Investors buy out startups with money raised by VCs

Investors are shaking the venture capital industry by raising money for start-ups who have been rejected by venture capitalists. They take advantage of economic downturns to purchase promising companies at a discounted price.

VCs have taken minority stakes in businesses that had growth potential, even if there was no immediate path to profitability. The steep rise in interest rates during the last year has changed this, causing VCs and private valuations to plummet, leaving a swath start-ups vulnerable to collapse.

New investment groups raise tens or even hundreds of millions of dollars with the aim of taking over the majority of ownership and control of new businesses in order to transform them.

The trend, while still in its early stages, is another sign of the difficulties many companies are facing as venture capital investment shrinks.

Investors Oren Peleg & Eyal malinger launched Resurge Growth Partners in the UK this year, with a goal of raising €120mn for start-ups.

The experienced investors, who previously worked for companies such as Howard Marks’ Oaktree Capital Management, and VC firm Beringea say they have identified a market gap and plan to invest an average of €10mn – €30mn.

Resurge Growth acquires start-ups to provide a turnaround, either because the previous valuation was excessive and didn’t reflect the current market realities, or because changes in the operational environment are needed.

Peleg stated that there is a great opportunity to play an important role in helping companies make the transition from venture capital ownership to private equity ownership. Peleg said that no one wants to say that this company needs a reset. That’s our role.

Matthew Bradley is one of many investors who are leaving venture capital in order to take over start-ups. Bradley, formerly the chief investment officer of London-listed VC company Forward Partners, founded Tikto Capital in order to acquire start-ups last year.

Since its founding in 2020, Arising Ventures based in San Francisco has also been interested to acquire start-ups that have viable business models, but slower growth. Kjerstin Erickson, chief executive of Arising Ventures in San Francisco, said that the number potential deals had grown five-fold over the last year.

She said that opportunities arise when “the company raises more money than it is worth on the market”. “We will do the deal only if we believe there is a real business beneath.”

This year, the group — which was structured as a holding firm rather than a fund — put up a billboard with the slogan “We invest second chances” in the heart San Francisco.

Venture capitalists around the globe have drastically reduced their activity in recent years, with only $73bn invested globally during the third quarter. According to PitchBook, this is down from the $106bn invested in the same time period last year.

According to the European corporate finance consultancy Clipperton, data shows that the proportion of venture-backed startups selling to Private Equity Groups grew to 24 percent of the total exits in the last two years.

Scott Driggs from Jefferies who covers private equity says that even though pressure is increasing on start-ups for them to sell, the deals are stalling because VCs disagree over whether or not to cash out.

Driggs said that once the door is closed and those losses are crystallised, there is no turning back.

Investors anticipate that demand for these buyouts will increase as long as the economic slowdown continues and more companies are facing a possible cash crunch.

Resurge’s Malinger stated that in 2024, there will be a greater demand for capital. Entrepreneurs are going to have two options: Should I sell my company for scrap or should I close down? “Or can you provide an alternative solution for this business?”