What Is a Venture Capitalist VC and What Companies Do They Invest in?
What Is a Venture Capitalist (VC) and What Companies Do They Invest in? Skip to content
You own shares of Apple, Amazon, Tesla. Why not Banksy or Andy Warhol? Their works’ value doesn’t rise and fall with the stock market. And they’re a lot cooler than Jeff Bezos.
Get Priority Access They’re part of venture capital (VC) firms. VC firms seek high-growth investment opportunities in companies that have a unique product and a large target market. These companies are usually just hitting the commercialization stage of the business cycle, meaning their products are just making it to market. They’re considered too high-risk for most lenders, investment banks, and capital markets. Venture capitalists generally seek to purchase large stakes in the companies they fund — typically 20% to more than 50%. They like to manage the risk of doing so by inserting themselves into the companies’ boards of directors and supervising their executives.
Regardless of their preferred modus operandi, angels are high-net-worth individuals with no fiduciary responsibilities to investors. This is an important difference because acting alone or in small groups has a meaningful impact on capital abilities and the decision-making process.
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By Joshua Rodriguez Date June 13, 2022FEATURED PROMOTION
New business ventures are exciting, but there’s a big hurdle on the path to making it big for many: Growth is expensive. Young companies often need outside capital to grow. Lenders, investment banks, and capital markets often turn early-stage companies down, citing high investment risk. That’s where venture capitalists come in. These investors are willing to take a chance on the next big idea — investing millions of dollars in promising startups in the hopes that some of their bets will pay off.What Is a Venture Capitalist VC
A venture capitalist is a private investor who invests in early-stage small businesses in exchange for an equity stake. However, unlike angel investors, venture capitalists don’t act alone.You own shares of Apple, Amazon, Tesla. Why not Banksy or Andy Warhol? Their works’ value doesn’t rise and fall with the stock market. And they’re a lot cooler than Jeff Bezos.
Get Priority Access They’re part of venture capital (VC) firms. VC firms seek high-growth investment opportunities in companies that have a unique product and a large target market. These companies are usually just hitting the commercialization stage of the business cycle, meaning their products are just making it to market. They’re considered too high-risk for most lenders, investment banks, and capital markets. Venture capitalists generally seek to purchase large stakes in the companies they fund — typically 20% to more than 50%. They like to manage the risk of doing so by inserting themselves into the companies’ boards of directors and supervising their executives.
How Venture Capital Works
VC firms are generally structured as limited partnerships. The venture capital firm becomes the general partner, which is the partner that makes the ultimate decisions, while investors become limited partners. These firms are usually formed by groups of accredited institutional investors often including wealthy individuals, foundations, pension funds, and insurance companies. Once the fund is formed and funded by the partners, it looks for opportunities to invest in new companies with high growth potential. In particular, the fund looks for companies that: Have a Unique Product. The product must be unique enough to solve a problem in a way that no other products do. Have Some Sales. Venture capitalists want to get in early. However, in most cases, they’re not interested in investing in companies that don’t have any revenue. Their goal is usually to find a product that’s just starting on the commercialization path and has promising early sales results. Have a Large Target Audience. These investors aren’t interested in companies that have the potential to grow to generate $2 million or $3 million in annual sales. They invest in companies that address the masses and have the potential to earn hundreds of millions of dollars per year if everything goes right. Have an Effective Management Team. Venture capitalists usually assist management because they invest enough to own a meaningful percentage of the companies they invest in. However, they want to make sure the management team is already on the right track before investing. Have Intellectual Property. Most VC funds look for companies that already have patents, trademarks, and other intellectual property in place. These are key aspects of what Warren Buffett calls the economic moat. Once it spots an investment target, the VC firm negotiates an investment amount and equity stake with the target company. If all goes well, the firm makes the investment and owns a meaningful piece of the growing company. Moving forward, members of the investment firm take an active role in the companies it invests in, often joining their boards of directors. Their goal is to grow the company as quickly as possible to produce one of three outcomes: Initial Public Offering (IPO). The firm’s goal may be to grow the company to the point where it’s appealing to public capital markets. At this point, it’s ready to list its shares in an IPO at a valuation far higher than it paid when it invested.Acquisition. In some cases, the venture capital fund builds the company it invests in with eyes on a buyout in the end. This is often the case in industries that are dominated by a small group of goliath-sized companies who are willing to make large investments in new technologies to maintain their leadership roles. VC Acquisition. The VC firm might decide its best option is to acquire 100% of the company over time and generate profits through corporate operations. Most investors in a venture capital fund are passive investors. However, the firm itself is run by the active parties who charge management fees for their services. A typical management fee is about 20% of the profits generated by its investments. But not all VC firms are profitable due to the considerable risks of investing in young companies. Most VC bets never produce the hoped-for returns.Venture Capitalist Qualifications
Venture capitalists come in all shapes and sizes. There are no set criteria for becoming one, but your best bet is to have the following qualifications: Sufficient Education. Most venture capitalists have at least a bachelor’s degree. If you’d like to become one, seek a degree in a field related to business or finance. Work Experience. VCs tend to take an active role in the companies they back. It’s best to have extensive work experience in the industry in which you plan to invest. A Strong Network. You’ve heard the saying, “It’s not what you know, it’s who you know.” In the venture capital space, success boils down to a little bit of both. Never give up the opportunity to make a meaningful connection with a leader in your industry of interest. A Mentor. A mentor isn’t a requirement, but it’s best to have one. As a business enthusiast, you likely have high-power friends on social media or connections to leaders through your work experience. Reach out to these leaders and build relationships. When the time is right, ask them to become your mentor. You’d be surprised how many people are willing to help others succeed regardless of their own level of success.Venture Capitalists vs Angel Investors
Venture capitalists and angel investors are often mentioned in the same sentence. That’s for good reason. Both venture capitalists and angel investors are deep-pocketed investors with an affinity for business and a willingness to reward entrepreneurship by taking a chance on the underdog. Both also invest in exchange for an ownership stake in private companies and seek early investments to maximize their growth potential. But they’re also very different.The Investors
As mentioned above, venture capitalists act as a group of investors. The investors are usually a mix of high-net-worth individuals, pension funds, foundations, and insurance companies. Angel investors are more likely than venture capitalists to act alone. However, in some cases, they join groups to make themselves more visible and increase overall buying power.Regardless of their preferred modus operandi, angels are high-net-worth individuals with no fiduciary responsibilities to investors. This is an important difference because acting alone or in small groups has a meaningful impact on capital abilities and the decision-making process.