Startups Seek Capital Alternatives Amid Investor Pullback

As with most of the tech sector, startups in Europe have been adjusting to a steep fall in startup funding this year. In Q1 2023 European venture deal value fell 32.1% quarter-over-quarter, with overall funding expected to decline from $83 billion USD in 2022 to $51 billion USD in 2023.

While the trend of investor pullback is certainly not limited to Europe, founders in the region are being urged to apply a more conservative approach and readjust growth strategies that were built during the boom year of 2021.

With mega funding rounds and generous valuations off the table in 2023, many of Europe’s startups are making cuts, as demonstrated by Klarna’s plans to downsize its global workforce by 10%. But it’s important to note that the Swedish fintech is valued at $46 billion. Larger, more established startups can make cuts and readjust balance sheets during the current down period more easily, but these types of actions don’t stack up for startups across the board.

Early-stage startups very often rely on the outputs of a small, dedicated team meaning any job cuts will have a significant impact on company operations. Equally, scaling back expansion plans too drastically could see young companies fail before they have a chance to get off the ground. In these cases, access to immediate funding can be a lifeline that ensures the company stays on track.

With venture capital in short supply and high demand, what other funding options can founders look to?

A new way to measure collateral

Raising venture capital will always be a go-to choice for startups, but even during boom years the process takes many long months to complete and requires significant time and energy. For access to immediate capital in between funding rounds, short-term loans are often the defacto choice.

For loans in general, lenders use various parameters while underwriting the risk associated with lending to a borrower, such as repayment history, total debt owed, debt-to-equity ratio, and market standing. Yet startups may not always have the track record needed to access loans with favorable rates. In addition, those providing software or cloud solutions may find lenders undervalue the company when making an assessment. This is because one of their most valuable assets – data – is most often classed as intangible and therefore not included as collateral that the startup can borrow against.

Using data and intellectual property (IP) as collateral is possible, however. The approach was used by a number of major airline carriers to sustain operations during the COVID-19 pandemic. However, this is historically something only large multinationals can afford to consider, given the astronomical costs and long lead teams associated with an independent data valuation.

Yet founders of smaller startups are increasingly finding more opportunities to access data-backed loans. Gulp Data is an emerging “neo-lender” that is helping to make data a standard asset class across the board for startups. The company uses machine learning to perform data valuation in a matter of hours, instead of weeks and months, and has recently opened a new $10 million fund to underwrite loans directly.

By making it easier to leverage data as collateral, founders can potentially unlock additional value and free up capital between funding rounds.

Startups financing startups

The idea of using data to help founders access immediate capital has also been taking root in Latin America where funding is even more constrained. Here a new breed of startup lenders has emerged in response to widespread investor pullback. Building on the back of standout success stories like Colombian delivery app Rappi, founders in the region have been steadily re-investing their own capital to help new startups emerge.

The leaders of the movement see the inherent value of data that startups and small e-commerce companies can’t leverage when it comes to financing and the difficulties that arise when traditional venture capital is hard to access.

Given that startup ecosystems worldwide face a very similar set of challenges, this trend could soon become commonplace in other regions.

More government support for deep tech

Historically, deep tech startups in Europe struggle to scale and access high enough rates of capital. As a result, many promising companies look to US markets in the long run.

To stop this loss of talent, Germany has launched a fund of up to €1 billion to invest in deep tech and climate tech, and the United Kingdom has pledged £2.5 billion for quantum technologies.

While the sector will still need to ensure private capital support grows, the government funds will help to bridge some of the gap in the meantime.

A way to look at startup funding

Building a business during an economic downturn may be tough, but it certainly isn’t impossible.

As investor activity remains in a lull, new models and approaches are being created by those on the ground who understand the needs of young startups the most keenly.

With access to more financing options and capital outside of the venture sphere, startups have a better chance of keeping operations afloat and extending their runway between funding rounds.