The following is a guest post from Eric Menke, Partner at The CEO’s Right Hand, Inc. and former Private Equity Investor
As we approach the end of the year, I have started to turn my attention to next year and what lies on the near-horizon in terms of business trends, emerging technologies, and market interest.
With each passing year, I become more and more surprised by how increasingly varied, yet intensely passionate, the start-up environment is becoming about various simultaneous trends. It used to be that the vast majority of start-ups were focused on just a few macro themes such as e-commerce, social media connectivity, or the internet-of-things. Now there are more than a dozen equally exciting themes each being pursued by countless numbers of start-ups.
Emerging and Exciting Trends
The recent article in Business Insider titled “50 Startups That Will Boom in 2018, According to VCs” highlights some of these emerging and exciting trends. Among the areas that are continuing to gain traction are automotive artificial intelligence, employee relations, encryption, and customer engagement. Each of these areas has experienced hyper-attention over the last year as higher-profile companies in each of these categories have secured eye-popping-size rounds of capital. The majority of the 50 companies highlighted are likely to be very well received by both their end markets and capital markets alike. I, for one, think there are some real stand-outs to keep an eye on including Nauto, Pindrop, Handshake and Knotel.
Slowdown in Early-stage VC Activity
There is another trend, however, that I am keeping an even sharper eye on—the recent dramatic slowdown in early-stage VC activity.
Since 2014, the number of VC rounds in technology companies worldwide has nearly halved, from 19,000 to 10,000, according to PitchBook. During that time, the drop in VC funding amount has been nowhere near as dramatic, highlighting that VCs are simply concentrating investment into fewer later-stage companies.
The era of funding “app” startups is over
There are a few explanations for the recent decline. The era of funding “app” startups is over – VC funding rounds for app plays grew dramatically after 2010 partly because of rebounding economic activity, but mainly in order to back a raft of B2C apps taking advantage of consumers’ emerging mobile-first behavior. That space has become rationalized now as competitive or first-mover advantages have been wrung out of the market.
Winner Take All
SaaS start-ups have also seen a material decline and funding has dropped sharply – In 2014, nearly 5,000 rounds backed companies describing themselves as “SaaS.”
This year, that figure is down nearly 40 percent, to about 3,000. Even fintech has seen quite a drop in activity. According to Tech Crunch, VCs are doubling down on “winner take all” leaders and funneling funding into companies that have real potential to lead or dominate their segment.
Looking back, it now appears 2012-16 was a bubble in early-stage funding driven by the fundamental platform shift to mobile. In hindsight, too many companies raised “concept” money, and an unprecedented number failed early and “failed fast.” The VC market for seed and early-stage failed with them, falling to half its size in three short years.
Capital is Becoming Harder to Find
It appears now, post decline, that early-stage VCs have become more rational and we are unlikely to see the same “spray and pray” approach that dominated a few short years ago. However, in absolute numbers, it also means there is far less capital available to early-stage companies today than a few years ago, and inevitably there will be a continued drop in the number of new startups, which cannot now rely on getting the first round raised easily in the current environment.
While 2018 will be exciting for certain market segments ranging from AI to consumer engagement, there will be another trend gathering steam under the surface that may be a bit more ominous.
I’ll keep you all apprised of the latest conditions as we move through Q1 of next year.
Chart graphics provided by Techcrunch: There’s an Implosion of Early-Stage VC Funding and No One’s Talking About It, by Victor Basta