Since the launch of Salesforce, SaaS (Software-as-a-Service) has seen explosive growth across horizontal and vertical markets. As a result, a paradigm shift has occurred. A typical desk-worker is using multiple cloud applications and non-desk-workers are quickly adopting mobile software. From a value creation perspective, the BVP Cloud index has emerged clustering SaaS companies in an index.
Gartner is projecting that in 2020, businesses will spend ~$500B on software. Salesforce alone is forecasting ~$13B in Annual Revenue for 2019. SaaS funding continues to climb, especially in Growth with mega rounds like the latest $250M Series E Round of Toast (POS software).
It is probably safe to say that the dominant state of software has shifted from on-prem to the cloud. Maybe we should drop SaaS and just use Software as the synonym for modern cloud-based applications.
As a Software focused VC, I’m always curious about the depth of the market. How much more are businesses willing to spend on software. After all, software spend is always a function of gross/net margins. From this perspective, the market for software is somehow organically capped at (probably) single digit % of net margin. I was trying to find a report to support my thesis but I gave up since no one is really tracking this. I always thought that number to be ~5% of gross margin any given business makes. It might trend upwards for SMB and downwards for large companies. In any case, I believe that we are far from market saturation. Even for such crowded markets as #martech.
This brings me to the title of my post. Innovation Nest is a B2B Software focused seed fund investing across Europe. We target software companies in 3 distinct areas:
- Vertical SaaS (software that runs the main process of a given market)
- Data and Machine Learning (how proprietary data and algorithms can augment automation)
- Industry 4.0 (optimization of the manufacturing and production floor)
With a €25M fund, we are looking to back ~25 companies raising their seed rounds in vintage years between 2017 and 2021.
When we set out to raise our current fund we spend a significant amount of time trying to understand the size of the market in Europe. Our “educated” estimate is that there are around 20 000 software companies in the EU and roughly 2 000 new ones are created every year. To put that into perspective. In 2019, there were 1 125* funding rounds in B2B SaaS in Europe across Pre-Seed and Growth stage.
As we are only investing in B2B Software companies, when building our fund model, we wanted to have a structure which resembles a sales funnel. As companies raise their consecutive rounds of funding they progress in the funnel. This approach allowed us to figure out the future value of the portfolio based on a few variables:
- Investment Amount
- Ownership level
- Graduation rate
- Exit value
Our top of the funnel goal was set at 300 qualified leads for each vintage year. To qualify a lead, we agreed on simple criteria a) B2B Software b) At least €5k in MRR c) Actively raising a round (we received a deck).
In theory, we felt that the market is deep enough and we would be able to reach 300 QLs per year. Two years in, I can say that we were more or less correct in our assumptions. To get a more accurate feeling of the market I wanted to somehow track all the funding rounds and compare the data to our internal funnel data.
B2B Software funding is a niche subset of the broader VC funding market. Although we have many great reports on the State of EU VC funding, I felt that these aggregate numbers were too broad to apply to B2B Software. What I wanted, was a more accurate account of the VC activity across all funding stages in B2B Software. When it comes to market data there are a few sources to choose from:
just to name a few. Each source has its own inaccuracies. I’ve decided to go with Dealroom as I found their data set to be the most complete. This didn’t solve another pain — labelling. When taking a more qualitative look at the data, you get a feeling that some funding rounds are mislabeled. The same goes for labelling companies as B2B Software.
I’ve decided to make the best use of the available data and treat it as guidance and not a 100% accurate account of the reality. The alternative seemed not worth investing the time and resources.
In order to start my analysis, I had to make some assumptions in regards to company and funding mapping. In the end, I settled for the following criteria. For the sake of my analysis, I only look at companies which have been labelled as B2B SaaS and have their HQs in Europe. When it comes to funding rounds, I grouped all the funding categories that can be found on Dealroom to only 4 stages:
- Series A
The numbers for Q1'2019 seem accurate. Of course, there are some cases where I would have labelled a different way, but to save time I treat these cases as a margin of error.
From January 2019 onwards I will use the same criteria to present quarterly numbers for EU B2B SaaS funding. I know that the data set is not perfect but it will at least give us a direction in which the market is moving.
I haven’t figured out yet how to best present the data, so please treat it as version 0.1 and we will iterate from here.
There were 4 mega rounds that caught my attention
- Tradeplus24 raised $120M in Series A. Looking at the median Series A round size this round is almost 10x the size. In addition, not sure if I would label this company as B2B SaaS.
- Veeam raised $500M of Growth Equity from Insight Venture Partners and participating investors.
- Relex Solutions raised $200M in Late VC funding from TCV.
- Collibra raised $100M Series E from CapitalG and participating investors
Based on the geo split of funding rounds, it seems that Growth capital is concentrated in Western Europe. Probably sign of the depth and maturity of the markets in Western Europe.
Pre-Series A market is fairly small and not as skewed towards Western Europe as later stages. Also, it would be useful to look at older vintages to observe graduation rates to Series A.
Few Comments to the data:
- All of the data comes from Dealroom and is based on their internal labelling.
- There was a round reported for Skillaz, without an amount of the investment. Also Russia is not really EU :)
- If you would like to get the original data set, feel free to reach out.