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Time to look ahead

It's something of an understatement to say that European venture capital has been in a state of shock over the last couple of years. There may not be a huge amount of optimism even now, but there are at least some signs that the industry is finally starting to look towards the future.

After years of doom and gloom, the news from the US venture industry is starting to be mildly positive. Talk to most US VCs and they'll tell you that they're encouraged by a pick-up (albeit gentle) in the IPO and M&A markets and in company valuations. Some even believe that this could be the start of a return to normality after two or three years of seeing their portfolios totally under water.

So what of Europe? Such was the question on everyone's lips at the recent European Private Equity and Venture Capital Association (EVCA) Technology Investment Conference. The conferences held in the previous two years have been pretty sombre affairs, with much rumination about the damage the industry was suffering. There was certainly still an element of that this year, with the views of Dirk Kannigiesser of PolyTechnos Venture Partners typifying the pessimism that still lingers. ‘The worst is not yet over,' he said. ‘The current fundraising difficulties firms are facing are simply indicative of how venture capital is doing.'

Eric Benhamou, chairman of 3Com, Palm and PalmSource was hardly more encouraging. He believes that Europe has gone backwards rather than forwards. ‘Europe's prospects are probably now worse than they were a few years ago,' he said. ‘They are certainly no better than they were three to four years ago. Europe is a poor terrain to test technology and has now receded its rank as number two region to Asia.'

Hardly cheering stuff. Yet for all the continuing negative sentiment about the market, there was a noticeable shift change at this year's event. European venture capitalists are certainly continuing to feel the pain and, in the words of Kennet Venture Partners' Michael Elias, ‘there is still more bad news to come for limited partners'. But the difference this time was a change in outlook. Rather than focusing on the mistakes of the past, delegates and speakers were starting to look much more to the future. ‘There is a danger that the industry looks to much at the precipice it has just fallen from,' said Elias. ‘We all need to be much more forward-looking.'

This plea seems to have been heard. Some of the most interesting discussions to be heard centred around what the future European venture capital model should be. It's clear that simply applying the US model of growing companies rapidly and taking them to IPO doesn't really work in a European context. For a start, there are no active European stock markets for young technology companies and there are unlikely to be any for some time yet. The collapse of Germany's Neuer Markt has served only to highlight this. But the problem is broader that that. ‘The infrastructure that does IPOs for a living - the investment bankers and the analysts, etc - has been decimated,' said Broadview's chairman and CEO Paul Deninger. ‘As a result, even if the conditions are right, the market cannot recover overnight. It will take a long time to build it up again.'

But this needn't be as much of a problem as some industry observers make it out to be, said Elias. ‘It would be great to have a vibrant technology European market of markets, but it's not essential. M&A has historically been the most used form of exit in Europe in terms of volume and numbers. I believe that it will continue to be so. It's way too early to try and recreate a European market. You first need a critical mass of businesses in a good, profitable state and bankers who are interested in this area.' The region's VCs need to stop waiting for a miracle to happen and get to work with the infrastructure that currently exists - selling to other companies.

Entrepreneurialism is another area that the industry often gripes about. There is a sense that entrepreneurial activity in Europe has increased. Some of the Europeans who sought success in the US have now returned to set up here. The region is also going through something of a cultural shift - jobs for life have become a thing of the past as the industrial landscape goes through a restructuring process and, further down the chain, the region's universities are much more likely to produce entrepreneurs. ‘We've seen a huge change in students' attitudes over the last ten years,' said Susan Searle of technology transfer firm Imperial College Innovations. ‘Many of them want to start their own businesses now. That was almost unheard of a few years ago.'

But there is also a sense that they can be hard to find, despite the region's efforts to create clusters of technology development and finance. ‘There is no single place in Europe with the same characteristics as Silicon Valley,' said Index Ventures' Neil Rimer. ‘There is no concentrated pool of research and capital - they are instead dispersed across a broader region.' But again, this need not be an impediment to Europe's venture capital future, according to Apax Partners' Mike Risman. ‘You have to be opportunistic. Entrepreneurs are based everywhere in the region. You simply have to have a presence in the main markets.' That could mean, as in the case of Apax, opening up offices in different countries. But gaining access to Europe's rich entrepreneurial seam could equally be done by building relationships and networks with VCs in other areas and syndicating more deals. ‘Europe's VCs will have more financial muscle in the future,' said Kannigiesser. ‘That will be the result of better fund sizes and of increased syndication among VCs.'

The other option for European VCs is to look east rather than west over the Atlantic. The geopolitical situation in Israel may be difficult to say the least, but the country's venture capital industry demonstrates a certain verve that many believe to be lacking in Europe. One answer for European VC could be to mimic the Israeli model of fostering home-grown technology, but setting up operations, such as sales and marketing, in the US early on in a company's development. That way, it has access to a huge, homogenous market and has a greater chance of a successful IPO on the Nasdaq. It's an approach favoured by Charles Irving of Pond Venture Partners. ‘The landscape for European technology is very fertile, but there are geological faults,' he said. ‘The exit market is dull. The entrepreneurs are good, but commercialisation is poor. Many VCs are also poor and they shouldn't be in the market. European VCs could do a lot worse than to follow the Israeli model - it has urgency and passion behind it. It also has a great understanding of the technologies.'

They could also look still further east - to China, India and other Asian countries - to help improve the competitiveness of their portfolio companies. China, in particular, holds a huge amount of untapped promise for the industry. Its admission to the World Trade Organisation has opened up the market like never before. ‘Where is really rapid growth happening?' asked Benhamou. ‘It's happening in China. And I'm not just referring to it as an end market, which is huge in itself. European VCs need to work out how to harness the unique talents and the cheap labour that this market has to offer. You need to learn how to do business there and build hybrid teams. If you don't, then you're at a competitive disadvantage.'

Marc Evans of Benchmark agreed. ‘The point is not to get too despondent about cyclical factors. There are always opportunities out there. We in Europe seem to be blind to the possibilities inherent in Asia. Europe has a distinct geographic advantage in that it is right between the US and Asia. It needs to take advantage of that. The industry needs to be more mature.'

There is no doubt that the industry still has to go through a process of rationalisation. In the straight-talking words of Ken Morse, MIT Entrepreneurship Centre managing director: ‘There are a lot of VCs in Europe that should die a swift death. Limited partners should cut off their funding. We need to set higher targets and have more ambition here.'

But the forward-looking thought voiced at the event, while not entirely optimistic, at least signals that the industry is willing to put up a fight. European venture capitalists finally appear to be thinking more strategically about how best to position themselves to take advantage of future opportunities. Quite what the correct answer will be is as yet unclear - and maybe there is no single right way of being a successful European venture capital investor. One thing is certain, though, and that is that slavishly following the US is not the right formula for every firm or market. ‘The premise that there is any one successful model is flawed,' said Evans. ‘Silicon Valley has developed its own methodology and that evidently works well there. But you can't just replicate that here. Europe needs to find its own way of doing things.'

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