Big bets on AI point to venture capital industry’s shift

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Depending on where you sit in the investment world, the venture capital business is either in rough health or facing an existential crisis.

Like many tech folks these days, startup investors have backed AI to the hilt. The latest evidence came this week with news that Databricks, a provider of software for collecting and analyzing large volumes of data. raised another $10 billion, one of the largest private investment rounds ever.

Their willingness to put up large amounts of money that would once have required Wall Street’s involvement shows how some of the largest venture investors they navigate the AI ​​boom with distinct embarrassment.

But doubling down AI: coinciding with a difficult period of digestion for the start-up investment world. The industry has barely begun to work its way through the huge amount of investment from the venture Zirp period, the period that ends in 2021, when the zero-interest rate policy brought a flood of capital to tech start-ups.

That leaves about $2.5 trillion in private unicorns, or companies valued at $1 billion or more, at least that’s the combined value of these companies after their most recent fundraising attempts about through initial public offerings or the M&A market, the returns are likely to be much lower after the calculation, it’s hard to say.

First, consider the scale of the bet on AI.Data bricks set out to raise $3-4 billion in its latest round, but CEO Ali Ghodsi said investors offered $19 billion (he decided to roughly split the difference).

Given the underwhelming level of demand, Databricks’ latest valuation doesn’t seem outlandish. Before raising new cash, it was $52 billion, up from $43 billion 15 months ago and roughly 17 times its annualized revenue run rate, which is hardly outrageous. be for a business growing at 60 percent annually.

Private funding rounds of $1 billion or more were once rare, and it took the massive ambitions of SoftBank’s Vision Fund and several specialist investment groups, such as Thrive Capital, which led Databricks’ round , boast a billion dollar investment.

Over the past two years, AI modelers OpenAI, Anthropic and Elon Musk’s xAI have raised nearly $40 billion between them.This week alone, other significant investment rounds included $500 million for confusionartificial intelligence-powered search engine and $333 million For Vultrpart of a new group of companies running specialized cloud data centers to support AI.

What makes this boom in private AI backing even more remarkable is that it comes amid a broader collapse in venture capital investment. Compared to the boom year of 2021, before the interest rate cycle turned, the amount of venture capital invested has fallen 55 percent to $161 billion, according to PitchBook.In the first nine months of the current year, less than half of the investors are deals to perform than in the whole of 2021.

Fewer, bigger funds pumping more and more money into an increasingly narrow range of companies, almost all of them in the field of artificial intelligence; it’s a far cry from the model the enterprise was founded on, of investing small amounts of seed corn widely in the hope that an occasional big hit would make up for a lot of misses.

But the concept of VC has changed. In many ways, technology private equity markets now rival Wall Street. Rates of return are bound to decline as more capital is invested in more mature companies, although successful investors will no doubt point out that they are more profitable. will have better returns than similarly sized funds investing in other asset classes.

For many other venture capitalists, the situation has become critical. After the brief boom in 2021, IPOs and sales to strategic buyers have fallen off the cliff. As less money is returned, many investors who back VC funds are reluctant to invest more. Many startups that achieved unicorn status during the boom would rather cut costs and conserve cash than return with more money at a lower valuation. It will take time for this to work through the system, but the reality that many Zirp assessments may no longer be available will be inevitable.

Investors in the AI ​​giant’s latest round of funding will be hoping to avoid a similar fate. Companies like Databricks, which says it will turn cash flow positive this quarter, are already poised to IPO. That could make 2025 a pivotal year for VC for the latest investment fad.

richard.waters@ft.com