Common Questions about Venture Capital

Getting a business started is no easy matter and it takes a lot of money, effort and time to succeed. There are many ways to secure funding depending on the type of business and its stage of growth. Venture capital funding is only one way a business can get funding, but it has some unique characteristics. Many people are unclear on what venture capital funding is and how it works. Here are some of the most common questions people ask about VC funding.

What is a venture capitalist?

Venture capital is just one way a startup business is able to get off the ground and eventually make a profit.  Venture capital can also be called “risk capital” since the investing party is taking a risk on offering money to the startup. The goal is to help fund the business so that it makes a profit; that’s where they get their return. A person, who provides venture capital, or money to fund a new business, is called a venture capitalist. In most instances, they work for a VC firm. The firm usually has numerous portfolios owned by limited partnership. VC funds are money given by the firm to the startup business. The goal of the VC firm is to give funding to the startup in exchange for equity in the company. The most commonly funded startup businesses today are in technology based interests because it is growing so rapidly.

How is venture capital different from a loan?

Venture capital and loans are common ways start-up businesses are funded but they are very different.
When a business obtains a loan from a lender they have a contractual obligation to pay the amount borrowed back along with interest. This has to be done in a predetermined time frame. Loans are oftentimes secured by assets or receivables. Sometimes a small business might back it with a personal guarantee. This ensures a lender will be able to recoup in the case that the borrower fails to make their payments.

Venture capital is not a loan but there is an exchange. A venture capitalist like Efraim Landa provides money for a startup business who offers him shares in the company in exchange. The venture capitalist becomes part owner of the startup company. The money is considered an investment and it is not paid back like a traditional loan. Instead when the company earns money, they make their money back.

Steps for getting VC funding

In most cases, a top venture capitalist will invest one third of the funds in the first three years after the initial transaction. The money can be invested in any of the stages from early stage to growth stage. The other two thirds of the money will be distributed in the later stages of the startup business. The reason funding is distributed in later stages is to help give the company the traction needed to be in the right position for an Initial Public Offer (IPO) or an acquisition.

Difference between venture capital funding and private equity funding

Venture capital is like a subset of private equity. Private equity typically deals with businesses that are not available to the general public for participation. Private equity is funded in a variety of ways including venture capital, hedge funds, angel investing, and buy-out funds for example. Over the years though these various roles have changed. Angel investors compete with venture capitalists for small, early stage type deals while hedge funds and by-outs work with later stages. VC was traditionally used to designate funds and investments into early or startup businesses. Other types of private equity funding didn’t want to take the risks on early stage companies. Basically, private equity means all types of business investments but VC or angel investors.

Difference between venture capital and angel investors

Angel investors are slightly more risky than the venture capitalist. They obviously want a return on their investment but they are aiming to invest in a business during its early stages, or startup stage. But they may also invest in ways other than offering finances. An angel investor is likely to invest their expertise and give advice to the business owner to help ensure their success. They will also be looking to have some control over the company and how it operates. A venture capitalist is more likely to invest in a company once it is up and running and past the angel investor stage. They are more motivated by making a profit and want to invest in a company that is going to offer them a high return for their investment of funds.  Angel investors typically limit investments to smaller amounts whereas a VC investor will tend to aim at investing larger amounts normally starting at around $500,000.