Public & Academic/Policy & Regulation/Analysis/ Will Europe’s dream of tech sovereignty ever become reality? European policymakers don’t want to miss out on the AI and deeptech wave. But is it already too late? By Zosia Wanat 6 March 2023 \Public & Academic UK Budget — Why startups are calling for a reversal of R&D tax cuts By Amy O'Brien 14 March 2023 Public & Academic/Policy & Regulation/Analysis/ Will Europe’s dream of tech sovereignty ever become reality? European policymakers don’t want to miss out on the AI and deeptech wave. But is it already too late? By Zosia Wanat 6 March 2023 At first glance, Danish gaming giant Unity and Romanian robotic process automation company UiPath have very little in common. But there’s one thing that unites them: both tech companies both started out — and succeeded — in Europe, but then moved to the US to continue their growth and list on the public markets. You’ve heard this before, but let’s remind ourselves: Europe has lagged behind big technology powerhouses, like the US and China, in creating and holding onto groundbreaking technology companies. It spends less money on research, has created fewer unicorns, doesn’t have enough VC money able to back scaleups and is trying to regulate almost every area of tech. If we add the general grim geopolitical and macroeconomic trends — skyrocketing inflation, a weakening euro and the ongoing war taking place in Europe’s neighbourhood — it’s no wonder that European startup founders often try their luck on the other side of the Atlantic. “This is what keeps me up at night,” says Eva Maydell, a member of the European Parliament involved in drafting lots of tech laws. But it seems that Europe is slowly waking up to the challenge — and it doesn’t want to miss out on the new innovation race focused on AI and deeptech. In the last couple of years, European policymakers have been much more vocal about strengthening the continent’s so-called tech sovereignty — its ability to develop and retain critical homegrown technologies, a prerequisite to meet the bloc’s other strategic goals, such as its climate change targets and defence needs. “There is no longer any political sovereignty without technological sovereignty,” French economy minister Bruno Le Maire said last year, calling for “a European technological awakening”. Since then, the EU and various national governments have been outdoing one another in announcing new public funds for deeptech, AI and climate tech; and they’ve been coming up with new legal initiatives which, at least in theory, are supposed to bring regulatory certainty to European companies. But will this be enough? A decades-long problem The question of European tech sovereignty is not a new one. Europe has bred some big tech companies — like Nokia, Ericsson, Spotify, Skype and Booking — but very few of them have managed to become category leaders. European businesses largely missed the boat during the last technology revolution — the period of mass internet adoption — as tech giants such as Google, Facebook and eBay were built in the US, not in Europe. This trend isn’t reversing: as of mid-2022, the US has created almost half of the world’s unicorns, followed by China (17.5%), India (5.5%) and the UK (4%). Only two EU countries, Germany and France, appear in the top 10, with a 2.6% and 2% share, respectively. Despite being home to some of the world’s leading universities and best researchers — Europe still doesn’t spend as much as the US and China on R&D. On the European Commission’s list of top 10 corporate spenders on research, only one, Volkswagen AG, comes from Europe. “The picture is quite well established that Europe needs to do much more. We are a little bit behind, everybody has understood this by now” It’s a similar story when it comes to investment in startups. In 2022, European startups raised $95.7bn, while US startups raised $241.5bn, according to Dealroom. Funding rounds are also larger in the US — a median Series A round in Europe in 2022 was $10m, and in the US $13.7m. “The picture is quite well established that Europe needs to do much more. We are a little bit behind, everybody has understood this by now,” says Philip Meissner, director of the European Center for Digital Competitiveness, a think tank, and a professor at ESCP, a business school. Limited sources of funding (other than VCs and governments), problems with talent retention and excessive regulation, are issues that have been “unresolved for decades”, he says. Is it all about the money? Supporting deeptech startups usually requires a lot of investment — not only does Europe have fewer VC firms than the US, it also has fewer big, multibillion-dollar VC firms, which are able to invest in startups all the way up to IPO. As a result, many European startups look for funding overseas as they grow. “If you’re looking at the type of [European] companies that could compete for global technology leadership, we need to be aware that over the last decade or so, 80% of the financing rounds that really brought those companies to global scale have been led by US VC firms or by Asian corporate VC firms,” says Uli Grabenwarter, deputy director at European Investment Fund (EIF). That in turn means those scaleups usually exit away from Europe, either through a foreign IPO or being bought by foreign buyers. “This is something that an economic space like the EU cannot be satisfied with.” On this front, Europe is slowly waking up. Recently, governments have been setting up new public funds to back deeptech and climate tech ventures: see Germany’s €1bn fund for deeptech and climate tech growth-stage companies, France’s €500m fund for deeptech startups, Poland’s €55m climate tech fund of funds and a new Czech fund for AI spinouts. “Over the last decade or so, 80% of the financing rounds that really brought those companies to global scale have been led by US VC firms or by Asian corporate VC firms” The EU has also set up the European Innovation Council, which aims to invest €3.5bn (although it’s experienced some speed bumps). That would make it the largest early-stage deeptech investor in Europe. To address the scaleup funding gap, the EIF, along with five EU countries, recently launched a €3.5bn fund of funds. It plans to back 10-15 late-stage-focused €1bn+ VC funds that participate in funding rounds of more than €50m. But some experts doubt whether counting on public cash injections will be enough to help the ecosystem. “Governments are not known for quick decision making, and now they want to be on the cap table. I don’t think that’s a smart move in the long run, especially when you’re coming in very early,” says Michael Jackson, a deeptech investor and a venture partner at Multiple Capital, a German fund of funds. “I am skeptical if getting the government on your cap table in Series A or Series B is the way to go.” Should the government get engaged? Apart from equity investing, there are areas where European governments could be more helpful. They could harmonise rules around employee stock options (which often get heavily taxed in Europe, and differ from country to country) and university spinout terms (which differ among universities). They could also incentivise private pools of capital to invest in the venture market. In 2020, pension funds and insurance companies accounted for only 12.7% of funding raised by VCs raised in the EU — while government agencies made up the largest share (almost 35%). “You could unleash much more capital if you change the regulation around, for example, insurance companies,” says Meissner. Brussels and national governments are addressing some of these issues — for example through the EU’s grand strategy for startups from last year, dubbed the European Innovation Agenda — but the changes are being introduced quite slowly, and they often lack details. Jackson adds that governments could simply buy and try out startups’ services. “In Europe, the government would rather put money in than be a customer. That’s not how you win in deeptech” “In Europe, the government would rather put money in than be a customer. That’s not how you win in deeptech,” he says. “In deeptech, the best tech doesn’t win — it’s whoever gets the contracts first. And unfortunately, European countries don’t have a philosophy of being a customer of first resort for emerging technologies. And that’s pretty much what built a lot of the US deeptech verticals since the post-war era.” Another problem is incentivising investment in the critical areas of innovation. Last year, the US announced its $369bn climate bill, which offers significant financial incentives for climate tech companies to move stateside. Europe has been scrambling to come up with a response, as announcing a similar subsidy package could undermine its single market competition rules. It announced plans to offer tax breaks for climate tech investments, but without giving any concrete details on financing or the timeline. “I’ve heard announcements. I haven’t seen anything really concrete, whereas in the US, everything is already up and running. So that’s the difference,” says Meissner. As a result, some European startups, like German carbon removal startup Climeworks and nuclear fusion startup Marvel Fusion, are eyeing up expanding to the US. “We’re looking with a keen eye over the pond,” Climeworks’ chief climate policy officer Christoph Beuttler told Sifted. Regulation over innovation It’s one thing for governments to help startups with funding — but they also need to avoid hindering their growth through excessive regulation. And, as Meissner says, Europe “tends to increase regulation everywhere, even before markets are created”. Just look at Brussels’s current regulatory pipeline: the implementation of the Digital Services Act (a new law on content moderation and online safety for platforms); along with negotiations around the final shape of the AI Act, Data Act and Gigabit Infrastructure Act. And this comes on top of various policies affecting healthtech, climate tech and fintech companies, some of which differ from country to country. European industry commissioner Thierry Breton has already announced Brussels will also look into how to regulate the metaverse and ChatGPT. “Regulation is necessary to ensure tech is developed in a safe and sustainable way,” says Maydell. “But at the same time, the regulatory landscape can feel overwhelming for [startups]. So we have to support them also when it comes to implementation,” she adds, stressing that the EU is proposing, for example, regulatory sandboxes to help startups test their products. “Europe is the champion in regulation, and assumes that this will have global implications. And sometimes this may be the case, but it also has ripple effects in Europe” “Europe is the champion in regulation, and assumes that this will have global implications. And sometimes this may be the case, but it also has ripple effects in Europe,” says Meissner. “It really has this kind of adverse effect on innovation… With these kinds of regulations, we might force companies to leave the EU, because it will just be much easier and more attractive for them to grow in the US or Asia.” A recent survey conducted by the association of European AI startups found that 73% of the surveyed VCs expect that the EU’s new AI rules will reduce or significantly reduce the ecosystem’s competitiveness. On top of that, 50% of AI startups believe the law will slow down their innovation and 16% are even considering stopping developing AI or relocating outside the EU. Way forward? These are the issues that Europe needs to solve — and fast. “Unless tackled, this crisis will handicap Europe on many dimensions, including growth, inclusion and sustainability, and its strategic autonomy and voice in the world,” according to a recent research paper from McKinsey. Meissner points out that if a startup moves away from Europe, an entire value chain also leaves Europe. “It [the startup] pays US taxes to the US government, it creates jobs in the US, it creates salaries in the US, it creates shareholder value in the US — it’s all wealth creation in the US and not in Europe.” “We still have large, internationally competitive companies that we had in the industrial age. We need to control that in the technological age,” he says. “And when we lose that, and if we only rely on Asian or US tech, it’s the question of sovereignty.” “We have to provide an attractive environment for companies to want to do business here. We really need to sit down and think about where and how we could bring the next big innovation” Maydell says that she’d still prefer it if a European startup moved to the US, or another like-minded country, than, for example, to China. “Would I prefer them to stay in Europe? Absolutely. Would I like us to have a better environment for those companies to develop and to grow here and to innovate here? Absolutely. Do I think that regulation is doing everything possible to do that? Not entirely. Is it just up to regulation? No, it’s not just up to regulation to provide that,” she says. “We have to provide an attractive environment for companies to want to do business here. We really need to sit down and think about where and how we could bring the next big innovation.” Zosia Wanat is Sifted’s central and eastern Europe reporter, based in Warsaw. 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