The sector’s slowdown, shown by the Venture Capital Monitor, comes after years of sustained growth: a new phase of more moderate growth could follow, with more realistic valuations
“Less fundraising by venture capital firms and less profitable investments may explain the decline seen over the past year,” Cristiano Bellavitis, assistant professor at the Whitman School of Management, told We Wealth
After an already sharply declining fourth quarter, the volume of investments in Italian startups by domestic and foreign venture capital funds fell to 158 million euros in the first quarter of 2023, down 63 percent from the same period a year earlier. The figure on the amount invested is stable compared to the last quarter of 2022 (171 million); what has plummeted, however, is the number of deals: 49 rounds compared to more than 90 in the previous period. This is what we learn from the Venture Capital Monitor Observatory data, born from the collaboration between Aifi and Liuc – Cattaneo University.
In particular, “especially the big deals” that in the past had supported the numbers invested in domestic startups have come down, stressed Professor Anna Gervasoni, director general of Aifi – the Italian Association of Private Equity, Venture Capital and Private Debt.
The negative figure for Italian venture followed the general cooling trend also observed at the European level, Matteo Bonfanti, Key Partner Venture Capital at Kairos Partners Sgr, commented during the presentation; however, he added a medium-term look shows data that are nevertheless encouraging – taking into account that we were comparing ourselves to record results for Italy. For this reason, Bonfanti stressed that one could not speak of a crisis in venture capital based on an expanded observation of the last few years. The readjustment phase, however, could lead to more realistic valuations for unlisted companies that had given some pause in the previous two years (“Revolut was valued at 30 billion, compared to 3 billion for Unicredit”).
Luca Pagetti, Head of Startup Growth Financing Department at Intesa Sanpaolo Innovation Center, also takes the same view: “I do not see a flight from the asset class, although I assume that the case of Svb has brought a theme of perceived riskiness that does not fit the Italian and European context,” also because “valuations of Italian startups are more prudent than those in the Anglo-Saxon world.”
The question, at this point, is more related to the future: whether startup investment will quickly return to the levels observed when monetary policies were ultra-expansive or whether this is the beginning of a more moderate trend.
Venture capital is the burden of monetary tightening.
“Less fundraising by venture capital firms, and less profitable investments, may explain the decline seen over the past year,” Cristiano Bellavitis, assistant professor at the Whitman School of Management (Syracuse University, New York State), told We Wealth. Rising interest rates operated by central banks may have played a significant role in cooling venture capital fund investments, said the professor, the first author of a study investigating the relationship between rates and this financial sector (“Monetary policy and venture capital markets”) precisely.
“Monetary policy, on the one hand, makes investments in venture capital funds less attractive, for example, for pension funds: until a few months ago, corporate bonds yielded little or nothing, while now U.S. Treasuries yield 4 percent. In 2021 pension funds had to increase the risk to find returns and invest in private equity; now, they can go to safer bonds by decreasing risk.” Having less fundraising behind them, funds “have to decrease investments in technology companies,” Professor Bellavitis said.
Second, as also observed in listed technology stocks, rising rates increase the discount rate of future cash flows, reducing company valuations. “Technology companies with long-term returns on investment have seen their valuations go down,” Bellavitis said, recalling, for example, how Allianz X lowered the valuations of challenger bank N26 by 68 percent from a year ago. In contrast, the company’s IPO, which seemed imminent, was delayed.
“This environment where IPOs are more difficult to complete, and when they are implemented, the markets have lower valuations, makes venture capital investments less profitable,” partly because the IPO is precisely one of the moments when venture capital funds can monetize their investment. “In any case, today’s rates, historically, are in the normal range,” Bellavitis said, “a new equilibrium will be found, and perhaps it is even better for the market in that investments will be more prudent and more profitable and made in a more stable macroeconomic environment.”
If rates are “higher for longer,” what implications can we imagine for this sector? Net of the uncertainties inherent in technological and financial trends, “there are exciting technologies on the horizon such as artificial intelligence, quantum computing, green energy, DNA editing, and robotics. So venture capital investments will certainly be desirable,” said Professor Bellavitis, “indeed, in periods when there is little investment, the returns on investment increase.”
