Everybody knows that every successful business begins with a great solution to a pressing problem, however, even the most brilliant ideas require a fair amount of money. A startup needs a good amount of financing for them to succeed, and for the ideas to come to fruition. As such, many budding businesses rely on venture capital firms to financially support them in the beginning. But, what exactly is venture capital? Read on to learn more about what venture capital is and how it can lift small businesses up in the competitive market.
How Can Venture Capitals Help Small Companies?
Sometimes known as VCs, venture capitals are a type of private equity that helps to finance small businesses in their early stages of operations, that have the potential to make it big in the global arena.
These small companies sell part of their ownership to the venture capital, and they receive financial help, management advice, and technical support in return. Contrary to popular belief, it is not all about the money, as the venture capital has stakes in the company as well. Venture capital firms do not just give funds to the growing company, as they often play a role in management by helping young business owners make wise decisions that can help the company progress. Venture capitals also offer an extensive network that is crucial in growing a business, and when they need extra funds in the future, they can look to the venture capital firm for help as well.
When the venture capital firm has seen that the small business has grown substantially, they will then make their exit by selling their shares.
The Relationship Between Entrepreneurs And Venture Capital Firms
The entrepreneur and the venture capital have a shared goal of growing the startup, to different ends. So, they are all playing for the same team. Hence, it is vital that the venture capital firm and the business have a good relationship.
Most entrepreneurs who are searching for funding will have to submit plans for their business to venture capital firms. Then the firm will look through the plan to assess its potential and do their due diligence by doing an extensive background check on the product, history, and more to ensure that the business and idea are promising and of good quality.
After the assessment is complete and the company is successful, the firm will offer funds, also known as capital, and in return, they will have an equity stake in the company. Most times, the funds are given in a few rounds, and the firm will play an active role in the business operations as well.
The Different Stages Of Venture Capital Investments
With time, most small businesses will grow and evolve as they go through the many stages of the venture capital process. Some funds provided by a firm will specialize in providing capital to businesses that are at a certain stage, others are more general and will invest in a company regardless of its growth stage as long as they see the potential for improvement. Here are three of the stages of funding:
Seed Round Funding
Much like a seed with the potential to grow into a huge tree, this is the beginning of venture capital funding where the venture capital firm provides a small amount of capital. These funds are offered to new businesses to come up with a business plan and a minimum viable product.
Early Stage Funding
Much like the name implies, this fund is meant for the company to move through the beginning stages of growth, hence the amount is much more than during the seed round. In this round of funding, they are also known as series A, B, or C funds.
Late Stage Funding
This type of funding is for companies that already generate revenue and have grown substantially. This does not mean that they have to make a profit or even break even, but must have some potential and be relatively stable.
What Can Venture Capital Do For These Companies?
To put things simply, in these situations, venture capital firms will help boost these businesses and help them progress. By doing so, they become more appealing to other investors and the venture capital who already has a stake in this company will be able to sell it off to the public market or other companies in order to make some money. They will then look for other up-and-comers to invest their funds into.
Looking Deeper Into Venture Capital Funds
At any point in time, a firm will have an array of companies that are in the portfolio. It is important to note that while venture capital firms do invest a lump sum in the company, they not only take a percentage share (though mostly below 50 percent), but they also charge fees to the company for the services and expertise that they provide. Venture capital firms calculate these fees by taking a percentage cut of the company’s Asset Under Management and Profit — typically two and twenty percent respectively.
Differences Between Private Equity And Venture Capital
Much like other forms of private equities, venture capital firms follow the same structure as other limited partnerships. The firm’s general partner will manage the fund and also advise the companies that are in the firm’s portfolio. However, venture capital firms take the risk of investing in newer start-up companies with a good outlook whereas private equities focus more on investing in existing companies.
Ultimately, it is incredibly helpful to smaller companies who are looking for some funding to look for Venture Capital firms in order to grow their business. Of course, it is a big decision as working with a firm of this sort will entail them having some say in the way the business is run, as well as the fees that it will incur. Hence, it is imperative that you trust the firm as they will have the company’s best intentions at heart, after all, it will be beneficial for them for the business to grow as well. All the best!