Pros and Cons of Venture Capital – Where to approach
Start enterprises may have an innovative idea and the entrepreneurial urge but an early-stage financing is crucial for these firms to grow rapidly. Venture capital nurtures the entrepreneurial spirit of the small aspiring firms by providing finance, guidance and expertise with an objective to attain long term capital gains.
2021 was the remarkable year for the start ups in India with several firms going public and venture capital funding to these firms rising to all-time highs. According to Venture intelligence, venture capital funding rose to $11.2 billion during the July-September quarter this year - the highest in the last 11 quarters compared to $7.8 billion in the April-June quarter. In the year 2021, firms have garnered $28.5 billion so far this year (as on October 31, 2021) more than twice the amount secured in 2020 at $11.3 billion and $13.1 billion in 2019. The number of firms receiving venture capital funding until October 2021 remained at 745 compared to 698 firms in the year 2020 and 763 firms in 2019. The statistics shows encouraging picture of the venture capital financing in India. The article tries to highlight the pros and cones of the venture capital who play an important role in boosting the start-up ecosystem in India.
Pros of venture capital
Before understanding the advantages of the venture capital let us take a brief look at the origins and what is venture capital?
The origin of the venture capital dates back to 1946 in the US when Georges Doriot – the father of the venture capitalism along with Ralph Flanders, and Karl Compton established the company American Research and Development Corporation (ARDC). The firm encouraged private sector investments in businesses run by soldiers who were returning from World War II. In India, venture capital has seen distant phases wherein between 2011 to 2015 there was rapid evolution of the start-ups, phase of maturity and moderation between 2016 and 2017 and from 2018 renewed investor confidence and saw emergence of fintech and software companies. Despite covid-19 the Indian venture capital industry witnessed momentum in their investments.
Start enterprises may have an innovative idea and the entrepreneurial urge but an early-stage financing is crucial for these firms to grow rapidly. Venture capital nurtures the entrepreneurial spirit of the small aspiring firms by providing finance, guidance and expertise with an objective to attain long term capital gains. Venture capital is also known as seed money because the funding company acquires equity in a startup through investment. Venture capital firms look at ideas, products, founders which is likely to have huge market potential to deliver higher returns and yes, the risk is also comparatively higher.
- Facilitates expansion – Venture capital can help start up firms to expand. Such small and medium size companies typically have innovative ideas with no track record, operating history and nothing to pledge as collateral. Hence, it becomes difficult for them to get funding from conventional sources like banks and financial institutions. Venture capital can offer access to capital and act as a saviour which enable these firms to expand.
- Mentorship and expertise – Venture capital firms won’t provide only the capital but also provide mentorship to start up firms. Venture capital offers guidance and business expertise in building strategies, industrial know how, financial management and technical assistance which can help the business to grow.
- Building networks and connections – Venture capital firms who have large networks can help start up firms to build connections and market their products, hire good team members all of these can help the business to grow.
- No repayment obligations – Even if the start up firm fails then they may not have the obligations to repay the money just like in case of the bank loan. At times there are clauses which might venture capital firms right to remaining assets, intellectual property but start up don’t own the money.
- Encouragement to entrepreneurship and generation of more employment opportunities – Venture capital helps to promote entrepreneurship and inspire many young educated people to pursue their dreams. Development of the start-up ecosystem will also help to generate employment opportunities among the young individuals which is crucial especially in the post pandemic times when people have lost their jobs.
- Loss of ownership and control – Venture capital firm by providing money becomes an equity participant having significant stake in the start-up firm. Often companies have multiple rounds of funding and process results in founders losing their majority ownership in their company. Gradually the venture capital firms become part of the board, they actively participate in company’s decision-making process where they will try to protect their interest and get maximum returns. In case the venture capital has more than 50% stake then the founders of the company might lose the control as well.
- Getting funding could be long and complex process – The start up firm need to first approach the venture capital with a business plan then as investment involves higher risk the later might take long time to assess whether the company’s idea could yield impressive returns. The venture capital firms typically do lot of due diligence which can be very time consuming and delay the actual funding.
- Funds are released in parts - Venture capital may not release all the funds in one shot but in parts. At times, they expect start up to reach milestones or stages before they get the funding. This can be big setback for the start up firm and put them under lot of pressure.
- Early redemption by the venture capital firms or early expectations of higher returns – Venture capital aim to attain profits quickly for instance in 5 to 6 years but a start up firm might feel that it will take more time to generate profits. Such differences and pressures can add stress to start up firms leading them to take hasty decisions which might hamper the progress of their firms. At times, the venture capital firms in a hurry to liquidate their stake might pressurize the owner to list their company. Such hurried listing could result in under-valuation of the company’s shares and can be loss to the founder.
Lastly, how to approach venture capital firms? First need to have innovative idea and vision and present the same in form of business plan which comprises of market analysis, projections, amount and use of the capital, team and marketing of the product to name a few. One can approach top venture capital funds in India like Sequoia India, Accel, Helion Venture Partners, Blume Ventures, Nexus Venture Partners and Kalaari capital to name a few. Always approach a venture capital firms who can be good investment partner, believes in your idea and helps it to flourish and have strong dominance in the market.