Venture capital (VC) funding is money invested in companies without a proven record of success, usually start-up companies. Normally VC funding comes in when a person with an idea for a product first invests most of his or her money in the idea. A second level of funding may be given by what is called an “angel investor,” who may help the person more fully realize their idea or product. In order to achieve VC funding, preliminary results on the product or concept must look as though they will prove profitable.
Most start-up companies receive VC funding by making business proposals that show a firm chance of the investor advancing VC funding making a considerable profit. Usually the VC funding individual or company expects or hopes to make at least a 20% return on their funds, though this has proven not the case in many incidences. VC funding used to be called risk capital funding, with good reason. The negativity of associating “risk” with one’s capital produced the gradual name change to VC funding.
VC funding was at its high point during the dotcom boom in Silicon Valley, California. Early companies realized huge profits in very short periods of time, providing the VC funding partners with enormous and quick returns on their money. Many of the companies then went public, which is often how the VC funding investor makes back his money.
When the company becomes public, it sells its shares on the open market, usually at a high value. Part of the profit of these shares belongs to the VC funding business or individual. He then may choose to reinvest his profits back into the company through purchasing shares, or he may get out and find some new venture to support.
Sadly the dotcom bust tamed the imaginations of many who offer VC funding. The possibility of earning quick returns on big investments, usually from about 500,000 to 5 million US dollars, was simply not available. VC funding has a strong element of risk. A company can end up being nearly broke or in the red, and those who advanced VC funding are left with little, if any, of their initial investment. When a company is worth less than the VC funding advanced to establish it, it is referred to as “underwater.”
It was theorized that many VC funding firms, which quickly rose during the dotcom industry to finance start up companies, would invest more carefully after the bust. Many of them did, but some successes in Internet companies have shown VC funding can still be quite profitable. In particular, those who offered VC funding to Google, have made a significant amount of money, in their initial public offering (IPO) of stock. Google stock has risen dramatically, putting a smile on the faces of the VC funding firms that were involved in its early stages.
Financial analysts recommend that startup companies try to seek a portion of investment through VC funding, and through loans from banks, when that is possible. Those with proven track records in previous startup companies may have a slightly easier time getting loans from banks. VC funding companies, since the dotcom bust, do tend to be more cautious. Having a firm business plan which shows a strong likelihood of profit is helpful. However, about 90% of business proposals to VC funding companies tend to be rejected even if likelihood of profitability is high.