Venture capital explained
where investors give money to small businesses so they can grow
What does venture capital mean?
Venture capital is where investors give money to small businesses if they are believed to have potential.
Cash is normally exchanged for equity in the company, meaning venture capitalists are entitled to a say in future business decisions.
Along with financial support, start-ups that pursue venture capital can also benefit from managerial and technical expertise, as well as access to valuable contacts who can help their operations grow.
Many of the companies that go down this route tend to be based in the technology sector. Facebook, WhatsApp, Snapchat and Google are all examples of businesses that sought venture capital – resulting in massive returns for early investors.
The first major round of venture capital financing is often referred to as Series A. By and large, the businesses that go down this route have already attracted a significant number of users – and they have devised a business model that will help them to monetize and expand their offering further.
Once this investment has started to take effect, start-ups may choose to embark on a Series B round. Generally, the funds raised at this point of the process go towards acquiring new talent, driving sales and advertising, and developing the infrastructure required to fuel further growth.
Series C tends to be focused on scalability, and companies that reach this stage tend to be well-established. The capital generated during this phase is often devoted to launching new products or expanding internationally.
This process can help raise millions of dollars for fledgling start-ups. In some cases, these funding rounds are used to increase a company’s valuation ahead of an initial public offering that would see the business floated on the stock market.
There is a substantial amount of risk associated with investing in companies that haven’t been in operation for long, as there is limited financial history to help backers make an informed decision. These types of investments are often unsecured, meaning everything would be lost if a business subsequently collapsed. For this reason, venture capital firms often seek companies that have strong potential for astronomical growth in the future – and they command high levels of equity to ensure they are richly rewarded if a company thrives.