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A venture capital fund (VC) is an investor who provides capital to startups and small businesses with the potential for high growth in exchange for equity in the company. VCs typically invest in early-stage companies that have innovative technologies or business models, but also may invest in later-stage companies.
Pros and Cons of Receiving Investment from a VC
There are several pros and cons to consider when receiving investment from a VC compared to other funding sources such as bank loans, angel investors, or crowdfunding:
Pros
- Access to larger amounts of capital than other funding sources.
- VCs often have a network of contacts and resources to help grow the company and get funding for the next stages. They can follow-on to the pro-rata, if they think you are doing well.
- VCs can bring expertise and experience to the table. They tend to have Venture Partners with specific experience in the fields they invest in.
- VCs are motivated to help the company succeed since they are investing for equity.
Cons
- VCs typically require a significant equity stake in the company (5-15%).
- VCs may have a shorter-term focus on returns rather than the long-term growth of the company. Funds usually last 10 years, so it may be a good idea to get funding from recent funds.
- VCs may have a say in the decision-making of the company, which can lead to conflicts with founders. It's key to negotiate a good shareholders' agreement.
- VCs often require a high rate of return on their investment, which can put pressure on the company to achieve significant growth quickly.
What to Expect from VCs
A VC is typically an individual or a firm that manages a fund composed of money from limited partners (LPs) who want to invest in startups. VCs often specialize in particular industries or technologies and have specific criteria for the companies they will invest in. The selection process is rigorous, with only a small percentage of companies being selected for investment.
VCs may take an active role in the companies they invest in, providing guidance and resources to help them grow. They typically have a board seat and may have a say in major decisions of the company. VCs may also require the company to meet certain milestones to receive additional funding.
Global VC Investment Figures
According to data from PitchBook, global venture capital investment in 2021 reached a record $394.6 billion, up from $292.8 billion in 2020. The United States was the largest market for VC investment, accounting for 61.2% of global investment, followed by Asia at 25.6% and Europe at 12.9%. The average deal size in 2021 was $40.4 million.
How the VC Model Works
A VC typically raises money from LPs and then invests this capital in a portfolio of companies. The VC fund has a fixed lifespan, typically 10 years, during which the VC invests in companies and works to help them grow. VCs make money through capital gains on their investments and management fees charged to the LPs.
The expected return for a VC is typically above 3x the investment, with a good internal rate of return (IRR) over the life of the fund. VCs typically have several funds, with returns from successful exits in one fund being used to invest in new companies in the next fund.