What in the World is Venture Capital?!

So what exactly is venture capital? We hear about it in newspapers, online, and depending on where you live, even from random strangers (i.e., in Silicon Valley). Let’s start by thinking of the term from a very basic and literal perspective; it is capital (money) that is invested into a new or existing business (a venture). Now, you may say “doesn’t that mean any individual can invest money into a company and be called a venture capitalist?” or “if I buy stock in a company am I not a venture capitalist?” Clearly, our working definition needs to be distilled further.

The types of businesses that receive venture capital are early stage companies that have high growth potential. So venture capital may be seed capital (money that is used to get the venture off the ground) or growth capital (money that is used to sustain and possibly scale the venture). So now we have a better definition of venture capital: seed capital or growth capital that is invested in early stage companies that have high growth potential.

One last item to add to the definition would involve something about returns; no individual or group is going to invest in a venture without the possibility of profiting from it. In fact, many ventures are inherently more risky than other established businesses, so investors are looking for a much higher return. The expected return will be a multiple of the initial investment; for an early stage startup, venture capitalists will look for a 10x return or higher. The investors will realize a return on their investment though the sale of the venture either privately or if the company has an IPO (Initial Public Offering). So know we have our final definition of venture capital:

Seed capital or growth capital that is invested in early stage companies that have high growth potential, and have the potential to generate high returns for investors

Venture Hero!

The Venture Capitalist

A venture capitalist (VC) is an individual or a firm that invests into these types of early stage companies to generate high returns. An individual investor is called an Angel Investor; this person usually has a high net worth and will invest up to $200,000 in a company. Firms that invest in early stage business are called venture capital firms. Venture capital firms will raise a fund of capital from individuals and institutions, and then use that entire fund to invest in multiple early stage companies. The rationale behind investing in multiple businesses is that some of the early stage companies will fail, and usually one or maybe two of them will be successful enough to generate a high return.

Starting next week, I am going to be writing a few articles on the stages of funding. Stay tuned!