelerator and venture capital programme. If we were to look at other CEE countries with similar experiences, we would expect strong growth in startups across verticals. Of course, given the high degree of local technical expertise, software and AI will probably be over-represented,” says Ciprian Man, co-founder of angel investment platform Growceanu.

Man also points out that some investors have started to shy away from early-stage

advanced analytics, AI/ML, data & cloud, cybersecurity, and fintech.

“Founders are now more skilled at obtaining cheaper and faster product traction. They are pursuing customer insights and testing their hypotheses internationally before coding a full-fledged MVP. This is making them startups due to the general sense of uncertainty and the discounted investment opportunities available in other, more established asset classes.

“This trend is likely to continue into 2023, but that does not mean that the startup sector will be deprived of investment money. In-

deed, Romania’s ecosystem still lacks strong deal flows, meaning there are not enough high-potential startups being created. Those

that do exist require a lot of work, acceleration, and support in order to perform,” he adds.

Nevertheless, the Growceanu co-founder reckons that a stronger involvement of public funds in the startup ecosystem could mobilise more investment activity in CEE from specialised VC firms over the course of several years.

Data from the past five years shows that CEE has been one of the fastest growing regions in Europe by enterprise value. Since 2017, the value of startups founded or HQ-ed in the CEE region has grown 4x to EUR 190 billion, while the rest of European markets saw an average growth of newly founded firms of 3.1x, to EUR 3.4 trillion, according to Dealroom.co. What is truly remarkable about the CEE entrepreneurial ecosystem is that almost a quarter of its startups whose valuation topped USD 1 billion were not VC-backed. By comparison, the Europe-wide average of bootstrapped unicorn firms is just 7 percent, while Western Europe’s is as low as 5 percent.

“I believe the funding opportunities are there; all we need is the resilience to keep building. And no one does resilience like Romanians. The problems that have been thrown at us throughout the years have shaped generations that face difficulties with a ‘bring it on’ attitude, and that’s an advan-

tage that Romanians have over many other nations,” says Alexandru Vasile, the CEO of Romanian startup AgainstData.com. The firm helps users find out what kind of data companies have collected from them. Until now, the startup has attracted over EUR 200,000 from investors and it is planning to raise another EUR 500,000 in a separate funding round.

“At AgainstData. com, we believe startup funding and investments in Romania will continue into 2023, and the teams that will be able to unlock opportunities will also be able to unlock funding. Regardless of the financial context, our focus remains on protecting our users from fraud by empowering them to delete their data from companies that should not have it,” Vasile adds. Looking to next year, EGV’s Munteanu suggests that there are some good signs for the Romanian startup sector. He explains: “The first has to do with talent: many developers who have been working for tech giants abroad, mainly in the

US, will be terminated and ready to join or launch a startup. Then comes capital: over the last few years we’ve seen the birth of the first generation of professional investors: good people who are connected to the ecosystem, with strong networks and experience under their belts. Lastly, it is the economic crisis itself: what better time to reassess your options, gather your courage, and start a company than a recession?” The majority of investments made in 2022 have been in bridge rounds to

prolong the runway of portfolio companies in the form of convertible loans or debt financing, rather than the high valuation equity

rounds that kept the headlines in 2021, according to Alexandru Bogdan, CEO of ROCA X. The fund has completed 11 investment transactions to date with a volume of EUR 3 million. ”2023 has the potential to be a new peak for Romanian startups' financing as extra money and new VC players will enter the ecosystem through initiatives such as PNRR, while many of the promising startups which slowed down a bit due to the negative sentiment will be in a good position to attract top cash for accelerating their growth,” he tells BR.

PRIVATE EQUITY SEES POTENTIAL IN EUROPEAN STARTUPS WHILE CVC INVESTMENT SLOWS DOWN

The KPMG report points out that during Q3, debt financing gained new attention in Europe as large PE firms made forays into offering lending products to startups. This comes on the back of rising interest rates, which make such operations more profitable.

“With geopolitical and macroeconomic uncertainty expected to continue, VC investors in Europe will likely become even more

aggressive in their investment decision-making heading into Q4’22. Early-stage companies could feel the biggest impact, which could hinder the health of the deals pipeline long-term. Energy and ESG are expected to remain hot areas of investment in Europe heading into Q4’22, particularly as they relate to alternative energy and battery storage. B2B is also ex-

pected to remain very attractive to investors, as companies across the board focus on improving efficiencies and enhancing their profitability,” the report notes.

The biggest financing deal closed in Q3 went to German B2B software developer Celonis. The company got USD 1.4 billion in a Series D round. In second place was Swedish Northvolt, a cleantech that got USD 1 billion. The third biggest funding volume was attracted by Swedish fintech Klarna, which secured USD 800 million in a late-stage VC deal. UK-based fintech SumUp and French

AI & ML startup ContentSquare each got around USD 600 million in fresh funding.

On the other hand, inflation concerns and the risk of recession in Europe have led to a significant decline in corporate venture capital investment (CVC). The participation of CVCs in venture deals amounted to USD 8.8 billion in Q3 2022, compared to USD 13.1 billion in the same period of last year.

“Corporate players have pulled back in tandem with most of the venture investor universe, joining fewer rounds for a smaller aggregate than in prior quarters of the past couple years. Again, tallies are still historically robust, but a pullback is still evident as corporations look to assess the extant panoply of risks more closely,” KPMG experts write. Despite all the challenges, first-time venture financing of companies in Europe is proving resilient as investors see the long-term prospects of the entrepreneurial sector. Around USD 12 billion was attracted by startups as first-time funding during 2021, with this year’s estimate set to get close to USD 8 billion, according to KPMG data. This would be the second biggest volume since 2014. "In 2023 we will see an echo of the high-pressure points of this year so probably many energy related startups due to the high prices affecting all sectors of the economy from solutions to reduce consumption and make savings at consumer level to new and more efficient energy production solutions like biogas, biohydrogen etc. On the European continent we will also see some technological independency initiatives to replace US giants like Google Drive, Google services or AWS, but it will probably be difficult to identify the potential winners," concludes the CEO of ROCA X.