Why are deep tech VC driving forces taking off?

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Sydney Scott has decided to take himself out of the venture capital race and is now jokingly auctioning off his clothes – with a starting price of $500,000.

The solo general partner at Driving Forces announced on LinkedIn this week that he is shutting down his $5 million fintech and deep tech VC fund he started in 2020, and called the past four years “a wild ride.”

The good performance of his first small fund was not enough. He told TechCrunch that with the increasing competition, which is essentially still a small number of hard tech and deep tech deals, he realized it would be a challenge for a small fund like his.

“It wasn’t easy, but it’s the right choice for the current market,” he said.

Scott also thanked people like entrepreneur Julian Shapiro, neuroscientist Milad Alukozai, Intel Capital’s Arvind Bharadwaj, 500 Global’s Iris Sun, and UpdateAI CEO Josh Schachter for standing by him.

During this period, he was also involved in building the first AI and Deep Tech investor network together with Handwave, and collaborated with investors from companies such as Nvidia, M12, Microsoft Venture Fund, Intel Capital, and First Round Capital.

That journey included nearly two dozen investments in companies like SpaceX, Rain AI, XAI, and Atomic Semi. Scott told TechCrunch that the overall portfolio achieved a net internal rate of return of over 30%, a metric that measures the annual growth rate an investment or fund generates. Thirty percent is considered solid IRR performance for such a seed fund, and it outpaces the overall average deep tech IRR, which is about 26%, according to the Boston Consulting Group.

Five years ago, when Scott had a thesis for the fund, the world was different. He said most investors back then avoided hard tech and deep tech and preferred software-as-a-service and fintech.

This happened for a variety of reasons. VCs may have had a herd mentality, and SaaS was seen as a surefire money-making bet at the time. But VCs also avoided deep tech because investors believed – perhaps correctly – that it required extensive capital, long development cycles, and specialized expertise. Deep tech often involves new hardware but it always involves building a technical product around scientific advancements.

“Surprisingly, these are the reasons a lot of companies are now investing directly in deep tech, which is very ironic, but it comes with the territory,” Scott said. “Everyone was investing in scaling fast, launching fast and getting to market. They were going to invest in these extremely smart people who would eventually one day turn the science project into an operating business.”

Now he is approaching the fintech investors who turned down his deals a year ago, and is raising hundreds of millions of dollars targeting deep tech.

While he didn’t name names, some of the big-name VCs in deep tech include Alumni Ventures, which closed its fourth deep tech dedicated fund in 2023; Lux Capital, which raised a $1.15 billion deep tech fund in 2023; Playground Global, which raised over $400 million for deep tech in 2023; and Two Sigma Ventures, which raised $400 million for deep tech in 2022 (and SEC records show it raised another $500 million fund in 2024).

Deep tech now accounts for about 20% of all venture capital funding these days, up from about 10% a decade ago. And in the past five years, in particular, it has “become a mainstream destination for corporate, venture capital, sovereign wealth, and private equity funds,” according to a recent report from the Boston Consulting Group.

Scott also believes that many newcomers to the space are bracing themselves for “a big eye-opening event in three years” and that their rush into deep tech investing was too fast.

When money is pumped into a limited number of deals, a typical VC inflation cycle kicks in, where VCs jack up the price they are willing to pay for their stakes, pushing up valuations and making the sector more expensive for everyone — prohibitively expensive for a single fund like theirs.

At a time when big exits for startups have become limited – due to the closed IPO market and the death of interest in SPACs – deep tech has still achieved its success in areas such as robotics or quantum computing.

He said he’s not pessimistic about venture capital or hard tech companies in general, but he expects a “bullwhip effect” in deep tech investing, where early-stage investors and VCs rush to replicate earlier successes or high-profile successes, Scott said.

As is the case with venture, he predicts that more capital will attract more investors, including those with less expertise, and said this will lead to a boom in deep tech startups. However, this can also create unrealistic expectations on startups and significant pressure to perform, he said. And since venture capital often has cycles, he believes investor sentiment can quickly turn negative if market conditions change.

“Given the extremely small group of experts and builders, as well as the capital-intensive nature of hard tech, the phase of valuation inflation could be accelerated, causing startup valuations to rise rapidly,” Scott said. “This has an impact on the entire ecosystem, leading to funding struggles, slower growth, and potential shutdowns, which could further erode investor confidence and create a negative feedback loop.”

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