Investors’ enthusiasm for artificial intelligence (AI) remains strong, as shown by the staggering $18.9 billion raised by AI-related startups in the third quarter of 2023, according to data from Crunchbase. While this figure represents a 19% drop from the record-breaking $23.4 billion raised in Q2, it is still a notable 30% increase compared to Q3 of last year, which saw $14.6 billion invested. The surge underscores the growing influence of AI technologies across industries and the continued confidence in the sector.

Although the amount raised remains substantial, a deeper analysis of the funding landscape reveals a significant trend: a decrease in deal flow, meaning fewer investment rounds, even as the total funding stays high. This suggests that investors are becoming more selective, focusing their capital on established or highly promising AI startups rather than spreading it across numerous early-stage companies.

Fewer Deals, Larger Rounds

One of the defining characteristics of Q3’s AI investment landscape is the concentration of capital into fewer but larger funding rounds. Despite the decline in total rounds, the sheer size of many of the deals kept the total dollar amount elevated. Some of the most significant rounds include:

• Alphabet’s $5 billion investment in Waymo, the autonomous vehicle technology developer, highlighting how AI extends beyond traditional software and into sectors like transportation.
• Safe Superintelligence, an AI research lab, raised $1 billion from renowned investors such as Andreessen Horowitz and Sequoia Capital. The Palo Alto-based company is now valued at $5 billion.
• Groq, an AI semiconductor and software startup, secured $640 million in a Series D round led by BlackRock, bringing its valuation to $2.8 billion.
• Cohere, a Toronto-based AI startup, raised $500 million in a Series D at a valuation of $5.5 billion. The round was reportedly led by Canadian pension investment manager PSP Investments.

These massive funding rounds helped prop up the overall dollar figures, even though Q3 had fewer mega-deals compared to the previous quarter. In Q2, there were twice as many $500 million-or-more rounds and three times as many $1 billion-plus rounds.

One of the most notable Q2 deals included Elon Musk’s generative AI startup, xAI, which raised $6 billion at a valuation of $24 billion. This round featured investments from Valor Equity Partners, Andreessen Horowitz, Sequoia Capital, and other prominent players.

The Decline in Deal Flow: What It Means

While the total funding remained high, the number of deals fell dramatically. Deal flow dropped from 1,211 rounds in Q2 to 947 in Q3, a decline of 22%. This drop is even more pronounced compared to the same period last year, when Q3 saw 1,444 deals — 34% more than the most recent quarter.

The decreasing deal flow suggests that investors are placing larger bets on established AI players, leaving fewer opportunities for early-stage startups to secure funding. This shift could be attributed to the immense valuations associated with leading AI companies and the rapid pace at which they burn through capital. As investors prioritize returns, they may be focusing more on proven AI startups or those with a clear path to profitability, rather than taking risks on younger, untested companies.

“Such a scenario is likely when one considers investors only have so much money to place bets on AI startups, and with big valuations associated with those big rounds, that money can dry up quickly,” one analyst noted.

Looking Ahead: Q4 and Beyond

Despite the decline in deal flow, the appetite for AI investments shows no signs of slowing down. On Wednesday, OpenAI officially announced a long-awaited $6.6 billion raise, led by Thrive Capital, giving the company a post-money valuation of $157 billion. OpenAI’s rival Anthropic is also reportedly seeking additional funding, further fuelling speculation that the total dollar amount for AI investments in Q4 will remain high.

As more generative AI startups continue to raise enormous sums of money, the trend of large funding rounds is likely to persist in the coming quarters. However, the growing concentration of capital into fewer deals could also signal a maturing market, where investors are becoming more cautious and selective.

In the near term, it is expected that “big venture dollar totals” will continue, even as the number of deals declines. Investors may be opting to pour resources into a few promising players, hoping to capitalize on their AI advancements, while leaving behind early-stage ventures that have yet to prove themselves. The real test for AI startups will be how effectively they can convert these large investments into sustainable growth and profitability as the market evolves.

(Adapted from CrunchBase.com)