End of ‘easy money’ shifts start-up focus to profit

The tech sector has changed dramatically in the 12 months since the last FT-Statista ranking of Europe’s fastest-growing companies was compiled.

This annual project to identify companies in the region that have rapidly increased their revenues shows the extent to which entrepreneurship continues to thrive, despite a backdrop of considerable political and social upheaval given rising interest rates and a slowing economy.

All of the companies in the top 40 registered a minimum compound annual growth rate in revenue of more than 200 per cent between 2018 and 2021, which takes in the start of the pandemic lockdown period.

To even qualify for inclusion on the FT1000 list, companies needed to show average annual revenue growth in the three years of more than 36.2 per cent — only slightly lower than the 36.5 per cent required for the previous ranking.

This year’s constituents illustrate the breadth of companies achieving rapid sales increases. They are led by mobile games maker Tripledot Studios, a UK group founded in 2017 that achieved “unicorn” status in 2022 by being valued at more than £1bn.

Marshmallow, Gift & Go, and Silverstream Technologies, all from Britain, plus Italy’s lithium battery maker WeCo, make up the next four, and demonstrate the continued boom in the fintech, cleantech and renewables sectors.

Tech naturally features highly, with almost a fifth of companies in the IT and software sectors, a tenth in ecommerce, and almost 7 per cent in the fintech category. Construction, advertising and energy are also represented heavily, while one company in the top 10, France GT Classic Cars, sells high-end automobiles.

But, increasingly, the focus for many — especially in tech — is not just the revenue growth recorded in the FT1000 and, for many years, regarded as the main driver of value for companies. Start-ups were once encouraged — even incentivised — to remain lossmaking in order to gain market share. Now, investors are asking whether they can turn these sales into sustainable profits.

Founders say that investors are no longer simply focusing on where revenue growth will come from, but also asking whether companies have enough money in the bank to get them to the point of making a profit.

Those that do not are seeing sharp falls in the value of their businesses as credit markets tighten and concerns emerge over how economic conditions will affect consumer-facing companies.

The new mantra is “two years runway”, according to one leading tech executive: in other words, enough money to see a business through to 2025, when capital markets and global economies are expected to have stabilised.

Those that are unable to demonstrate such financial stability are in more trouble, he adds — leaving start-ups having to cut costs and change strategies to ensure they hit the two-year target.

Martin Davis, chief executive of Molten Ventures, a London-listed venture capital group, said at an event last month that the “end of easy money” has led to what he describes as a “post-hype” landscape for venture capital-backed groups.

He said that, while 2022 “was a bruising year for everybody, all geographies across all markets . . . we are beginning to see what might be the new normal”. Capital will be more expensive, he added, and investors more reluctant after high-profile “down rounds [reduced valuations in funding rounds]”.

Companies in Molten’s portfolio are being encouraged to lengthen their “cash runways”, manage costs, and focus on profitability, Davis said.

According to CB Insights, total venture funding for 2022 dropped by more than a third, to $415.1bn, although deal volume fell by only 4 per cent.

Europe suffered a 17 per cent drop in funding to $81bn, comparatively better than the US. Between 2021 and 2022, the new “unicorn” count more than halved to 258.

For many of those businesses that had achieved stellar revenue growth up until last year, the question is whether they can maintain their trajectory long enough to break into profitability.

Publicly listed tech stocks slumped last year, while valuations in private fundraising rounds reflected nervous investor sentiment towards high-growth sectors and a preference for the safety of companies offering guaranteed income.

Among the larger businesses, online payments group Stripe and the ‘buy now, pay later’ lender Klarna, have both been forced into so-called down rounds.

The tests facing many of these fast-growing, but often still lossmaking, outfits can be seen in the fate of companies that previously appeared in the FT 1000 ranking. Last month, EO Charging, which was listed as one of the top 30 fastest-growing businesses in 2021, became the latest to raise new money at a lower level than a previous attempt to raise cash via a special acquisition company in the US last year.

Founder Charlie Jardine says the electric vehicle charging business is still growing fast, pushing into new markets in Europe and the US, with more products being rolled out. But, when asked about valuations, he adds, ruefully, “you can see what is happening in the market.”

Venture capital investors — even if a bit more cautious — are not overly concerned about the prospects for growth in some areas, pointing to life sciences and AI.

Many admit there has been a necessary shakeout of some of the more tenuous propositions in investor portfolios where riskier bets seemed easier when money was cheaper.

Davis says there are reasons to be optimistic, too. Tech equities rallied early this year, he points out, and valuations show signs of stability “which could be reflected in private markets”. In addition, he says the market pullback has been indiscriminate, which means there are still many good companies with strong prospects.

Tom Henriksson, general partner at early-stage venture capitalist OpenOcean, says “dry powder is at an all-time high, which means that it is still possible for companies to attract investment as long as they display sound business fundamentals and are focused on solving real-world issues.

“It is no coincidence that some of the strongest areas of investment in Europe amid the wider downturn are ESG [environmental, social and governance] and renewable energy.”

Manish Madhvani, managing partner of GP Bullhound, a technology investment firm, says the “correction in valuations is healthy; there was so much cash flowing around”.

He rejects comparisons to the dotcom bust but admits: “Some businesses have unit economics that won’t work, of course. Some money will be lost, or will be recycled through M&A and takeovers. But this is a headwind compared to the hurricane of the dotcom crash.”