I am really pleased to see that you are reading all my articles and appreciating them a lot.
I am trying to make them as practical and realistic as possible so that I can give you an unbiased frank opinion on various facets of jobs in the finance domain.
I have already written extensively on segments such as investment banking, private equity, fund management, equity research, etc.
One segment that I haven’t written a lot on so far has been the extremely interesting segment of venture capital.
So I thought let me write an article, which explains the nuances of the world of venture capitalism.
I am sure you will enjoy this article the same way you have enjoyed all my other articles.
Let me start by explaining what exactly venture capital is.
What Is Venture Capital?
Venture capital (VC) is a quantum of financial capital given to new but high-potential start-up companies.
The venture capital funds make money by having equity stakes in the companies that they invests in, that typically own a unique expertise or business model in fast growing industries, such as biotechnology,information technology and mobile technology.
A typical venture capital investment happens after the initial round of funding (usually called the seed capital).
You can say that a venture capital firm is a type of private equity firm but it invests funds at a much initial stage of the business as compared to a private equity investment.
In addition to seed funding and other angel investing options, venture capital is usually beneficial for start-up companies that have a short operating history and are too small to raise capital in the public markets on their own.
They are the companies who have not reached a stage where they are able to get loans from banks or issue a debt offering.
In return for the high risk that venture capitalists take by investing in start-up companies, venture capitalists typically get substantial control over company decisions, in addition to a significant portion of the company's equity ownership.
Start-up companies which have potential to grow fast and have unique business ideas need funds to grow.
Wealthy and rich investors with spare funds, like to invest their capital in such businesses which have long-term growth perspective.Venture capitalists are also called as angel investors.
If you ask me, such investments are quite risky as they are illiquid, but are capable of giving extremely high returns if invested in the correct opportunity.
The returns to the venture capitalists depend on how the company they have invested in grows.
Venture capitalists typically have the great power to influence key decisions of the firms they are investing in as it is their funds which are at stake.
How Is Venture Capital Compared to Other Types of Funding?
Venture capital has a number of advantages over other forms of finance, such as:
1. It provides long term equity fund which offers a solid capital base for impending growth of the business
2. The venture capitalist is usually like a business partner, who shares the risks as well as the rewards. They will usually share their knowledge and expertise of business to make sure that the company does well. They are more involved in the business than say a bank who would give you a loan
3. The venture capitalist is also able to provide key advice and help to the company based on earlier experiences he might have had with other companies where he had invested
4. The venture capitalists also have a strong network of acquaintances in various segments who can add value to the firm, such as in hiring key people, references of key probable partners, and also help with getting funds from new venture capital companies when further rounds of financing are needed
5. The venture capitalist themselves could also provide further rounds of funding themselves if finance is quickly required for a growth opportunity
Many times people have confused venture capital and private equity and the terms are many times also used interchangeably. In fact venture capital and private equity often overlap in practice, so the difference is often confusing to even many practitioners.
So, let me try to explain the difference between venture capital and private equity. Though both venture capital and private equity are in the occupation of investing at low levels and selling at much higher levels, they address this task from fundamentally different angles.
Mark Kachur, the former CEO of CUNO, a firm which was bought over for over a billion dollars, says
“I consider private equity and venture capital as opposites. In private equity, you start with the numbers, and then you try to fit everything into the numbers. In venture capital, you start with people, and then you try to figure out what numbers you can make.”
Just to explain what he means - private equity is typically about investing in a prevailing organization with present products and prevailing cash flows, then restructuring that organization to maximize its profits.
When the decision taken by private equity firms work correctly, it could save a weak company from closing down and turn it into a profitable enterprise.
The venture capital process is typically much complex and challenging. You need to many times fund ideas and not companies. This is extremely risky as there is a fair chance that the idea might not be as feasible in the market as it was on the drawing board.
What You Actually Do as a Venture Capitalist?
Well the first thing that you will encounter as a venture capitalist is a lot of meetings.
Most days are subjugated by various small and long meetings with various new entrepreneurs, budding industrialists, banks and portfolio companies.
You will also find yourself networking at various conferences and other financial and finding seminars.
You will also have to spend a lot of time on research and due diligence for live deals, but most of your time will be spent meeting people and improving your network.
As an entry level associate, you will have to meet with various companies initially and try to find out which ones present exciting opportunities and which ones could become good investments.
Once you pre-qualify the companies, you would bring it to the notice of the partners or the directors and then the seniors would become more interested and would actually start meeting with the companies as well.
So basically you would find interesting opportunities, choose the best ones, and take them to the senior partners or venture capitalists who would then take the actual investment decisions.
For early-stage start-up companies (pre-revenue generation days) you wouldn't really do much of financial modeling.
But for later-stage companies which have a prevalent revenue and profit, you could do the usual financial modeling and valuation drills.
But then this won’t be as intense as what you would do as an investment banking analyst as you won’t be spending time making everything faultless and correct for each non-recurring charge.
How Can You Progress to the Next Level?
Well if you ask me progressing to the next level depends on the venture capital firm that you’re working with and how their partnership works.
But you have to make sure that you keep on finding good opportunities and create solid returns for the firm in order to advance.
You don’t need to find an opportunity like a Twitter or an Instagram to get to the partner-level – believe me that only happens once a lifetime! It’s more important to get consistent good opportunities rather than the one off success.
How Much Money Can You Make as a Venture Capitalist?
There are three key ways you can earn money: base salary, year-end bonus and carry (money you invest alongside the firm when they invest in a company).
Your basic salary in venture capital will be higher than what you would make as an investment banking analyst or a private equity analyst.
Bonuses are lower at early-stage firms because there’s not as much money to go around but at late-stage venture capital, bonuses are higher and are closer to what you’d earn by working with private equity or investment banking.
Most times you’ll get a small bonus but you won’t become a millionaire with these investments.
To profit from carry, you need to be working at the firm for a long time and should have invested in dozens of companies.
Believe me venture capital is like being a “mini-entrepreneur” because you will have to take decisions without following specific orders.
A lot of risk will be involved in the work that you do.
You will make money on some opportunities while you will lose money on many transactions that you invest in.
So you will have to be patient and careful but at the same time you will be required to take calculated risks.
Your entire career will depend upon how much risk you are able to take and how well you manage this risk!
I hope that this article has given you a good idea about the life in the venture capital lane.
I have tried to be very detailed and precise to give you a fair idea as to what a venture capitalist does and how you can grow within that segment.
Do let me know if you have any questions on this subject and I’ll be more than happy to address your queries.
Do let me know if you want me to write on any other similar subjects and I’ll try my level best to make sure I address and cover those topics.