"In the last decade alone, around EUR 51bn were directed to innovative start-ups in Europe."
The VC factor in a nutshell
European venture capital (VC) investments are reaching a new all-time high. In the last decade alone, around EUR 51bn was directed to innovative start-ups in Europe, while VC fundraising has overcome pre-crisis levels. The European Union (EU) venture capital industry is thriving, but what has happened to investees? What, exactly, is VC’s role in the growth of the companies it has financed?
This report is the first large-scale study of EU-based start-ups backed by VC. The novelty is twofold: first, we link invested businesses with their specific financial outcomes and second, we cover the entire EU market. We look at almost 9,000 European firms invested in 2007-15 and analyse their characteristics as well as subsequent performance. In order to study firms’ financial growth we need to allow for some time after the investment, which is why our analysis stops after 2015.
"We look at almost 9,000 European firms invested in 2007-15 and analyse their characteristics as well as subsequent performance."
Where did investments go? The European VC market is mostly concentrated, with the six largest hubs receiving one third of all investment activity. However, new emerging hubs are shaking up the status-quo. Interestingly, 40% of the financed start-ups are located in cities with more than a million inhabitants while, at the other extreme, 25% operate in smaller cities, with a population of less than 100,000.
By zooming further into VC-financed start-ups, we try to identify other commonalities. Is there a typical European start-up and what does it look like? We find that companies operating in the Nordics region are the most innovative with respect to both their patenting activity and intangible assets. We also discover that early-stage companies are more innovative than their later-stage peers and what is more, they grow faster in terms of revenue and total assets. Our efforts to identify the stereotypical European start-up prove rather futile – there is simply too much variation in the growth patterns.
"Looking at their growth,we can sort VC-backed start-ups into: laggards (3%), commoners (56%), all-rounders (19%), visionaries (7%) and superstars (8%)."
This is why we need to bring in the heavy statistical artillery. We employ cluster analysis to evaluate and group VC-backed firms according to their four-year growth rates in five financial indicators - revenue, staff numbers, assets, intangibles and costs. Our results show that the 93% of start-ups, which did not default by their fourth year, can be sorted in five distinct profiles – laggards (3%), commoners (56%), all-rounders (19%), visionaries (7%) and superstars (8%). What characteristics define these profiles?
Laggard companies are the slackers, so to say, but luckily they are few and far between. In four years, their financial performance drops to levels lower than those they initially started with. Then come the commoners – nothing too exciting about them (as the name may suggest), though they grow, especially in revenue (20%) and costs (11%). The all-rounders are definitely worth your attention, with great performance across the board and growth rates ranging from 39% for intangibles to 141% for revenue. However, visionaries and superstars are the headliners in this show. Visionaries progress soundly in all indicators but intangibles where their growth simply skyrockets with an impressive 534%. Superstars not only grow remarkably in turnover (358%), but also record the highest growth rates across all the rest of the indicators, with the exception of intangibles, where visionaries remain on the top.
"VC-backed profiles, apart from laggards, grew considerably more than their non-VC counterparts, in every financial measure."
After identifying the companies which will give you the most bang for your buck, we take it a step further. To determine the true impact of VC on start-ups’ growth, we construct a comparable group of firms (the so-called counterfactual group), which could have received VC financing, but did not. To start off, this analysis reveals that VC-backed start-ups grew faster in total assets during the six years after investment and consistently recorded a higher share of intangible assets than their non-VC-backed counterparts, highlighting VC’s role in spurring innovation.
By applying our clustering model to non-VC-invested start-ups, we notice that the same five profiles emerge. However, in the absence of VC, there would be more than four times the number of laggards. This already provides some evidence for the merits of VC financing in uplifting some start-ups to more promising growth trajectories.
"Almost half of high growth start-ups would have fallen into a much less successful profile or defaulted without VC."
We also look at the differences between VC and non-VC-backed start-ups in terms of their financial growth rates. VC-backed profiles, apart from laggards, grew considerably more than their non-VC counterparts, in every financial measure. For one, all-rounders recorded 118 percentage points (pp) higher turnover and 36 pp higher costs. In the visionary and superstar clusters, VC-backed start-ups beat their counterparts in intangibles growth by an impressive 331 pp and 190 pp respectively. This proves that VC’s role in the development of start-ups is substantial.
Finally, we use the group of comparable non-VC-backed firms to construct a “what if” scenario, revealing where VC-backed start-ups would have ended up had they not received the investment. Almost half of high-growth start-ups (the all-rounders, visionaries and superstars) would have fallen into a much less successful profile or defaulted without VC. In a nutshell: when an entrepreneurial idea has a high potential for success, the “VC factor” expands opportunities for growth and allows excelling start-ups to unleash their full potential.