Venture Capitalists are a part of private equity, invest in companies that are in any stage of funding for growth. Fund managers individually analyse business models to invest in them.
Since venture capitalists invest in the do or die stage of a business the investments in venture capital is susceptible to high risk. Due to the high probability of business defaults in the growth stage, having VC as a huge portion of the portfolio is not advisable. On an average VCs earn 25-35% return per year throughout the holding period. In all spots of a growing business various venture capitalists enter and exit according to the need of funding that are classified as Series A, Series B and so on.
Entry of Venture capital:
- Angel Investing: Likely to be an angel saving the business at every stressed situation. In angel investing, the cash infusion helps in breathing and keeps the head out of water.
- Seed stage: Seed funding is bringing in capital for product development. On an average 10% of private equity is spent on R&D.
- Early stage: Funding of commercial production and sales. Startups burn cash for marketing and advertisements because at some point similar firms arise with the same idea and the only differentiation they can make is taking different paths to promote themselves.
- Later stage investment: In order to match the demand of the service or product, the firm is in desperate need of funding to expand. By feeding high wantedness, the firm should move in tandem with demand.
- Mezzanine stage financing is preparing a firm for an IPO. For a company to file for an IPO it has to go through various structural changes and making the balance sheet would cost time and money because of the first time preparation.
Venture Capitalists exist due to the capital market regulations and bank who on every attempt reject requests due to unreliable collaterals. A growing firm doesn’t actually exhibit a solid framework to call them as an organisation. Unlike the top players, startups do not service individual departments to address various business functions.
VC Exit Strategy:
Since they are a part of Private Equity, the exit strategies similar. Not every investments head to an IPO, exchanging hands is what most VCs do to exit dying businesses, that’s usually a tragic ending with meager returns.
- IPO– Making the firm ready for Initial Public Offering at a profitable price, booking profits and exiting.
- Secondary Buyout– Another Private Equity firm substitutes the current valuation and the former entrant exits.
- Liquidation– At the stage of no improvement, other than liquidating the firm PEs cannot exit booking profits and thus profiting from the proceedings.
- Trade Sales– No founder will love to get in the hands of a competitor in the same industry or to sell to a strategic business acquirer to create synergy and improve business dynamics.
The fund managers actively part take in board meetings to enhance the scope of both the investment and business. The fund managers run errands as attending meetings happens in all the portfolio companies.
Weird or facts:
- Venture capitalists make decisions based on the future prospects of the business, whether they are aligned with a profitable track, if not the management assists them coming to the road.
- Venture capitalists typically won’t replicate the ideas of a business they are investing in, because a fund manager does the research and analysis, the investors never get into the intricacies of the business which paves no way to raise one against.
- Venture capitalists look for a unique kind of business that solves problems, uses capital efficiently, has growth potential, ambitious founder, less time turning the organisation profitable, easy to exit, better welcomed IPO etc.
- The risk incurred are huge and most of the investments going uphill is a real world challenge. As only wealthy investors are allowed to pick a stake in VCs, diversity of the wealth doesn’t add much to the returns of the portfolio.