Australian startups will face major challenges amid the tech turmoil in 2023

Even with Australia’s largest venture capital fund under its wing, Niki Scevak, partner at Blackbird Ventures, admits the game has changed for founders looking to invest.

“We expect the market to be tougher next year than this year, it won’t just fall back into the euphoria of 2021,” he said.

Likewise, Folklore Ventures partner Alister Coleman warned of the difficult days ahead, although he remains optimistic about the future of the industry.

“There is a lot of capital available and there are many incentives to invest it quickly, but we may see it being invested more patiently than before,” he said.

“This will likely mean investing in fewer companies than in the past and will certainly mean the re-emergence of a seed-stage gap that has been closing for a year [in 2021] … I think we will unfortunately see a significant drop in angel investment.”

Early stage testing

Early-stage founders’ ability to raise capital will be tested next year, with a new survey by Herbert Smith Freehills showing many founders plan to raise seed or Series A rounds in 2023.

Most, however, are undecided whether to pursue a cheap stock round or try to dodge the tech wreck’s valuation scarcity by taking out bridge financing instead.

The survey of 40 founders, mostly in the early stages, found that 76 percent plan to increase over the next 12 months, but 27 percent are planning a bridging round, and another 50 percent were unsure of the structure they would use.

Laurence Schwartz, partner at OIF Ventures, said there will be a moment of truth in 2023 for the numerous companies that successfully raised capital in 2021 and therefore avoided the need to return to the market in 2022.

They’ll be back in front of investors in 2023, when valuations and funding conditions aren’t likely to be as generous.

Mr Schwartz said it was “unrealistic and simplistic” to pretend the industry was “all rosy”.

“There are key geopolitical hotspots in Europe, Asia and the United States. Macro conditions need to be taken into account when monetary policy is tightened, and the big question mark is still whether there will be a recession in 2023, in which economies and to what extent,” he said.

“There are big question marks in the short term.

“You must not be reckless in any direction. You have to ensure all outcomes and I think it’s prudent to continue to be capital efficient and to focus on unit economics and the runway.”

OIF was one of the first local funds to anticipate the depth of this year’s tech correction, sending founders a note in January encouraging them to raise capital quickly before the market shifts if needed.

Valuations are now down across the start-up spectrum, with later-stage companies being hit the hardest.

Local VC funds have devalued Canva by 36 percent, while major US investor T. Rowe Price has been more aggressive, devaluing its value by a total of 44 percent.

Despite this, many companies have still been able to restock at higher or flat prices, with growth matching or more than offsetting market movements.

In May, Shippit tripled its rating, Unicorn Go1 propelled to a $2 billion (US$3 billion) valuation, and in October Airwallex raised an additional $100 million and maintained its previous valuation of $5.5 billion.

Consequently, the Herbert Smith Freehills survey found that 85 per cent of Australian early-stage founders are confident their next round will have a higher rating.

Herbert Smith Freehills partner and co-head of local venture capital practice, Clayton James, said there have been very few downside rounds in 2022, but this is partly due to the high volume of bridging rounds.

“Bridging isn’t just disastrous emergency funding, it’s investors that are propping up the company and giving the founders a little space by empowering them,” he said.

“But founders are naturally optimistic people, many are young, and they’re not burned out [market] cycles before.

“You can only do so many bridging laps. If you jump over too often, your calculations can end up with strange and unexpected results… You don’t want to suddenly do the conversions and find that you’ve given away more about your business than you think.”

According to the latest figures from Cut Through Venture, investments in local start-ups are still consistently below the 2021 level, but significantly exceed the investment level of 2020.

While most local VCs are saying that 2021 was the year of the runaway and 2022 should be seen as a return to more normal investing conditions, founders in Australia, the US and around the world are still grappling with the aftermath of the 2021 runaway.

While revenue growth used to be the preferred metric for startup investors, the HSF survey found that 72 percent of founders believed market conditions needed them to become profitable faster.

Less competition

A positive for local VC funds – but not necessarily start-ups – in the global slowdown has been reduced competition from US investment firms keen to tap Australia’s booming start-up sector.

US VC firms have been particularly aggressive in US investing in 2021, leading some ask if local companies would fight to compete.

HSF partner and co-head of the venture practice, Elizabeth Henderson, said international funds have been less active in Australia this year.

“One thing that was unusual in 2021 and 2020 was the number of US funds that got into the first round of pricing. A few years ago, they tended to wait,” she said.

Blackbird’s Rick Baker said while his firm co-invested with US funds, it put his firm and other Australian investors in a stronger position after some pulled out.

“What’s happened with COVID is that the US VCs in particular have learned how to close deals via Zoom, whereas before they felt like they had to fly here and meet founders in person,” he said.

“In 2021 they all started chasing via Zoom and we had to play that game and make really quick decisions. I think we lined up well here and competed very well, but we had to match higher priced term sheets due to competition.

“What we have seen this year is that many of these US VC firms have retreated to their home market. The U.S. market was so hot in 2021 that these investors were looking elsewhere, but that competition has now significantly decreased and they are now fully occupied looking back at just their home markets.”

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