Venture capital (VC) is a type of private equity,a form of financing that is provided by firms or funds to small, early-stage, emerging firms that are deemed to have high growth potential, or which have demonstrated high growth (in terms of number of employees, annual revenue, or both). Venture capital firms or funds invest in these early-stage companies in exchange for equity, or an ownership stake, in the companies they invest in. Venture capitalists take on the risk of financing risky start-ups in the hopes that some of the firms they support will become successful. The start-ups are usually based on an innovative technology or business model and they are usually from the high technology industries, such as information technology (IT), clean technology or biotechnology.
The typical venture capital investment occurs after an initial “seed funding” round. The first round of institutional venture capital to fund growth is called the Series A round. Venture capitalists provide this financing in the interest of generating a return through an eventual “exit” event, such as the company selling shares to the public for the first time in an initial public offering (IPO) or doing a merger and acquisition (also known as a “trade sale”) of the company.
Venture capital is also a way in which the private and public sectors can construct an institution that systematically creates business networks for the new firms and industries, so that they can progress and develop. This institution helps identify promising new firms and provide them with finance, technical expertise, mentoring, marketing “know-how”, and business models. Once integrated into the business network, these firms are more likely to succeed, as they become “nodes” in the search networks for designing and building products in their domain.However, venture capitalists’ decisions are often biased, exhibiting for instance overconfidence and illusion of control, much like entrepreneurial decisions in general.
Advantages of Venture Capital
- They bring wealth and expertise to the company
- Large sum of equity finance can be provided
- The business does not stand the obligation to repay the money
- In addition to capital, it provides valuable information, resources, technical assistance to make a business successful
Disadvantages of Venture Capital
- As the investors become part owners, the autonomy and control of the founder is lost
- It is a lengthy and complex process
- It is an uncertain form of financing
- Benefit from such financing can be realized in long run only.