Technology is constantly changing. With changing consumer tastes, technological advancements are constantly changing the nature and pace of innovation. We cannot overestimate the importance of venture investors in pushing technical innovation, particularly in this digital age. Venture capitalists lend money to inventive entrepreneurs with the expectation of a larger return over time, as well as inherent risk in the immediate term. Venture capital is a benefit for innovative firms that have moved to the growth stage with their own finances. In this post, we will discuss the benefits and drawbacks of venture capital for small businesses.
The sustenance of startups for carrying forward their innovations is only possible with the providence of a stable infusion of capital. The stability provided by the funding source enables startups to have a solid footing in the market. It is because of the funding that startups can keep on rolling out innovative feature sets for scaling-up and expanding their growth. And, this infusion of money is done by venture capital companies.
For sure, venture capital is the need of the hour for any startup business. But what exactly is venture capital? How does it affect the working of a startup company? How does a venture capital-backed company look like? Let us ponder these questions.
Venture capitalization is the infusion of money in an innovative startup company having a very high potential of growth but experiencing footprints so small that it cannot obtain a loan from a financial institution. Venture capital is also known as seed money because the funding company acquires equity in a startup company by way of investment. Along with that, a venture capital company get a controlling stake over the decisions of the startup.
According to Dale Wood, a well-known Costa Rican venture capitalist, venture investment firmly solidifies a startup's foundation inside its industrial domain. Its absence prevents the startup from realising its full potential and scalability. When there is such fierce rivalry and a steady increase in goals, venture capital makes an impact in the early stages of a company. Let us discuss the unique advantages and downsides of venture capital financing throughout the life cycle of a company idea.
Benefits
Entrepreneurship and risk-taking are encouraged.
As the old adage goes, "no risks, no gains," and venture capital is the catalyst that encourages entrepreneurship and risk-taking, without which no profit can be realised. If a business owner is unwilling to take chances, he must settle with the mundane! Venture capital is critical for providing direct support in the form of funds and expertise for a viable business idea.
Promotion of Startups
One of the most important duties of a venture capital firm is startup promotion. An entrepreneur uses venture capital firms to perform a variety of services, including the conception of a business idea, the gathering of information about the industrial domain, the selection of the right location, the preparation of a planning layout, the registration and regulation of the enterprise, and other legal formalities. Even the most promising business idea might die in its infancy without the assistance of a venture capital firm.
Increased and Improved Employment Opportunities
Venture capital firms have become a major force in the capitalization of creative companies around the world over the last three decades, particularly in the United States. Startup concepts supported by venture capital firms have greatly contributed to the expansion of the US economy, from FedEx to Intel to Google. Explore capital institutions actively promote entrepreneurship, which not only encourages self-employment prospects but also inspires educated but talented unemployed people to venture into undeveloped paths.
Imparting Expertise And Guidance
Not just capital financing, but venture capital is a tremendous source of consultation, expertise, and guidance. Generally, an expert from the venture capital company is appointed as a board member of a startup company. It enables the active participation of venture capital firms into the day-to-day activities of a startup company, whereby it imparts rigorous guidance, expertise, and consultation. Because venture capitalist companies possess the requisite experience of expanding and building startup entrepreneurs, the value they add to the startup is of immense importance. Sometimes they help make technical strategies, industrial know-how, strategies on expansion and growth, and acquiring the right talent pool. Without these, a startup idea cannot become a success.
Repayment Obligation Does Not Exist
In the unfortunate scenario of a startup firm shutting down or failing, there is no obligation of repaying the investment of a venture capital company. Because there is no requirement of paying back the investment company, the startup is not burdened from the surging of the interest as it happens in the case of bank financing. Startup company can operate with much financial independence if a venture capital firm finances it. All this makes venture capital an ideal capitalization plan.
Venture Investment Is Based On The Potential Of A Startup Idea
In comparison with banking institutions, venture capital companies can obtain funding based on their future potential rather than the demonstrated profitability. Generally, it happens that startup entrepreneurs have great future potential, yet they lack demonstrated profitability in terms of achieved revenue. The future potential of a company is based on a great business plan that makes it eligible for venture capital financing. For a small entrepreneur having a great business plan in mind, venture capital acts as the savior when all banking institutions shut their doors. For scaling startup ideas to its rightful potential, venture capital financing is a must.
Disadvantages
Erosion Of Control And Ownership
Venture capital companies are instrumental in providing substantial capital investment to the startups enabling them to scale up and grow; however, it also dilutes ownership and control for the entrepreneur. If the startup idea becomes a success, then a venture company earns tremendously. Venture capital companies usually appoint one of their representatives on the board of the startup company. Such representatives often become active participants in the day to day decision makings. Because venture capital firms would not be wanting to lose their investment in the startup idea, they may often act in a way that may seem cynic to the founders of the startup. Also, any difference in the views between venture capital and the startup may make the situation tumultuous because significant decisions require the unanimous consent of all the investors.
Venture Financing Is A Difficult And Time-consuming Process
The process of securing venture funding begins with the founder of the startup providing a detailed business plan. Following that, a personal one-on-one meeting is held to go through the project in detail. Even if the venture capital firm gives the capitalization a tentative go-ahead, another rigorous due diligence step is carried out later. Following the completion of this process, the venture capital firm provides a document with all of the terms and conditions. The entire process is extremely intricate and time-consuming, causing fledgling companies to lose patience and quit venture financing entirely.
Alternatives of Venture Financing
For sure, venture financing is just one of the many ways to fund your startup. If you feel that venture financing may strangulate your decision making in terms of what you think should be the best way to grow and bloom your business, then other financing options can be tried. Let's go through these, one by one.
Financing Through Equity
Financing through equity means selling of the shares of your ownership of the business. While you can receive additional capital required for scaling up, yet you would no longer be able to remain the majority shareholder of your company, resulting in erosion of control.
Crowdfunding
Crowdfunding enables you to propagate your business idea through various channels, and you ask regular individuals to invest as partners. However, there is no debt or paying back involved, yet it is very uncertain means as you cannot be sure of getting sufficient money you require.
Angel Investment
Angel investors are those groups of individuals who finance a significant corpus of money to a startup idea without expecting a payback. Yet they might want to control many crucial aspects of your business. Moreover, such investors can't provide enough funds as per your expectation.
Industrial Loans
Frankly, banking institutions cannot be called an excellent option for financing startup organizations as its disadvantages outperform its benefits. Startup company has to prove its profitability in the current times to obtain loans rather than its future potential, which is rarely the case with startup companies.
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