‘Excited’ And ‘Scary’: After Sizzling First Half, Don’t Expect AI Investment To Cool Off

This article is Part Four of our Mid-Year Report on an eventful 2023 in tech, startups and venture capital. In Part One we took a look at data and trends over the last six months. Part Two shared survey results from our readers about the rest of the year. And Part Three revealed our IPO predictions for 2023.

Artificial intelligence hasn’t just dominated the tech world through the first half of this year — its use and applications have dominated the buzz in nearly every aspect of our lives from employment to dating.

That certainly has been true in the venture capital and investing world as well, as one huge funding round has been followed by even bigger ones, and seemingly every startup has scrambled to call themselves “AI-enhanced” or “AI-powered.”

“It both excites me and scares me at the same time,” joked Mark Sherman, managing director at Telstra Ventures, about investing in the AI sector in the current environment.

“There are people definitely looking to grab certain segments (of AI) that could enjoy doing something similar to what OpenAI has done,” he  added. “Some segments will, and others will be shown to have false momentum.”

VCs and corporations have poured money into the space through the first half of the year, spending big on generative AI platforms, support infrastructure and specific AI applications in certain sectors like health care and biotech.

Before taking a look at what the second half of 2023 may hold, let’s quickly look at AI’s big first part of the year.

The first half

While it’s true AI started taking off late last year — when startups such as San Francisco-based AI video and audio editing tool Descript, and Austin, Texas-based AI content platform Jasper raised big rounds — the craze hit a new level with OpenAI.

In January, news swirled that OpenAI, the company behind the artificial intelligence tools ChatGPT and DALL-E, could be valued at $29 billion in a new tender offer. By the end of the month, Microsoft confirmed it had agreed to a “multiyear, multibillion-dollar investment” into OpenAI, believed to be about $10 billion.

That was only the start. San Francisco-based Adept AI raised a $350 million Series B at a reported post-money valuation of at least $1 billion in March. And Anthropic — a ChatGPT rival with its AI assistant Claude — raised a $450 million Series C that reportedly valued the company at $5 billion in May.

Finally, in late June “personal AI” startup Inflection AI nabbed a huge $1.3 billion round led by Microsoft, Reid Hoffman, Bill Gates, Eric Schmidt and new investor Nvidia. The round valued Inflection AI at $4 billion, according to Forbes

Those rounds were just a sampling of investors’ insatiable appetite for AI, as countless other startups raised cash in the sector even as funding continued to dip in almost every other industry.

VCs were not the only ones taken with the new technology, as the OpenAI round shows. Large corporations and their VC arms — including Google, Zoom Ventures, Nvidia, Oracle and Salesforce Ventures 1 — also flooded money into the space, illustrating the tech’s quick adoption.

Looking to invest

Despite the onslaught of investment dollars AI already has seen, expect a lot more.

From new generative AI platforms to infrastructure plays to applications using AI in specific verticals, there is a lot for investors to sink their teeth — and money — into.

“We are very interested in many of the nooks and crannies of AI,” Sherman said.

While the large generative AI platforms like OpenAI and Anthropic have been the investment domain of large firms and corporations, many see opportunity in the infrastructure layer that supports those platforms.

That layer can include anything from chips and enhanced compute to unique data sets to help with modeling.

Startups like CoreWeave, which provides GPU-accelerated compute solutions, and Pinecone, which creates vector databases, have raised big money contributing to the foundation layer of AI.

“We are definitely looking at the ‘picks-and-shovels’ approach,” said Mark Edwards, chief investment officer at early-stage investing firm Alumni Ventures, which has invested in semiconductor startup Analog Inference and AI-enabled middleware platform Anything World.

Edwards said there is substantial tech talent currently looking at different ways to increase processing speed and compute while reducing costs — something that will be a necessity for AI to achieve more general adoption.

There are also a substantial number of startups that are putting AI to real-world uses, be it in sales, content creation or designing.

Startups like Character.ai and Jasper raised large rounds within the last nine months, creating platforms to help companies work better with AI.

Many investors see a path for AI to open more doors in several fields like software development, financial services and — perhaps the most mentioned — health care and biotech.

Alumni Ventures is looking at possibilities in drug discovery, insurance and consumer credit, Edwards said. The company already is an investor in Bionic Health, which gives users AI-driven modules to improve their physical health and mental well-being.

Alumni is even looking at using AI itself to help manage its back office operations such as legal compliance, managing accounts and tax reporting.

“There’s a lot of repetitive tasks that require a lot of manual processes,” he said. “So we look at those.”

New market, same old question

Alex Mason, partner at growth equity firm FTV Capital, said while his firm continues to look at different layers of the AI stack, the one constant question is how companies will actually use this technology.

“I think you always need to be asking how companies incorporate AI into their business,” said Mason, whose firm has invested in startups including U.K.-based CloudFactory, which does data labeling for AI.

“I think you have to ask what AI means to the customer,” he added. “There are different stages of adoption.”

However, most agree there will be some level of adoption of AI by nearly every company in almost any sector at some point in the future.

In fact, many investors compare the growth of AI to the mobile revolution that disrupted nearly every sector of our lives just about a decade and a half ago. Just as that transformation excited investors and increased funding, many investors see the same going on in AI right now.

While investors are taking a much more rational approach to investing compared to what went on in 2021, AI is certainly exerting upward pressure on the market, Edwards said.

“I think you have to approach this with patience and humility,” he said. “You have to balance risk and reward.”

Sherman said valuations for AI-related startups are receiving multiples 2x to 6x higher than other software counterparts.

What’s next?

It’s impossible to say for certain what the second half of the year will hold for AI. While there is still much excitement around the technology, there are concerns about risks it can pose if used improperly and its likely effects on the elimination of jobs.

The European Union became the first body to enact regulations on the technology, and many countries — including the U.S. — are expected to follow.

Nevertheless, it has undeniably brought renewed excitement to a slowing VC world.

SoftBank founder Masayoshi Son recently told investors the firm will shift from “defense mode” to “offense mode” — despite recent massive losses — because it wants to be a leader in the AI revolution.

“Now, the time has come to shift to offense mode,” Son said.

Many of the recent AI fundings have come from a mix of corporations or their VC arms. These big-name investors include General Catalyst, Tiger Global and Sequoia Capital, as well as other large players such as Spark Capital and Greylock Partners.

However, with the SoftBank move, it will be interesting to see if the AI buzz will force some well-financed growth investors — that played big roles in the market in 2021 but have been quiet since — back into the venture market.

It has even helped spur on a sleeping M&A market, with Databricks just announcing a huge $1.3 billion deal to acquire OpenAI competitor MosaicML for $1.3 billion.

How that flood of dollars will affect second-half investment in AI isn’t entirely clear. Once hot trends like the metaverse and Web3 had their moments but soon dropped off. AI seems to be a different animal — but time will tell.

“There is an arms race going on,” Mason said. “How does that ripple through the next six, nine, 12 months? We’ll see.”

— Gené Teare contributed data and research.

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