Israel’s 2020 VC funding numbers and what’s in store for 2021
The Israeli venture funding ecosystem is rapidly evolving, constantly adapting itself to the changing global market dynamics. In the past 20 years, we at StageOne have been razor-focused on funding and backing early-stage Israeli entrepreneurs building transformative deep technology startups which solve complex enterprise challenges. As an active player in this vibrant environment, we try to analyze the market data at the end of each year, put it into context, and give our perspective on the matter.
In this post, I would like to share some of our findings and thoughts, starting with a high-level view of the market, followed by the shift we have witnessed in recent years. But before diving in, a quick shout out to our friends at Vintage Investment Partners, Meitar, IVC, and S-Cube who always publish great market reports.
A vaccinated ecosystem?
In a year that was globally defined by the pandemic, the Israeli seed investment landscape showed resiliency and saw the founding and funding of many promising companies. Unlike the US market, which experienced a sharp decrease in early-stage deal-making pace, Israel’s startup ecosystem allowed for remote deal-making, even for newly founded companies and first-time entrepreneurs. The pandemic created new opportunities and strengthened existing StageOne focus areas like cybersecurity, AI & ML, cloud infrastructure, and SaaS.
The increase in growth capital flowing into Israeli startups in recent years is trickling down to earlier stage investments. Interestingly, the data shows that the availability of capital did not attract more entrepreneurs to start new companies, nor did it increase the numbers of Seed and Series A deals. Instead, we have seen larger rounds being closed at a quicker pace, with the average round size in earlier stages growing by more than 35% in the last 3 years.
The higher entry bar and the uncertainty caused by the global pandemic led to a drop of almost 60% in Angel investors’ share in those rounds in 2020. Foreign VCs, who traditionally were only active in later stages, now feel more comfortable investing in early rounds, assisted by the tailwinds of the forced shift to remote investing.
Peeking into our crystal ball, we expect these trends to continue in 2021, as long as the public markets maintain their bullish momentum.
The Growth of the Growth stage
Year after year VC investment records are being set — VC investments into Israeli startups tripled in the last 6 years. A closer look shows that specifically in the last 3 years, capital deployed into early-stage deals remained the same, while late-stage capital grew by close to 60% (figure 2). One could argue that this is merely a correction, a catch-up of growth capital required to support the thriving early-stage activity in Israel. But looking at the composition of deals, it is clear that the Israeli funding funnel has been turned on its head- in 2020, 60% of the deals closed were late-stage deals (in the number of deals, not dollar value). In the US for instance, roughly 80% of the deals done are early stage (Seed and A rounds).
There are many drivers for the immense growth of the growth stage. For starters, Israeli entrepreneurs are aiming to build real businesses, and not just sell technologies. More companies are reaching significant revenues and becoming category leaders. M&As are getting bigger, and acquirers have shifted their approach of technology-led transactions to platform acquisitions. So overall, when an investment is on the right side of a fund’s hit rate, the likelihood for a meaningful outcome has increased. Yet, valuations have gone up. Data shows that the average Series A pre-money has almost doubled in the last 6 years. However, this increase still pales next to the jump in growth rounds valuations (Series C and up).
While this growth of the growth stage is impressive, one cannot help but wonder if it is sustainable. From our point of view, the current ratio between early and growth-stage deals does not represent a balanced market. We expect a correction in the short to medium term that will translate to a more balanced funnel.
A correction can be the result of several developments-
- Increased Seed activity by medium-sized funds ($100–200M).
- Angels will return to their pre-covid levels of participation (at least in pre-seed).
- Stagnant or even decreased growth activity due to market saturation and diminishing returns for growth investments as a result of the higher valuations in those rounds, or alternatively a financial crisis in public markets.
Is Seed becoming a big-boys game?
Although the early-stage share of total investments has decreased, we’ve witnessed an even stronger opposite trend of investors writing larger checks for early-stage rounds. As mentioned above, it translated to an average 35% increase in early-stage deal size over the last 3 years (figure 3).
Bearing in mind the conventional 20%-35% dilution per financing round, the immediate result is an increase in company valuations, regardless of their performance or expected outcome. Most of StageOne’s investments over time were made at the inception stage. Yet, when we analyze our initial check size across our funds, we see a similar trend to what we described above. Counterintuitive to what one may think, today’s market doesn’t necessarily translate these larger rounds to traction expectations or a higher bar of product-market fit for follow-on rounds. On the contrary, we see increased activity in pre-revenue Series A.
It is true, all investors’ dollars are green. Yet, in today’s founders’ market, we urge early-stage entrepreneurs, and especially first-timers, to seek beyond the $ sign. They should not hesitate, ask and understand the true value they gain by partnering with investors. As a Seed stage fund with about 20 years of experience to our name, we continue to adapt to new market dynamics as they unfold.
In 2021 we will continue to support our existing portfolio and seek new investments in our core activity areas of Cloud Computing and Software Infrastructure, DevOps, ML and AI, Cybersecurity and Connected Everything.
If you are a founder working on something exciting in one of the areas above and want to hear how StageOne works with entrepreneurs like you, ping us at info@stageonevc.com
Read more in the StageOne Blog: https://medium.com/stageone-ventures
