The Investors Sitting Out the Latest AI Wave—So Far

Eight investors in mature startups who have passed on generative AI deals cited a litany of concerns over such startups. These included business models that require heavy capital expenditures, as well as businesses with few strong defenses against competitors and sky-high multiples. Such valuations have risen even as the steep cost of developing AI has come into focus. For instance, OpenAI and Microsoft have discussed spending $100 billion on one data center project to house a supercomputer for AI, The Information reported last month.

“You’re not seeing traditional growth [equity] go into the big, pure AI company plays,” said Laurence Tosi, Airbnb’s former chief financial officer, who now runs private equity firm WestCap. “The financials, business models and valuations seem unanalyzable at this early stage.”

Those investors taking a more cautious stance are vulnerable to missing out on some of the startups with the biggest potential, however. They have largely ceded the stage to investors that traditionally invested small amounts early in companies’ life cycles but in recent years have raised larger, late-stage funds to go after bigger deals.

Accel, an early investor in data labeling startup Scale AI, expects to lead its most recent round at a $13 billion valuation through its unit that invests in older startups, The Information reported last month. Menlo Ventures, an early investor in chatbot Anthropic, also led its most recent funding round at a $15 billion valuation. And Thrive Capital, an earlier backer of OpenAI, led the most recent tender offer in OpenAI at an $86 billion valuation.

Tech giants such as Amazon, Microsoft, Google and Nvidia have also invested heavily in these startups, in part because the deals drive revenue for the cloud computing or chipmaking arms of the startups’ corporate parents.

Lightspeed Venture Partners, Sequoia Capital, Andreessen Horowitz and Nvidia have been among the most aggressive investors in generative AI. Each has invested in more than 15 generative AI startups since the start of last year, according to PitchBook.

In contrast, growth-stage firm General Atlantic, known for investments in Airbnb and ByteDance, is still waiting it out. Anton Levy, the firm’s chair of global technology, called the current wave of AI investing “the big infrastructure build-out” that would later give way to bigger opportunities to invest at the “application layer.” He said in an email that the firm saw a similar shift in the late 1990s during the rise of the internet.

“We witnessed that the market cap of the application layer opportunity was magnitudes larger than infrastructure build-out and presented the greatest value creation opportunity for growth investors,” he wrote. “We believe the same will be true with the coming AI innovation cycle and have conviction that this technology will enable an unprecedented set of growth equity investable opportunities for the next decade.”

Late-stage tech investors are on the hook to their own investors, who expect them to generate returns through a fewer number of solid investments that run little risk of blowing up. “We can’t sustain the 50% portfolio loss ratio that early-stage investors can,” Madera said. “We look for three to four times return.”

Some later-stage investors, such as IVP, have made notable deals recently. Last fall IVP led an investment at an over $500 million valuation in Perplexity, developer of an AI-powered search engine, as well as Iconiq Growth, which has invested in generative AI startups Pinecone and Writer.

And investors are finding other ways to get exposure to AI startups. While Blackstone hasn’t done any VC deals for them recently, last fall it participated in a $2.3 billion debt facility to upstart cloud provider CoreWeave.

TCV, which hasn’t done any AI deals since the start of last year, wrote in a blog post last fall that it was searching for opportunities to invest in the sector but hadn’t yet. “Recent AI tools are so impressive that it is easy to get carried away with the ‘what ifs.’ We are asking ourselves: to what extent are we buying the hype?”

The sector’s unpredictability has also spooked some investors who until recently had been active in AI. Insight Partners put money into eight generative AI startups, including Writer, over the past 15 months, according to PitchBook. But it entered the year with a more cautious approach.

Deven Parekh, managing director at Insight Partners, said he finds it difficult to invest in generative AI startups right now. One reason is the tendency for some startups to use vanity metrics, or what some investors are informally dubbing “experimental recurring revenue.” The phrase—a play on the traditional enterprise software metric, annual recurring revenue—refers to sales of technology customers are only testing out rather than committing to for longer periods.

Parekh said companies of all kinds are testing generative AI tools to improve their software production, call centers and analysts, and that is propelling early revenues for some generative AI startups. But he doesn’t know if those customers will keep buying in the long term. “I have very strong conviction on the adoption of this technology,” Parekh said. “Today, it’s harder to have strong conviction on which companies to bet on.”

Parekh said Insight is now focusing more on how to deploy such tech in its existing portfolio to reduce costs associated with software development and customer service, in addition to AI companies he thinks will “stand the test of time.”

“I think we’re all in on the adoption of this technology, which is different from being all in on investing [in it] today,” he said.