Even with the largest Australian venture capital fund under his purview, Blackbird Ventures’ partner Niki Scevak admits the game has changed for founders seeking investment.
“We do expect the market to be tougher next year than it was this year, it isn’t just going to snap back into 2021’s euphoria,” he said.
Likewise, while still optimistic about the future of the industry, Folklore Ventures partner Alister Coleman cautioned on tough days ahead.
“There is a lot of capital available, and a lot of incentives to invest it quickly, but we may see it invested more patiently than we have previously seen,” he said.
“This will probably mean less companies being invested in than historically, and it will certainly mean the re-emergence of a seed stage gap that closed for a year [in 2021] … I think we will see a significant contraction in angel investment, unfortunately.”
The ability for early-stage founders to raise capital will be put to the test next year, with a new survey from Herbert Smith Freehills revealing many founders are planning to raise seed or series A rounds in 2023.
However, most are undecided about whether they should pursue a priced equity round, or if they try and dodge the tech wreck valuation crunch by taking on bridging funding instead.
The survey of 40 mainly early-stage founders found 76 per cent plan to raise in the next 12 months, but 27 per cent plan to do a bridging round, and another 50 per cent were unsure what structure they would use.
OIF Ventures partner Laurence Schwartz said there would be a moment of truth in 2023 for the numerous companies that had successfully raised capital in 2021 and therefore avoided the need to go back to the market in 2022.
They will be back in front of investors in 2023, when valuations and funding terms are unlikely to be as generous.
Mr Schwartz said it was “unrealistic and simplistic” to pretend the industry was “all rosy”.
“There are material flash points geopolitically in Europe, Asia and the United States. There are macro conditions to consider around tightening monetary policy, and the big question mark is still whether there will be a recession in 2023, across which economies and to what extent,” he said.
“In the short term, there are big question marks.
“You can’t be reckless in either direction. You have to manage for all outcomes, and I think it’s prudent to continue to be capital efficient, and focus on unit economics and runway.”
OIF was one of the first local funds to anticipate the depth of this year’s tech correction, sending a note to founders in January encouraging them to quickly raise capital if they needed to, before the market shifted.
Valuations have now fallen across the start-up spectrum, with late-stage companies hitting the hardest.
Local VC funds have marked down Canva by 36 per cent, while major US investor T. Rowe Price has been more aggressive, marking down its value by a total of 44 per cent.
Despite this, many companies have still been able to raise at higher or flat prices, with their growth matching or more than offsetting the market movements.
In May, Shippit tripled its valuation, unicorn Go1 was propelled to a $US2 billion ($3 billion) valuation, and in October, Airwallex raised another $US100 million and maintained its previous valuation of $US5.5 billion.
Consequently, the Herbert Smith Freehills survey found 85 per cent of early-stage Australian founders remain confident their next round will be at a higher valuation.
Herbert Smith Freehills partner and co-head of its local venture capital practice, Clayton James, said there had been very few down rounds in 2022, but this was partly due to the high volume of bridging rounds.
“Bridging isn’t all emergency, disastrous funding, it’s investors shoring up the company and giving founders a bit of space by bolstering them up,” he said.
“But founders are naturally optimistic people, a lot are young, and they haven’t been burned by [market] cycles before.
“There’s only so many bridging rounds you can do. If you bridge too many times, you can have strange and unexpected outcomes with your calculations … you don’t want to suddenly do the conversions and realize you’ve given away more of your company than you think.”
The amount invested in local start-ups is still consistently down on 2021 levels, according to the most recent Cut Through Venture figures, but comfortably exceeds the level of investment in 2020.
While most local VCs say 2021 was the outlier year, and 2022 should be considered a return to more normal investing conditions, founders in Australia, the US and around the world are still dealing with the consequences of the 2021 blip.
While previously revenue growth was the favored metric of start-up investors, the HSF survey revealed 72 per cent of founders believed they would need to reach profitability faster due to market conditions.
A positive aspect for local VC funds – but not necessarily for start-ups – in the global slowdown has been a reduction in the competition from US investment firms keen to tap into Australia’s booming start-up sector.
US VC firms were particularly aggressive with US investments in 2021, leading some to question whether local firms would struggle to compete.
HSF partner and co-head of the venture practice, Elizabeth Henderson, said international funds had been less active in Australia this year.
“One thing that was unusual about 2021, and 2020, was the number of US funds coming into the first priced round. Going back a few years, they tended to wait,” she said.
Blackbird’s Rick Baker said while his firm had co-invested with US funds, it put his firm and other Aussie investors in a stronger position now that some had pulled back.
“What happened over COVID is, particularly the US VCs, learned how to do deals over Zoom, whereas before they felt they had to fly out here and meet founders face-to-face,” he said.
“In 2021, they all started hunting over Zoom, and we had to play that game and make really quick decisions. I think we geared up here and competed really well, but we had to match term sheets with higher prices as a result of the competition.
“What we have seen this year is a lot of those US VC firms have retreated into their home market. The US market was so hot in 2021 that these investors were looking elsewhere, but that competition has fallen significantly now, and they are fully busy just searching in their home markets again now.”