Advantages & Disadvantages of VC

What is Venture Capital?

Venture capital is a common way for promising startup companies to gain the finances they need to grow. Venture capital financing involves venture capitalists, who are often part of a venture capital firm, investing in a startup company.

When venture capitalists invest in a start-up company, they are making a risky investment. They expect the business to demonstrate substantial growth and become profitable quickly. Potential growth is the most important trait a VC firm looks for. Toptal shared some insights on the state and the trends of venture capital industry in 2019, which seems very interesting, especially for startup investment.

Advantages of Venture Capital

Here are some of the main advantages of venture capital.

Based on Potential

While banks and other lenders require demonstrated profitability before they invest, VC investors provide capital based on potential. While many startup companies have great potential, they usually have not achieved profitability.

Thus, a great business plan is what makes a company a good candidate for a venture capital investment. If you are a small business owner with a brilliant business plan in the early stages of execution, venture capital funds are one of your best options to get the funding you need.

Significant Resources

In comparison to other ways of raising capital, venture capital gives startup companies significantly more resources. Whether it be through a bank loan, crowdfunding, an angel investor, or equity financing, venture capital usually gives you the most funding.

Disadvantages of Venture Capital

While venture capital does provide significant benefits to startup companies with potential, there are also some major disadvantages.

Lost Control

When a VC firm invests in your company, they aren’t giving you money for free. Usually, a stipulation is that they will take a seat on your company’s board of directors or on the management team. Venture capitalists need some assurance since they are making such a risky investment in your company.

While this stipulation does make logical sense, it can also lead to dissatisfaction and conflict. As a result of your loss of control, you may have to adjust your business operations or change crucial parts of your company to keep your investors satisfied.

Expectations

When investors provide your company with a VC fund, they expect quick, positive results. This can lead to significant pressure on the business owner, especially when the results aren’t positive or move slower than the investor expects.

The Alternatives

Of course, venture capital is not the only way to fund your startup. Here are a few alternative ways startups can raise capital.

Equity financing: Equity financing involves selling shares of equity in your company. While you may receive the additional funding you need, likely, you will no longer possess the majority of the equity in your company, which can result in a loss of control.

Business Loans: Generally, banks are not a great option for startup companies. While the interest rates are low, the cons outweigh the benefits. Bank loans do not provide significant amounts of capital. More importantly, however, banks require that the company has already proved their profitability—which is rarely true of startups.

Angel Investors: An angel investor is an individual or small group of individuals who invests a large sum of money into a company. While most angel investors do not expect you to pay them back, they typically maintain a lot of control in your company. Additionally, they usually cannot give you as much capital as you need.

Crowdfunding: Crowdfunding allows you to promote your business plan through different media and ask regular people to invest. While there is no debt involved, it is risky because you have no assurance you will receive the capital you need. There is also tough competition from similar businesses.