The Reason Why Europe’s Deep Tech Startups Are Struggling To Scale

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The Reason Why Europe's Deep-Tech Startups Are Struggling To Scale
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According to investors, the lack of late-stage capital and risk appetite are hindering the growth of domestic Deep Tech leaders, despite European governments committing substantial amounts of capital to boost regional startups focused on tangible engineering innovation or scientific advances with the potential to disrupt various industries. These startups, known as “deep tech,” include AI, quantum computing, and robotics.

Although Europe is known for its scientific research, governments across the region have recently announced significant plans to create their own global deep-tech leaders. Germany, for example, launched a fund of up to €1 billion (approximately $1.1 billion) for deep tech and climate tech investments, while the UK pledged £2.5 billion (about $3.1 billion) for quantum technologies.

While Europe has certainly generated a significant number of deep-tech startups such as Exotec, a robotics firm, and Northvolt, a unicorn battery manufacturer, it still encounters distinct obstacles in creating successful deep-tech leaders when compared to North America.

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According to Massimo Portincaso, founder and managing partner of Deepwave Ventures, “scaling deep-tech startups in Europe is a significant challenge.” He believes that it’s particularly problematic for anyone seeking to raise more than €10 million, and he argues that some European regions and institutions are overly optimistic and unaware of the problem.

The scarcity of venture capital for deep tech in Europe is a significant reason why these startups struggle to expand, according to Portincaso. PitchBook data reveals that, for instance, in the AI and machine learning sector, US-based startups received approximately €38 billion in venture capital funding last year, while European counterparts secured only €10 billion.

Comparison of VC Investment in AI and Machine Learning:
USA vs. Europe

Deep Tech
*As of 03/28/2023
Source: PitchBook Data

While it is true that the US VC market is considerably larger than that of Europe, which naturally leads to a disparity in deep tech funding, the gap between the two regions is not only a matter of size but also culture, according to OpenOcean general partner Ekaterina Almasque.

Almasque believes that a cultural bias still exists in Europe, resulting in early-stage reluctance among European VC firms to invest in revenue-less startups. “In Europe, VC firms tend to be more risk-averse, but so are the corporations that could be potential customers,” she explained.

Almasque noted that while more VCs are entering the deep-tech investment space, deal sizes remain modest. Unlike SaaS or e-commerce firms, deep tech requires a significant amount of capital and time to develop a product due to the technology’s intricate nature, which may be too risky for generalist investors.

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Furthermore, even specialist European funds are usually small, and they are unable to provide the necessary funding levels for deep-tech startups to expand. Due to investors and LPs being more risk-averse, many European deep-tech startups, such as UiPath from Romania, are relocating to the United States to scale.

“Currently, the indications suggest that the US is a more appealing location to expand,” according to Manjari Chandran-Ramesh, a partner at Amadeus Capital Partners. “The US market is often much bigger for clients, there are more Series B investors willing to lead, and the big acquirers are also located in the US. In addition, the Nasdaq exchange is more attractive for public listings, so all of these factors are considerations for startups deciding to relocate. Europe is catching up, but it will take time.”

While an individual startup may not be impacted by its location in Europe or the United States, the lack of these businesses is a long-term disadvantage for Europe’s deep-tech ecosystem.

Almasque pointed out that numerous founders and employees of deep-tech startups eventually start other companies or become mentors to new startups. If these individuals relocate abroad, European deep-tech founders may have limited access to the knowledge and resources their predecessors could provide to facilitate growth.

Furthermore, the relocation of domestic deep tech startups to the US could pose national security implications for European countries. Research and development endeavors could result in the creation of critical new technologies with significant strategic value, particularly in encryption or cybersecurity. If these technologies are transferred outside of Europe, it could decrease the impact of European countries in security-sensitive sectors.

Portincaso believes that public funding from European governments is a good start, but to truly scale the deep-tech ecosystem, there needs to be more private market investment and a simplification of bureaucracy.

“To drive scale, it’s crucial to defragment Europe’s deep-tech market,” Portincaso said. “While institutions like the European Investment Fund are doing an excellent job of helping to build venture funds, there is a lack of risk appetite from LPs to unlock the capital that is required. While government funding is necessary, it’s not enough on its own.”

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