VENTURE CAPITAL, MEANING AND STAGES

  

Venture capital investing is a type of private equity investing that involves investment in a business that requires capital. The business often requires capital for initial setup or expansion. It is a form of private equity and a type of financing that investors provide to start-up companies and small businesses that are believed to have long term growth based on their quick technological adaptability and potentiality. Venture capital funds manage pooled investments in high-growth opportunities in startups and other early-stage firms and are typically only open to accredited investors.

The investors who invest their money into these emerging businesses are termed as venture capitalists. Venture capitalists generally includes well-off investors, investment banks and other financial institutions. These investors seek higher returns possibility by doing investors in businesses having exceptional growth potential. However, these types of investments are quite risky as they are of ill-liquid nature and their return is totally dependent upon the company growth. They may provide better returns to investors if a right venture is chosen by them for doing an investment. Venture capital may not always be provided in the form of monetary, but also includes any managerial or technical expertise provided to companies. It is an efficient source of capital available to a company that brings in  both wealth and expertise without having any obligation on business to repay the money. 

Features of Venture Capital

• Finance new ventures:- Venture capital is a convenient source of raising finance for startup and early-stage businesses. New ventures face difficulty in raising capital from capital market in their early stages of operations. Firms with innovative projects and higher growth potential are easily able to attract investors who are willing to do investments for the sake of earning higher returns. 
• High risk:- These types of investments are very risky in nature. Venture capital investments involve putting funds by individuals into new ventures who are in their early stage and carry lot of uncertainty of succeeding in their objectives. The return of investments is totally dependent upon the growth rate of companies. Therefore, it all depends upon selecting the right type of venture by investors for earning the expected returns.  
• Lack of liquidity:-- Venture capital investments are illiquid in nature. These types of investment cannot be encash by investors in short term. Venture capital investments are long term investments which can be either in the form of loan or convertible securities. In addition to this, the benefits from such investments may be realized in long run as their return completely depends upon the growth of company. 
• Equity Participation:- It involves financing of ventures through equity participation. Venture capitalist make investments in startups by buying their equity capital. These investors aim at making a large amount of capital gain by selling all the shares held by them once they become profitable. 
• Long-term horizon:- These investments are meant for long term which support companies in expansion and growth during their early stages of business. It is done via buying equity capital which offers returns in long run. It is not an favorable investment avenue for individuals looking for benefiting in short period of time.
• Participation in management:- Venture capitalists by doing investment in equity capital of a company take part in management of the business. They do not merely provide finance to startup companies, but also provide management expertise by taking active interest in business of borrowing concern. Venture capital approach is distinct from the ordinary stock market or a traditional lender of banker that merely provide capital without participating in company’s management.

Venture Capital is the most suitable option for funding a costly capital source for companies and most for businesses having large up-front capital requirements which have no other cheap alternatives. Software and other intellectual property are generally the most common cases whose value is unproven. That is why; Venture capital funding is most widespread in the fast-growing technology and biotechnology fields.

Types of Venture Capital funding

The various types of venture capital are classified as per their applications at various stages of a business. The three principal types of venture capital are early stage financing, expansion financing and acquisition/buyout financing.

The venture capital funding procedure gets complete in six stages of financing corresponding to the periods of a company’s development

• Seed money: Low level financing for proving and fructifying a new idea.
• Start-up: New firms needing funds for expenses related with marketing and product development.
• First-Round: Manufacturing and early sales funding.
• Second-Round: Operational capital given for early stage companies which are selling products, but not returning a profit.
• Third-Round: Also known as Mezzanine financing, this is the money for expanding a newly beneficial company.
• Fourth-Round: Also called bridge financing, 4th round is proposed for financing the "going public" process.

Stages of venture capital

The pre-seed stage

Before accessing VC capital, there is the pre-seed or bootstrapping stage. This is the time you spend getting your operations off the ground, and when you begin to build your product or service prototype to assess the viability of your idea. At this point it is unlikely that VCs will provide funding in exchange for equity, so you need to depend on your personal resources and contacts to launch your startup.

During the pre-seed stage, many entrepreneurs seeks out to guidance from founders who have had similar experiences. With this advice you can begin developing a winning business model and a plan for creating a viable company. This is also the time to hammer out any partnership agreements, copyrights or other legal issues that are central to your success. Later on, these issues could become insurmountable, and no investor will provide funds to a startup with open legal questions. 

The seed stage

Your company now has a degree of experience and can demonstrate potential to develop into a vibrant company. You now need a pitch deck to demonstrate to VCs that your idea is a viable investment opportunity. Most of the modest sums you raise in the seed stage are for specific activities like:

• Setting up a management team 
• Business plan development
• Setting up a management team 
• Product development

The goal is to secure enough funding now to prove to future investors you have the capacity to grow and scale. 

Often seed-stage VCs will participate in pitching additional investment rounds at the same time to help you convey credibility. Someone from the venture capital firm likely will take a seat on the board to monitor operations and ensure activity is done according to plan. 

Because VCs are assuming so much risk at this stage this is the most expensive funding you can take in terms of equity you’ll need to give up to secure the investment.

The Series A stage 

Series A typically is the first round of venture capital financing. At this stage, your company has usually completed its business plan and has a pitch deck emphasizing product-market fit. You are honing the product and establishing a customer base, ramping up marketing and advertising, and you can demonstrate consistent revenue flow. 

Most Series A funding comes from angel investors and traditional venture capital firms. But family offices and corporate VC funds in your sector are available sources for funding. These investors are interested in startups with a solid business strategy and leaders with the chops to execute it – to reduce the risk of a failed investment on their part. 

The most common investors at this stage are: 

• Accelerators 
• Super angel investors
• Venture capitalists
• Corporate venture capital funds
• Family offices

The Series B stage 

Your company is now ready to scale. This stage of venture capital supports actual product manufacturing, marketing and sales operations. To expand, you’ll likely need a much larger capital investment than earlier ones. Series B funding funding differs from Series A . Whereas Series A investors will measure your potential, for Series B they want to see actual performance and evidence of a commercially viable product or service to support future fundraising. Performance metrics give investors confidence that you and your team can achieve success at a larger scale. 

VCs, corporate VCs and family offices providing Series B funding specialize in financing well-established startups. They’re providing the funds you need to expand markets and form operational teams like marketing, sales and customer service. Series B funding enables you to:

• Grow your operations
• Meet customer demands
• Corporate venture capital funds
• Compete more successfully

The most common investors at this stage are: 

• Venture capitalists
• Corporate venture capital funds
• Family offices
• Grow your operations capitalists

The expansion stage (Series C and beyond)

When you reach the Series C funding stage, you’re on a growth path. You’ve achieved success and incremental funding will help you build new products, reach new markets and even acquire other startups. It typically requires 2-3 years to reach this phase on a quick trajectory, and you’re producing exponential growth and consistent profitability.

To receive Series C and subsequent funding, you must be well-established with a strong customer base. You also need: 

• Stable revenue stream
• History of growth 
• Desire to expand globally

Investors are eager to participate at Series C and beyond because your proven success means they shoulder less risk. Hedge funds, investment banks, private equity firms and others beyond traditional VC firms are more eager to invest at this stage. 

The most common investors at this stage are: 

• Late-stage venture capitalists 
• Private equity firms
• Hedge funds
• Banks
• Corporate venture capital funds
• Family offices 

The mezzanine stage 

The final stage of venture capital marks your transition to a liquidity event, either an exit via going public or M&A. You’ve reached maturity and now need financing to support major events.  

Entering the mezzanine stage — it’s often also called the bridge stage or pre-public stage — means you are a full-fledged, viable business. Many of the investors who have helped you reach this level of success will now likely choose to sell their shares and earn a significant return on their investment. 

With the original investors leaving, that opens the door for late-stage investors to come in hoping to gain from an IPO or sale.  

Going public — the IPO 

An IPO or Initial Public Offering is the natural progression of funding beyond VCs. It’s the process of taking your private company public by offering corporate shares on the open market. This can be a very effective way for a growing startup with proven potential or a long-established company to generate funds and reward earlier investors, including the founder and team.  

To go public, you need to:

• Form an external public offering team of underwriters, lawyers, certified public accountants and SEC experts 
• Compile all your financial performance information and project future operations 
• Have your financial statements audited by a third party who’ll also generate an opinion about the value of your public offering 
• File your prospectus with the SEC and determine a specific date for going public 

Going public benefits include: 

• An effective way to raise significant capital 
• Secondary offerings will enable you to generate additional funds, typically used to pay off original investors and early leadership team 
• Public stock can be more attractive as a part of executive compensation and as an employee benefit 
• Mergers are easier because you can use public shares to acquire another company.