WHERE LOCAL BUSINESS GROWS

Venture capital



Overview
 

Venture capital funding is a form of private equity investment where a business obtains long-term funding in exchange for a share of its equity.

Venture capital funding is mainly used by start-ups or new businesses with high growth potential, ie technology start-ups. Businesses can also use it to expand, fund management buy-outs or buy-ins, or develop new products.

There are four main types of private equity funds:

  • Independent funds - the most common form of private equity fund. Their capital is supplied by third parties, with no one party holding a majority stake
  • Captive funds - have one major shareholder, contributing most of the capital. A captive fund can be a subsidiary of a bank or an insurance company, or an industrial company looking to invest in its own sector
  • Semi-captive funds - have a majority shareholder, but also significant minority shareholders. They can be subsidiaries of financial institutions or run as separate companies
  • Public sector funds are made up of capital supplied partly or completely by the public sector
Venture capitalists typically invest in businesses with:
  • a minimum investment need of around £2 million, though smaller regional venture capital organisations may invest from £50,000
  • an ambitious but realistic business plan
  • a product or service that offers a unique selling point or other competitive advantage
  • a large earning potential and a high return on investment within a specific timeframe, eg five years
  • sound management expertise - although venture capitalists tend not to get involved in the day-to-day running of the business, they often help with a business' strategy

The process
 

You should research what type of private equity funding your business needs. Different types of investment are suitable for different stages of business development:

  • Seed financing - funding while you research and develop a project or concept until you are ready to launch a company. This form of private equity is mainly provided by business angels
  • Start-up financing - to help you develop a product and begin marketing it. This sort of funding is often based on your business plan and venture capital investors may often join your company to help bring the product to market
  • Post-creation funding - capital used to finance manufacturing a product and a sales drive, so your company can begin to make profits
  • Expansion and development - investment is used to increase production capacity and sales activity. Funding is often provided by new venture capital investors attracted by previous significant investments in the company
You should make sure that your business plan is up to date with detailed financial forecasts tailored to the investor. Business plans are used by investment managers to assess:
  • your business' funding needs
  • whether your plans for the business are achievable
  • whether you need external investment
Making your business investment ready

Your business also needs to be ‘investment ready’, which means providing:
  • audited accounts for the past two years
  • evidence of current performance
  • profit-and-loss forecast for next year
  • business bank statements for the past six months
  • profiles of each partner or director in your business
Data confidentiality

Once a venture capital investor firm has shown interest in your outline proposals, you can prepare a letter of confidentiality. This should be signed both by your business and the potential investors before you send them your full business plan.

Data confidentiality can be an important issue for smaller companies applying for investment, particularly where proposals contain details of commercially valuable products or strategies.

Download a sample venture capital investment proposal confidentiality letter (DOC, 33K)

Pros and cons
 

Pros

  • venture capital funding is committed and long term
  • you retain management control of your business – investors will not get involved in the day-to-day running of your business
  • no need for collateral, ie personal assets
  • no repayments or interest
Cons
  • giving up a share in your business
  • raising venture capital is demanding, costly and time consuming
  • not generally suitable for small investments
  • can take a while to find a suitable venture capital investor

Common mistakes
 

You may be refused venture capital finance because you haven’t made sure that you are ‘investment ready’ before approaching potential investors. For more information, see Getting ready for funding.

Investors will want to know if there will be an exit opportunity and that they can recover their investment and make a profit. You should be able to tell them about your business’ long-term plans and ambitions.

Choosing the right venture capital firm will increase your chances of success. You should consider:

  • the stage of your business’ development or the type of investment required
  • your industry
  • the amount of finance you need
  • your geographic location

Funding sources
 

You can use the British Private Equity and Venture Capital Association (BVCA) membership directory to find venture capital investors. However, you will need to subscribe to get access.

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