Venture capital is the money made by private venture capitalists to startups, late-stage, or emerging businesses that are deemed to have higher growth potential or that have proven high potential for success. The companies receive such financing from venture capital funds and/or angel investors. Venture capitalists are individuals or groups of people with a particular interest in business whose combined net worth or net value contributes to the support of a start-up company.
In contrast to LPs, venture capital funds do not provide start-up loans to entrepreneurs. Instead, they provide seed or early stage financing to an entrepreneur through one or more forms of debt capitalization, which may be secured or unsecured. Examples of forms of venture capital are personal loans, commercial loans, venture bonds, merchant cash advances, and purchase loans. Venture capitalists typically do not participate in the business valuation in order to retain complete control of the business. Therefore, in most cases, they do not receive profits.
Unlike a conventional bank, venture capital firms seek to provide start-up funding only to those companies which have a reasonable chance of success. Therefore, in order to fund these companies, venture capitalists must obtain non-recourse (risk-free) financing. Typically, venture capitalists have invested in the company along with the early entrepreneur or have funded the company indirectly through some other financing source. Another example is the fact that some venture capitalists have financed the company indirectly through employees, franchisees, suppliers, or others.
Venture Capitalists must have an exceptional understanding of business finance and venture capital finance as it applies to the specific industry in which they are involved. Typically, the venture capitalists also need to have a background in accounting and valuing the companies they are investing in. This includes understanding the operations of the company as well as the financial and tangible assets of the company. In addition, they will be required to perform an analysis of the prospective funding sources. As the venture capitalists know that they will receive partial returns on their investment, they are also aware that they may lose part or the whole amount of the invested funds if the company does not meet its expected operating and management requirements.
An advantage of working with a venture capital firm is that they provide the investor with access to a network of funds which can be leveraged and will result in higher returns. However, it is important for the investor to realize that they need to be very careful whom they are doing business with. The investor should be careful that the firm that they choose to work with is able to properly fund the companies they invest in and that the firm does not have any previous financial problems. If the venture capitalist cannot provide an extensive background in financial and business matters, then it is important to work with other private investors and credit unions. The selection of the appropriate venture capital funding source is critical to the successful development of the company.
Other sources of venture capital funding available to entrepreneurs include banks and brokers. Although these sources will provide seed money for the entrepreneur to obtain start-up capital, they are unable to provide long-term sustainable funding levels. If the entrepreneur is unable to raise a substantial amount of start-up capital from a bank or other reliable source then they may need to obtain venture capital loans from venture capitalists or private equity firms. Private equity firms are able to provide the most reliable start-up capital levels but they will also require a significant amount of personal financial commitments from the entrepreneurs.