Venture capitalists try to analyze the ‘noise’ of generative AI

Generalist venture capitalists used to pay little attention to the niche area of ​​artificial intelligence known as generative AI.

In recent months, however, the growing buzz around the technology has reached a fervor the venture capital market hasn’t seen in years.

The release of tools like DALL-E 2, Stable Diffusion, and ChatGPT have captured a wide range of investors by proving that generative AI is now ready to be applied to a variety of business applications, from advertising and law to writing software code.

Generative AI has been around for years. But in the last 18 months, the language models that power most tools in the field have gotten amazingly good at creating art, writing, and creating other content with a human touch.

Access to these innovations was limited until late summer, when open AI Y AI stability made its so-called basic models available to developers at an affordable price or in an open source environment.

Since then, the number of existing and new companies building products on top of these technological capabilities has skyrocketed, and Venture capitalists are taking notice.

“My AI-focused peer group of investors has never been so busy,” said Sandhya Hegde, a partner at the early-stage firm. unusual companies. “There are a lot of talented founders trying to build companies using this technology.”

Seed deals explode

Hegde said that Unusual Ventures had backed a couple of startups recently, and he estimated that more than 50 other generative AI companies raised seed funding last fall.

In 2022 alone, investors bet at least $1.37 billion on this crop of VC-backed companies in 78 deals, nearly as much as was invested in the previous five years combined, according to PitchBook data. That’s a rare bright spot in a year that saw transaction values ​​fall into most categories.

Early investors are eager to back generative AI companies in large part because they see the great valuations these companies could fetch once they graduate to their Series A stage and beyond, said Jeremy Kaufmann, a partner at Venture partners at scale. Scale led a $10 million Series A for Regie.aia startup that automates blog posts and sales emails.

In December, Cluea developer of image-to-text and image-to-image generation tools, raised a $50 million Series C led by Happy at a $500 million valuation. The company has annualized revenue of around $1 million, according to a Forbes report, indicating that investors are willing to assign frothy valuations to generative AI companies that were commonplace in 2021 but are now considered exorbitant for the mainstream. most venture capital-backed companies.

Other recent deals include a Series A for a copywriting company. Jasper, which was valued at $1.5 billion in October. That same month, Stability AI closed a round led by Coat, Speed ​​of light Y O’Shaughnessy Ventures at a reported valuation of $1 billion. In November, To describean audio and publishing company, was valued at $575 million in a deal led by OpenAI Startup Fund.

Most early-stage startups that get funded have only a semblance of a product and only a few users. But investors are willing to pay high prices for Series A and beyond because many believe those companies will quickly attract customers as soon as the product is ready to hit the market, Hegde said.

Despite his enthusiasm for the sector, Hegde acknowledged that it is too early to tell which new companies will capture customers’ attention or whether initial users will stick with existing products.

Ease of construction worries some investors

Much of the excitement among venture capitalists has centered on the rapid adoption of OpenAI’s ChatGPT bot, which gained 1 million users in the first five days after its November launch.

“The only [deals] What people were doing rapidly in the fall were generative AI startups, and nothing else was being done,” said Vanessa Larco, a partner at ANE. “The question is, does the enthusiasm translate into Series A, Bs, Cs and Ds?”

In the meantime, he said he expects a lot of “noise” in this sector because generative AI tools are relatively easy to build with the help of one of the basic models.

That’s a concern for James Currier, co-founder of the seed-focused venture firm. NFX.


Currier said it had already invested in four generative artificial intelligence startups before the market heated up, but has since pulled out of further investment.

“If you look at other major technological changes like the internet, mobile, or cryptography, there are [was] a lot of skepticism,” he said. “True believers had the opportunity to create a startup in those areas when others didn’t.”

But with the utility of generative AI becoming apparent to everyone, Currier said, he worries that hundreds of similar companies could be built that are hard to tell apart.

Not all investors are concerned that it is difficult to create a differentiated and defensible product in generative AI.

“I think almost every company already has an investment in this space,” said Oana Olteanu, a partner at signalfire. Last year, his firm endorsed Me, a platform for narrative design. Olteanu said he also led SignalFire’s initial investment in an undisclosed pre-product generative AI startup.

Learning from past exuberance

Olteanu said he thinks basic models could eventually become a commodity, with most of the value coming from companies that customize models for specific use cases.

It may take years before it becomes clear what kinds of companies—incumbents like Google, start-ups, or developers of foundational models—capture the most benefits of generative technology. Meanwhile, some investors say the widespread belief that the VC market has overheated in 2021 helps them keep a cool head when investing in generative AI.

“I think he [current] market conditions are overriding the typical exaggerated behavior now,” Olteanu said. “I think a lot of other venture capital firms, not just us, are very careful and diligent in looking at opportunities.”

Currier, who currently spends all of his time on AI opportunities, said investors aren’t paying high prices for generative AI seed deals. “In some cases, the valuations are lower because the founders are desperate to get going,” he said. “They see how fast everything is happening.”

Related reading: Artificial Intelligence and Machine Learning Report Q3 2022

Featured image from Je-nar/Shutterstock

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