Venture capital is a bit misunderstood due to the press venture investments often receive. It seems like every week or so the news is covering some start-up that raised an inordinate amount of venture capital for an idea that sounds, at best, a bit shaky.
But that tenuous relationship between a business idea and its application is what turns an investment into an injection of venture capital. Venture capital is, in a nutshell, the money that is invested into an early-stage, high-risk company that is believed to have the potential to yield huge returns, if it succeeds.
Normally, the businesses that secure venture capital have to be novel – so IT, biotech, software, and other technology based companies are the ones we hear about. Occasionally the focus on a particular type leads to what we call ‘bubbles’ – the dot-com boom and bust of the early 2000′s, for example, was partly due to an high level of venture capital being invested in fledgling internet-based companies that, usually, weren’t worth as much money as people thought. When these companies inevitably failed, a lot of VC firms, funds, and investors lost money. These various investment groups are now, perhaps thankfully, a bit more cautious with the types of business they invest in.
Obviously, securing an investment from a venture capital fund or firm is not like getting a traditional loan – you do not have to pay that investment back. Instead, a business that has received venture funding gives the investors a stake in the company, typically in the form of shares. If the company does well, these shares will increase in price. A venture capitalist or firm then, usually, sells their shares when a larger company comes around offering to buy the start-up. By then the shares have increased in worth, and everyone gets their money back, plus a substantial return on their investment.
So, with all of this in mind, how does a business go about raising venture capital? Well, you first need a really, really good idea – because of their past mistakes VC firms and investors are very wary with their money. They already have to contend with businesses that have a higher rate of failure than most, and they are picky about who they choose to invest with. You also have to be ready and willing to give them something in return for their early investment. They will, after all, be rather large shareholders in your business, which means they probably expect a say in how things are run. When getting your pitch ready for a VC firm, spend some time crafting the answer to the inevitable ‘What’s in it for us?’ question that will be asked.
Despite the frequency at which it appears in the headlines and on TV, venture capital is fairly hard to raise, and only a few specialized businesses will actually be able to find someone willing to roll the dice and invest in the company. It is also just one of many, many different ways to raise money. Before you start knocking on doors, then, remember to weigh all of your options, look into alternative sources of funding, and make sure you truly want become involved with venture capital investments.