VC sentiment on a downward trend again: Market starts new year on a weak note

• Despite falling, business expectations remain much more optimistic than situation assessments

• Fundraising climate continues on a low level, expectations around the exit environment drop again

• Growing investment appetite was a bright spot at the end of 2023

VC business sentiment decreased slightly in the final quarter of 2023. The mood in the German venture capital market thus remained subdued at the end of the year, although it was better than after the slump experienced up to the end of 2022 as a result of the interest rate turnaround. The sentiment indicator of the early-stage segment fell by 8.1 points to -27.4 balance points. Both subcomponents – situation assessments and business expectations – deteriorated, although expectations remained significantly more optimistic than assessments of the current business situation. The indicator for the current business situation shed 7.3 points, dropping to -39.2 balance points, while the indicator for business expectations fell by -8.9 points to -15.5 balance points.

Since it nosedived in 2022, the fundraising climate in the German VC market has hardly changed, so the mood at the end of 2023 continued to be frosty (-39.5 points). In the second quarter, however, a wide gap opened up between the current business situation and expectations because situation assessments plunged yet again while expectations became much more optimistic. The poor fundraising climate has to do not just with the rapid and hard interest rate reversal but also with lower exit proceeds, which resulted in rather scant return flows for fund investors and hence, lack of reinvestment. Driven by much more optimistic expectations, however, the negative sentiment around exits appeared to improve slowly in the third quarter. Still, the risk of a setback inherent in this overhang of expectations became reality in the final quarter.

So far, the general rebound in valuation levels has not impacted much on the mood around entry valuations for new commitments. To be sure, the level of satisfaction slipped minimally for the second straight quarter, but it remains on a very high level (+20.3). This suggests that entry valuations for new commitments are still being seen as attractive. It is possible that the time has come for many VC investors to invest more again.

“The recovery of business sentiment in the German VC market has stagnated, so investor confidence remained subdued towards the end of 2023”,

said Fritzi Köhler-Geib, Chief Economist of KfW.

“The war in the Middle East and concerns over a possible escalation have weighed on the recovery at least temporarily, which was to be expected. In the course of the year, however, investor confidence improved significantly from its brief drop, which had been caused by the interest rate turnaround. Sentiment continues to be subdued as an expression of great dissatisfaction with fundraising and exits. On the investment side, however, things are looking up. To be sure, much less VC was invested in Germany in 2023 than in the course of the boom of 2021. But investment is on the level of the previous years and, thus, higher than investor sentiment would imply. The good news for start-ups is that after dropping briefly, VC investors’ appetite for new commitments already rebounded again in the past two quarters. Access to VC could therefore become easier again for start-ups than it has been for a good one and a half years.”

Ulrike Hinrichs, Managing Director of the German Private Equity and Venture Capital Association (BVK), said:

"Market activity and sentiment of venture capital companies are still taking a wait-and-see attitude. Economic and political conditions continue to stand in the way of a sustained sentiment upswing. The exit situation and fundraising environment are further key stumbling blocks. However, the expected interest rate reductions in the course of the year could cut the knot. The valuation level for new investments is attractive, and demand for capital is high. The financing rounds around the turn of the year, some of which were very large, give hope. They highlight the growing investment appetite of venture capital companies and the return of confidence."

KfW produces the German Venture Capital Barometer in cooperation with the German Private Equity and Venture Capital Association (BVK) and the Deutsche Börse Venture Network exclusively for the Handelsblatt business daily. For detailed analyses with data tables and graphs on the development of the business climate in the venture capital and later stage segments go to­ www.kfw.de/gpeb