Caution reigns in fintech funding, but there are still deals to be done

Fintech has been the star startup sector of Europe for several years, but it has been one of the hardest hit by recent headwinds. European fintech funding was down a whopping 83% in Q1 of 2023, while deal volume reached its lowest level since the end of 2015. This has left many in the sector concerned about their prospects and ability to raise the cash they need to grow.

There’s no denying that a major reset is underway, following a couple of very frothy years in funding and valuations. But the fintech sector still has massive potential for growth and, behind the scenes, VCs are as busy as ever assessing potential opportunities. However, a more cautious approach means deals are taking longer, as investors place a greater focus on strong fundamentals, and thorough due diligence. Consequently, we should see deal activity pick up in the second half of the year, as this work comes to fruition.

We’ve also seen a substantial shift in the type of fintech businesses attracting the most demand, crystallising the trend away from B2C and towards B2B business models that has gained pace in the last couple of years. B2B fintechs raised almost double that of their B2C peers in Q1 ($950m vs. $596m), while the deal volume was almost three times as high (128 vs. 35).

So, what do fintechs need to know about raising in the current market?

1.     Play the long game

Greater caution means VCs are taking a lot longer to push through deals. One of our portfolio companies recently closed a deal that took 12 months from start to finish, while another took nine months, but both ended with a really positive result. There is still demand for fintechs and capital to deploy but whereas before investors would be jumping at opportunities, they are now spending longer building relationships with the team, getting a feel the market opportunity and risks, and then hammering out a deal that works for everybody. Funding is also skewed towards what are either considered market leaders or businesses with strong unit economics and robust teams, plus a strong product.

2.     Strategic investors are still in the market

While many traditional VCs are pulling back, corporate VCs (CVCs) are stepping forward. Crunchbase found that in the US, around a quarter of $100m+ deals this year listed a corporate investor as lead or co-lead backer, including names such as Microsoft, Google Ventures and Salesforce. And according to INSEAD, there were a record 1,317 CVC-backed deals globally in Q1 this year. We’ve certainly noticed this trend in Europe, with recent and ongoing deal processes being led by strategic players, whose longer horizons mean they’re less impacted by short-term turbulence and the need to show impressive figures to LPs. 

CVCs are also momentum driven, having launched funds during the hype years, which must now be deployed. Plus, some feel that it’s good time to invest given valuations have pulled back. Tax-driven funds, such as venture capital trusts (VCTs), are also still deploying.

3.     Don’t talk valuations upfront

Valuations were front and centre in the boom years, but nowadays it’s best to leave this discussion for later. Focus on getting investors excited, finding the right chemistry and strategic fit, and then looking at valuations in a realistic and flexible way. The years of 30x valuations are behind us, so look objectively at where your business is and price accordingly, making sure that your unit economics, forecasts, and route to market stand up to scrutiny.

4.     New areas of innovation

It’s fair to say that the more generalist areas of fintech are close to saturated. There’s little appetite right now for more online banks, lenders, and payments companies, and last year saw the fall of several more generalist fintechs, including the lender, Bank North and German neobank, Nuri, which failed to secure further backing. Railsr, the embedded finance startup, also recently went into bankruptcy protection, despite once being worth more than $1bn. In contrast, investors are now looking towards more niche fintech businesses in legacy sectors such as healthcare. There are also significant opportunities in areas of corporate finance, such as pensions, asset management, and treasury management, which are still heavily dominated by manual processes. Startups using artificial intelligence to further improve internal functions, whether that is fraud detection or customer support, are also seeing investor interest.

5.     Bitcoin, not crypto

The crypto hype is well and truly over, with VC investment dropping 75% year-on year in Q1. But as the wider crypto market has lost its shine, bitcoin has cemented its reputation as secure and stable, with corporates gradually coming on board and use booming in emerging markets. Consequently, bitcoin focused startups are finding themselves increasingly in demand with VCs, particularly those building bitcoin infrastructure around the Lightning Network, which promises to establish the currency as the superior monetary protocol around the world.

Funding may have temporarily stalled, but the macro trend of innovation and digitisation within financial services continues apace. There are still plenty of huge problems to solve within the sector, and across wider society, to improve efficiency, productivity, reduce costs, and democratise access to the entire financial services ecosystem. And there are still plenty of passionate entrepreneurs looking to find a gap in the market and make an impact. In short, European fintech has plenty of exciting times to come.