In the US, the Bay Area has always been a significant part of the country’s whole enterprise software ecosystem. Over the last decade, the area represented around 45% - 60% in terms of deal amounts, according to Pitchbook data, and enterprise investors spend more than half of their time visiting startups with headquarters there.

Venture capitalists are reacting to where the talent is. The scope of their curiosity also reaches beyond the Bay area, to places like Southern California and European cities like Paris and Dublin. As such, EqualOcean will zoom in on San Francisco and five European cities by looking at the venture market dynamics therein. We believe they are and will remain a fertile ground for enterprise software startups. 

In this article, we focus on San Francisco, the home to 791 enterprise software companies as of January 14, 2020, according to Crunchbase database. Blessed with outstanding engineering infrastructure and seemingly ever-booming innovation opportunities, the city has seen 11 successful enterprise software IPOs since the opening of the cloud era – when Salesforce went public in 2004 – including Dropbox, Fastly, Zendesk, Twilio and Cloudflare.  

EqualOcean used the Crunchbase database to compile a list of enterprise software startups which have raised more than USD 150 million in funding. Software & Applications recorded most companies on the map, followed by Enterprise Infrastructure, Data & Analytics and others.

There has been a flurry of various niche market players in the Software & Applications sector, with one collaboration tool provider, Asana, two marketplace tool vendors, Tradeshift and AppDirect, and two payments/billing-related companies Taulia and Aria Systems. 

Docker, a leading open-source solutions provider in the market, has ushered in the new era of container-as-a-Service (CaaS). Besides, the firm’s founder, Steve Singh said that ‘2019 is the year of developers.’ Developer tools make a grand appearance on the list, with companies like Sauce Labs and Algolia emerging. What’s more, Databricks, working with Microsoft closely as partners, are among the hottest open-source IPO candidates in 2020. Checkr, leveraging machine learning technology and APIs in professional background checks, surpassed its early-stage peers to become one of two HR & Learning firms on the map.

Inflation and concentration

When looking at the quarterly funding trends by deal count and money raised, the city has seen a continuously growing enterprise investment ecosystem.

In 2016 Q2, venture investing in the industry broke out with USD 1.3 billion invested, an all-time high record, making the city an undeniable #1 in the country. The primary capital markets remained vibrant in the ensuing quarters.

Starting from 2017, both the number of deals and deal amounts rose in the first half of the year and dropped later in the second half. This pattern continued in 2018. In 2019, however, there was a meaningful reversal pattern, showing that only deal count followed the up-and-down trend while the deal amount acted the other way around. 

It resonates with a ‘decoupling’ investment trend happening in the overall venture capital market in recent years – a rise in VC funding dollars but a fall in deal count. EqualOcean attributes this to two reasons:

A decline in startups founded year-over-year

For the past two decades, the contemporary perception of a booming enterprise software market may have blurred the whole situation – people back out founding their own companies when facing heavy financial burdens (rising rents, wages) and investors are getting picky about when to fund a startup. Data is telling the same story: though San Francisco continued to be a dominant player in spawning the most enterprise startups among US cities, the overall number of startups created in the city showed a slowdown from 2014 to 2019.

On the other hand, a lot of research shows that investors choose target portfolios not only based on business metrics like minimum viable product (MPV) but also based on founders’ educational background and entrepreneurship experience. Such profiling saves investors energy and time by allowing them to pick from a smaller pool but may have resulted in reduced VC funding. As such, fewer startups arrive successfully at their targeted first round of funding.  

Tighter funnel: Investors have raised the bar and narrowed their focus on top players

The average amount of money raised in Series D and up has risen to USD 113 million in 2019, compared with USD 58 million in 2014, representing a 14% compound annual growth rate (CAGR) for the period. From 2014 to 2019, the average size of Series A rounds of funding grew from USD 6 million to USD 19 million, representing a 15% CAGR.

The two movements are influenced, in large part, by a changing culture in VC circles. Historically, Series A is a smaller round to enable startups to start to prove traction, prove product/market fit (PMF), or provide other validations of businesses running.

However, Series A is now a major fundraising event. Non-VC firms like SoftBank joined this game and pushed up the buoy while writing nine-digit investment checks to early-stage firms. What had along is that investors were urging their portfolio founders to capture market shares and scale fast, known as 'blitzscaling.'

When more money was concentrated on large Series A rounds, funds investing in Seed round were inevitably getting slashed. From 2014 to 2019, the number of Seed/Angel rounds closed has plummeted by 16%, suggesting fewer seed companies were receiving money. All combined, and coming up to the present day, we have observed that investors are making bigger bets in Series A companies, which may feel a huge pressure to scale their businesses faster; besides, later funding rounds also face inflation, created by capitalists pursuing aggressive investment strategies.