Venture capital takes off as investors search for yield

Italy’s corporate sphere is dominated by its fashion, food and beverage or automotive multinationals, but the country startup universe is showing encouraging sings – including expanding venture capital flows.

The number of innovative startups in Italy went up by 9.3% to around 5,900 through June this year, compared to the first quarter of 2016.

At the same time, Italy’s tech startups attracted €51m in new funding during the second quarter of 2016, which is 109% up from the first quarter, and up 218% year-on-year, data from Dealroom suggests.

Meanwhile, Europe’s venture capital investments decreased by 20% to $2.8bn in Q2, according to KPMG’s latest Venture Pulse report.

Despite an increase in the number of deals to 385 in the quarter, from 365 in Q1, European venture capital investment dipped below $3bn, the first time since Q4 2014.

The European venture capital decline was mainly driven by a sharp fall in UK venture capital investment, down by more than 40% from the previous quarter, partly as a result of the UK’s referendum to leave the European Union.

New uncertainties 

Following the Brexit referendum, there was some short term turmoil in the global public markets. While the corresponding ripple-effects are beginning to stabilise, the fact that there is no concrete plan for the exit of the UK from the EU may introduce new uncertainties, especially in the European VC market.

With many investors wondering, ‘what next?’, the plethora of caution in the VC market today is not expected to dissolve in the near future, KPMG´s report reads.

“VC-backed, technology rich companies depend on skilled, innovative professionals and diversity of thinking. If the UK leaves the EU, will this disrupt the free movement of labor and inhibit companies attracting the right talent?” says Anna Scally (pictured), head of Technology, Media and Telecommunications at KPMG in Ireland.

“There are many other uncertainties, including access to markets, the regulatory framework, data privacy and tax. Of course, it will be a long time before the full implications of Brexit are clear,” Scally says.

The Brexit scenario however may create opportunities for other startup hubs to attract venture capital investment and interest.

According to KPMG, cities like Barcelona, Berlin, Dublin and Paris may be able to attract attention, especially in fintech, but Italy could also benefit from a shift of venture capital flows from the UK to other parts of Europe.

“Italian VC is growing faster than most countries. Perhaps Brexit will entice more founders to stay in Italy instead of relocating to London – we don’t know yet,” says Yoram Wijngaarde, founder of startups, technology and venture capital data provider Dealroom.

But Italy’s startup ecosystem represents just 0.38% of the universe of Italian companies, and venture capital investments are still relatively small compared to other European countries.

While the UK topped last year’s venture capital investments with €4.3bn, followed by Germany with €3bn and the Nordic countries with €1.7bn, Italy’s startup funding totaled €102.1m – lower than the €525m of Spain.

“The Italian markets tend to be very fragmented and hyper-local. This is why it is harder for startups to scale in Italy,” Wijngaarde says.

VC investments to seek yield

Despite these hurdles, Italian startups could benefit from today’s low yield environment across various asset classes, as investors pin their hopes on venture capital as a strategy area uncorrelated to the traditional space that can generate high return.

According to José María Martínez-Sanjuán, head of Manager Research and Selection at Santander Asset Management, higher investment in venture capital is the result of increased demand for alternatives, particularly by institutional investors.

“Venture capital is also quite linked to what is happening to the tech industry, the typical place to raise capital for start-ups is Silicon Valley now. It’s an interesting space,” Martínez-Sanjuán says.

But Santander’s fund selector warned that venture capital is a strategy for the long term, as it is illiquid and “very volatile”.

“Italian VC is probably one of the asset classes with higher risk, but on the other hand it has also higher returns implied, so we believe that the balance between risk and return is now quite interesting in Italy,” says Davide Turco, head of Venture Capital at Intesa Sanpaolo.

Turco says Italian startups are cheaper than those of the US, the UK and Nordics, while many local high-tech firms have reached a high value.

Some successful cases for Intesa Sanpaolo’s portfolio include semantic technology firm Expert System, which raised over $27m in its IPO on the Italian stock exchange AIM Italia in February 2014, or ‘internet of things’ startup Yogitech, which was sold to Intel in April this year.

Graphene products firm Directa Plus, which raised £12.8m in its IPO on London’s AIM stock exchange, was another fruitful investment for asset manager Quadrivio Italia, focused on alternative assets.

“Venture capitalists in Italy are fewer in number than in other geographical areas, such as North America and northern Europe. This means there is opportunity to get higher return for investors,” Turco says.

Competitive advantage

Italy has another competitive advantage, Turco explains, which is the lower cost of labour in the country for highly specialised researchers that can become entrepreneurs: according to Payscale, the average average salary for a software developer in Italy is around €23,200 while in the UK it is £30,600 (€36,438).

“It’s true that Italian investors have been very conservative lately, but the search for yield makes this asset interesting,” Turco says, adding that he has seen higher interest from pension funds.

Also, Turco explains, there is now increased focus towards this segment coming from larger fund of funds, promoted by the government, as for example the European Investment Fund or Fondo Italiano d’Investimento.

This article was first published in the September issue of InvestmentEurope, that can be downloaded for free on www.investmenteurope.net.

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