When you’re raising funding for your company, your biggest decision involves whether to seek equity or debt financing. Venture capital is a type of equity financing. It is significantly different from traditional debt financing, which usually takes the form of borrowing funds from a bank or other lending institution.
The need to qualify for equity financing is a significant disadvantage to seeking funding from a VC firm. These firms look for investment opportunities in companies that are growing rapidly and have a high chance of going public or being bought out within a few years. An entrepreneur will usually be required to demonstrate that his or her company is in an industry with a rapid growth rate and that the company is able to flourish in a competitive environment.
As an entrepreneur, you’ll need to put in a lot of work to secure venture capital. Thorough business plans with realistic financial projections and PowerPoint presentations must be prepared. You might even need to obtain third-party information to make your presentation more convincing. The work doesn’t stop with creating your documentation, however. You’ll need to network and reach out to venture capitalists who invest in your business sector.
You’ll also be selling part of your company when you raise equity capital. In other words, you receive the funding, but in exchange you give up some of the ownership of your company. And, if your company is acquired in the future, you’ll be required to share the proceeds with the venture capitalist.
Raising venture capital might seem intimidating, but owning a small percentage of a very large company is often more financially rewarding than owning all of a small or struggling company. For example, owning all of a $500,000 company is worth half as much as owning 10% of a $10 million company.
Many VC firms focus on investing within a specific industry. Once a firm provides funding, you’ll be able to take advantage of its partners expertise and guidance. Most venture capital firms will insist on having at least one seat on your Board of Directors. Your investors share your goals growing a successful business and then cashing out with a large profit so their ownership of a percentage of your company will not act against you.
In addition, VC firms are able to invest large sums of money, and that funding will allow you to grow your business. A capital infusion, coupled with the tools and networks available to a venture capitalist, can spark your company’s growth and help ensure that it continues.
Raising venture capital also lets you concentrate your efforts on operating your business without being concerned about being able to meet your short-term debts. Unlike debt financing, venture capital funding does not require you to make payments of principal or interest on the funding amount. This can make all the difference for a seed or early stage company that does not yet have an income stream.