Venture capital funding is a form of private equity investment, where a business receives unsecured funding in exchange for a share of its equity
How it works
Venture capital firms invest in businesses with potential for rapid growth. They aim to exit the business – through stock market float or sale – within 5 to 7 years, having made a substantial return on their investment. They are funded by institutional investors such as pension funds and insurance companies and typically expect to take a substantial, often majority, stake in a business in return for their cash.
In 2011 venture capital members of the British Venture Capital Association invested £347 million into 405 companies in the UK, representing an average investment of £857,000. Of this £23 million was invested in companies at the seed stage and £47 million in companies at the start-up stage.
Who is it for
VC investment is best suited to entrepreneurs running go-getting businesses with high potential for growth who are happy to relinquish some control and accept a smaller piece of pie in the hope that the eventual pie will be much larger than they could have achieved on their own. Taking on a VC is not for the faint-hearted – in return for their investment they expect total dedication to the business from the entrepreneur. Venture capitalist Jon Moulton, for example, famously refuses to invest in any business run by someone who has been divorced more than once, on the grounds that their complicated private lives will be too much of a distraction to building a successful enterprise.
What size of investment?
VC firms are generally interested in investing between £2 million and £5 million in a business, although some funds will consider investments of £250,000 and up. Different firms adopt different investment criteria, some specialising in particular stages of growth – start-up, early stage, later stage – and others in different industry sectors.
A successful arrangement with a venture capital firm can help your business grow at a much faster rate than would have been possible without them. As well as finance, VCs can bring invaluable skills and expertise to your business and provide useful business contacts.
As well as giving up equity, you will have to be prepared to lose some control over your business. While the VC investment team will not be involved in the day-to-day running of your business, they will appoint someone to be a member of your board and will expect to be involved in the strategic direction. You may sometimes feel as though you are working for the VC rather than for yourself.
Things to consider
VCs are as much interested in the entrepreneur and management team running the business as they are in the business idea itself – which means that you the entrepreneur will be under constant scrutiny and pressure to put in the hours and the commitment expected of you.
VC firms do not respond well to cold calling – you will need to appoint advisors to act as an intermediary and make introductions on your behalf and arrange for you to pitch for investment. And make sure you have done your homework first. A polished, detailed presentation document is crucial. Getting VC investment is by no means guaranteed – the vast majority of funding proposals put before venture capitalists are turned down.
Useful Contacts – British Venture Capital Association
When Angel Springs, a Wolverhampton-based water cooler business with a turnover of £16 million, needed substantial investment, they approached several venture capital firms. They ended up agreeing on a deal with LDC, a venture capital firm, which invested £12 million in the business in return for a 60% equity share. John Dundon, Angel Springs Managing Director, explained the thinking behind the deal: “LDC give us financial resources and strength and also quite a strong framework and structure to work to. They bring real strength to a business like ours. We liked the people we were doing business with, they specialised in the SME market so we fit them like a glove, and the financial package that they put together for us was very fair. They ticked all the boxes.”
Dundon said his firm had done their homework before pitching for investment. “It is really important that the management team are well prepared when you begin a conversation with a potential VC. You have to demonstrate that there is an attractive market and that the business has the ability to add value, either through acquisition or organic growth – or in our case, a mixture of both.”
Further reading: How to raise VC for your business.