Venture Capital 101
Businesses that want to succeed need to find some source of funding to get them off of the ground and to help them grow. But, for many newer businesses, it can be difficult to obtain traditional types of financing, such as debt or equity financing. A newer or fledgling business usually doesn’t have the track record to prove to lenders that it will be able to repay any loans. Additionally, it might not have access to traditional investments firms that often back more established companies.
Enter venture capital, a different type of equity financing. Venture capital might not be the funding option for all businesses, or even a funding option that is appropriate for all new businesses. But for the right company, it can provide the financing and leg up that the business needs to get going.
What is Venture Capital?
Venture capital is a type of equity financing, which means that investors provide a company with money in exchange for a stake in the business, or a portion of its shares. Companies that receive venture capital don’t repay the money they’re given.
There are a variety of ways in which venture capital is different from other types of equity financing. For one thing, venture capitalists typically only provide funding to a specific type of company, namely start-ups. Companies that have the potential for high growth are of particular interest into venture capitalists.
Often, the investors who offer venture capitals to entrepreneurs and start-ups also take a very active role in the company, including having a say in major decisions made by executives and stakeholders. Since there is a higher risk for venture capitalists compared to investing in more established businesses or businesses with a proven track record, it’s usually expected that the return on investment will also be considerably higher than average. Additionally, most venture capital financing is long term financing, meaning that investors are willing to wait to see a considerable return on their initial contribution.
Where Does the Financing Come From?
There are two main sources of venture capital financing: High net worth individuals (also known as angel investors) and actual venture capital firms. Although the show isn’t necessarily an accurate depiction of how the pitching and investing process works, the people you see making offers or dashing entrepreneur’s hopes on “Shark Tank” are examples of angel investors. In many cases, an angel investor is often a former entrepreneur who earned considerable wealth by launching a successful business or series of businesses.
What Do Venture Capital Firms or Angel Investors Look For in a Company?
Although venture capital tends to go to start-ups, not every start-up is a good match for financing. It’s also not only start-ups that qualify for venture capital. The financing can also go towards companies that are already established and are looking to expand in some way or towards research and development projects.
Generally speaking, angel investors and other venture capitalists typically look for several characteristics in a company before they decide to invest. Having the potential for substantial or considerable growth is just one qualification. Investors are also on the look out for a well written and clear business plan and a strong and competent management team. Since many angel investors are also former entrepreneurs, many tend to seek out companies that are in their former industry. A tech entrepreneur turned investor is likely to finance tech companies while a doctor who’s also an investor is likely to look for businesses in the healthcare field.
Angel investors who have experience in a particular industry are also more likely to take a more active role with the companies they invest in. For newer businesses or less experienced entrepreneurs, having guidance and mentorship from an investor can be very valuable.
What Other Options Does a Business Have?
Like debt financing and other types of equity financing, venture capital is just one financing option available. Figuring out which financing options are best for your business will allow it to grow and scale.
If you are unsure about financing or need assistance choosing which options are most appropriate for your company, New Direction Capital can help. Working with a virtual CFO can help your company navigate the often tricky waters of financing and finding capital. To learn more, contact us today.
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