Almost everyone in the industry agrees that Europe is falling short in providing capital to its tech startups, whether at the pre-seed stage or the growth stage. Sure, things are getting better by the day, but we’re nowhere near the levels of capital deployed in regions like the US and China.
It’s not because Europe lacks capital in general. The continent enjoys a relatively high savings rate, and many prominent European families have built immense fortunes through entrepreneurial success and wise investment decisions across several generations. Why doesn’t all this old European money consider innovative local ventures as a potential target?
Even though old-money investors know that they should invest more in tech startups, finding their way to decent returns in the maze that’s the European tech world is not as easy as it sounds. Let’s explore the various categories to discover why.
Hurdles to investment
First, those not familiar with tech startups tend to prefer to invest at later stages. The high mortality rate at the seed stage does not precisely reassure old-money investors, which is why they tend to focus on more mature tech companies — meaning Series B and beyond.
New deep-pocketed growth investors are coming forward with arguments that family offices have a hard time matching.
The problem is that it’s tough to get into these deals. VC firms that have participated in previous rounds invest at least their pro-rata. Then, as the company grows, new deep-pocketed growth investors are coming forward with arguments that family offices have a hard time matching —whether it’s a gateway to the US or China, a whole network of value-adding services and people, or simply a higher valuation (as in the case of Tiger Global).
Want to try and connect with startups at an earlier stage instead? It’s an even harder game. Like any good investor at the pre-seed and seed stage, you have to immerse yourself in local startup communities, connect with as many founders as possible and diversify your holdings. These days, you’ll even have to compete with established VC firms, either from Europe or the US, that have moved up the stream, operating scout programmes or first-cheque funds as a way to secure the best early-stage deal flow. In the end, it all takes resources that no family office can afford to commit for such small cheques.
Then there’s another option: if it decides not to compete with VC firms, a family office can back some of them and become a limited partner (LP). Alas, the same “power law distribution” that is so characteristic of tech-driven markets also governs the harsh competition between VC firms. Only a handful of firms enjoy the outsized returns that distinguish VC as an asset class. Once these returns materialise, thus revealing the few perennial winners, it becomes tough to be admitted as a new LP in these winning firms’ latest funds — and that becomes even tougher if a family office wants to negotiate the ability to coinvest alongside the fund in which they’re an LP.
The rare examples of success
There are a few counterexamples. Some wealthy families that still own and operate the business that has made their fortune are keen to launch a corporate venture arm and delve into the unknown world of tech startups. But CVC funds are not the best positioned to win great deals, and their raison d’être can be called into question whenever the parent company implements a strategic review.
Dive into VC and meet the people holding the purse strings.
Another approach is family offices banding with a VC firm that uses their involvement as an argument to win deals. La Famiglia, a Berlin-based firm led by general partners Jeannette zu Fürstenberg and Judith Dada, is an example. Fürstenberg herself comes from a family with a successful industrial business and the firm’s LPs include major German industrial dynasties. Their selling argument to founders is that by joining the portfolio they can get access to industry incumbents that will put the startups’ new tech into action. A family office can thus deploy capital in the fund all while bringing the family-owned business into play as a potential customer for portfolio companies.
However, such examples are rare, and the match between family offices and tech startups at the pan-European scale hasn’t really happened yet. Tech founders and VCs keep fantasising about all that money hoarded in the coffers of wealthy families, whereas old-money investors keep wondering why it’s proving so hard to get exposure to this weird asset class that delivers such outsized returns.
Taking a page from the US playbook
A first step to facilitate the match would be to make performance data available. If we knew which VC firms do a good job and which don’t, it would become easier for newcomers to spot the rising stars in the fast-growing VC industry and join them as an LP early. In the US, there’s now relative transparency on performance thanks to the work done by the National Venture Capital Association (NVCA). In Europe, on the other hand, returns on a firm-by-firm basis are a well-guarded secret. The world of institutional investors effectively functions as a cartel whereby the largest and most established LPs keep the few well-performing funds for themselves — leaving other LPs stumbling their way through the maze.
The world of institutional investors effectively functions as a cartel whereby the largest and most established LPs keep the few well-performing funds for themselves.
A second step could be starting to see all those family offices as simply a mirage. In the US, it’s true that some wealthy families launched their own VC firms decades ago. A few of these firms have even grown into prominent players (Bessemer Venture Partners used to be the venture arm of the Phipps family, and it was the Rockefeller family that launched Venrock). But it was pension funds getting exposure to VC from 1978-1979 onward that triggered the VC industry’s takeoff — all thanks to decisions by the US government following intense lobbying by the NVCA. In Europe, both the UK and France have taken steps to try and emulate that gamechanging move by providing tax incentives, loosening financial regulations and deploying matching funds, but it’s too early to tell if it’s working or not.
In any case, maybe we Europeans should all stop fantasising about old money and, just like the US in 1978-1979, focus our attention on increasing exposure of the entire European middle class? That would truly be an exciting development for Europe from a capital allocation perspective. Because sure, Europe has respectable old money and lots of wealthy families. But Europe is also an advanced economy, where the middle class is far wealthier, at the aggregate level, than a handful of family offices.
Nicolas Colin is cofounder of VC firm The Family. He writes a regular column for Sifted.