Venture Capital is a type of investment by investors or venture capital firms into new, early-stage businesses that have potential to grow. They invest capital into companies in exchange for equity to earn profits later. Venture capitalists are usually well-off investors, firms, investments banks, or other financial institutions.
For understanding venture capital better, let’s take a closer look.
Venture capital has become a very popular financing method among start-ups and new businesses who don’t really have the capital to invest in their ideas. Though it is always risky for investors to invest in new and unproven companies, there is always the potential for high profits in the future.
Venture Capitalists are investors who are always on the lookout for new potential start-ups to invest into. They actively look for new opportunities for investments and also ways to raise funds for new capital investments. Venture capital firms raise money to invest in businesses from banks, financial institutions, and corporations.
After looking at proposals from businesses looking for capital investments, they first do their due diligence before making any investments. They research their business model, the management and staff, the products, and the business history of the project. If they believe a business can grow into something big and profitable, they will invest in the company.
Venture capitalists who decide to invest in a company then have the power to influence decisions in the company. They monitor the business’s progress and guide the business to be as profitable as possible. They also have the power to stop investing additional funds into a business if they feel the company isn’t going in the direction they want it to.
How Do Venture Capital Investors and Firms Make Money?
There are many ways venture capitalists make money. The first way is through the equity they get when investing in a business, which means they get a share of the profits of the company for the contracted time period. They also earn money through management fees, usually around 2% of the capital invested into the company. The third way of making money through venture capital is performance fees, which take a predetermined percentage of the company’s profits.
Benefits and Drawbacks of Venture Capital
There are advantages and disadvantages of accepting venture capital into a business. Let’s weigh them both.
Aside from the capital being invested into your business, you also receive business expertise for your company. Venture capital firms work closely with their partners to guide and consult them to make the most profit for themselves. You also receive additional support and resources such as legal help, taxation assistance, and much more. Business connections are another big benefit you receive. Venture capitalists have contacts and connections to many industries that can help start-ups and new businesses.
The drawbacks of accepting venture capital into your business include the giving up of control over your business. With large investments into your business, venture capitalists will want to get involved in running your business to ensure their profits. You might not be able to make the decisions you want to make in your own company! You also lose part ownership of your company to the venture capitalist. And if you give up more than 50% of the ownership, it means you have completely given up ownership of your company.