What Is Venture Capital?

• Venture capitalists evaluate investment opportunities.
• Venture capital is a form of “Risk Capital,” and venture capitalists tend to invest in entrepreneurial businesses or start-ups.
• They look at the product and technology as much as the market and the people.
• Venture capitalists differ from Angel investors in a few key ways:
  • Angel investors are usually individuals, whereas venture capitalists work as part of a firm.
  • In the event that an Angel firm does exist, they typically offer very few job openings particularly for younger individuals—they’re still not as large as a VC firm.
  • Venture capital firms often invest on the behalf of others (know as “limited partners” or “LPs”), whereas Angel Investors typically invest their own funds.
  • Venture capital generally invest larger sums of capital in slightly later stage companies than Angel Investors.
  • Angel investors typically impose less control and fewer terms in their investments.

Before you apply for a career in venture capital, you need to know what it is, so you can be sure you’ll actually want to work there. We’ll go into more detail on some duties you’d have as an associate in the next segment. For now, a broad definition: Venture capitalists evaluate investment opportunities.

There’s a bit more to it than that, though. Venture capital itself can be defined as private capital that is invested in high—growth companies in exchange for equity (www.markpeterdavis.com/getventure/2009/08/what-is-venture-capital-.html). What that means is that VC firms raise money to invest in entrepreneurial businesses or start-ups, evaluating their potential investments based on a number of different factors. Venture capital funds vary in terms of the stage (i.e. early, growth, late) and category (i.e. consumer Internet, mobile, clean—tech, biotech, healthcare, life sciences, etc.) of companies they invest in. As a general rule, VC firms ask five basic questions (http://tutor2u.net/business/finance/raising_finance_venture%20capital.htm) when evaluating an entrepreneur, business, or start-up:

1. Is the product or service commercially viable?
2. Does the company have the potential for sustained growth? Would the market support this growth?
3. Does the management have the ability to exploit said potential and adequately maintain the company through the growth phase? Are there unique technology barriers to the products entry into the marketplace?
4. Do the possible rewards justify the risk?
5. Does the potential financial return on the investment meet their investment criteria? :

For example, let’s say our firm is looking at a young entrepreneur with an idea for a new form of search engine. He’s has a relevant background or skill set, his company has the potential for growth, and the product is certainly commercially viable...but he’s got virtually no hope of becoming a market leader, going up against the likes of Google or Bing.

The potential risk simply doesn’t justify the rewards.

Venture Capital Versus Angel Investing

Angel investing operates in a very similar fashion to venture capital. Thing is, venture capital and angel investing are two very divergent beasts. There are several basic differences: The number of people employed, the amount of money invested, the stage of companies they invest it, and where the money originates from.

Typically, there aren’t a lot,if any, young analyst jobs at Angel firms—or many Angel firms to begin with. Angels are usually single individuals. Lately, however, we’ve been seeing a trend—some Angels are getting together to raise funds and invest as a group. They’re starting to look more like venture capitalists as a result, since they’re not just investing their own funds anymore and are putting forth larger sums of capital than they have historically (~$250k—2M rather than 50k—150k).

The key phrase there is “look more like.”

More info here: money.howstuffworks.com/startup-capital8.htm

Where The Money Comes From

Even though Angel investors and venture capitalists are starting to look similar, the money still comes from different places.

The contract venture capital fund is a pool of money raised from a variety of sources, called LPs. A firm will raise money from groups like retirement associates, pension funds, or private wealth funds at investment banks. These groups will take a small percentage of all the money they have and invest it in alternative funds. Venture capital is known as an “alternative investment” asset class.

When a venture capitalist goes out to raise money, they are raising money from a group of people. If they’re raising a three hundred million dollar fund, they aren’t raising it from one individual. When they go out to invest, they aren’t usually investing all their own money (though it’s not uncommon to see General Partners put up a small percentage of capital for a given fund). They primarily manage and invest capital on the behalf of others.

Historically, Angel Investors have managed and invested their own capital. Even when they gather into firms, they aren’t necessarily managing the funds on the behalf of others.

Furthermore, the funds that venture capitalists invest dwarf the funds that Angel Investors put forward. Since Angel investors are usually individuals, it goes without saying that they have less money to invest than a venture capital firm. As an example, Angel investors might invest $25-70k in an early stage company, whereas a VC firm could invest anywhere from $2M-$5M.

Different Methods

One final difference between venture capital firms and Angel Investors is that Angel Investors generally tend to exercise less control over their investments. More often than not, an Angel is a well-connected, wealthy individual who impose few restrictions on their investments www.businessinsider.com/how-angel-investing-is-different-than-venture-capital-2010-3.

Angel Investors prefer to keep things simple and more entrepreneur friendly by no necessarily requiring things like board seats or more onerous forms of equity, like participating preferred stock.

In Closing

Understanding venture capital and how it works is integral if you intend to work in the field. If you’re going to work for a venture capital firm, knowing what they do, how they operate, the things they look for in a company, and the types of companies they invest in (e.g. stage, category, etc.) is extremely important. Of course, knowing what your firm does isn’t quite enough—you’ll also need to have an idea what you’ll end up doing if you join a firm.