Venture capital is basically a form of private equity capital and this is usually offered by foreign investors and investment professionals to nascent or growing business entities. Commonly, venture capital is issued in the form of cash in substitution of stocks in the company where the investment is going to be made.
The venture capital investments commonly bear increased degree of risk, nevertheless, in case of venture capital investments, there is high opportunity for gaining more than average returns. The venture capitalist is that individual who does this type of investments. A venture capital fund is a form of a collective investment vehicle and this is frequently seen in case of limited partnership companies. This fund is involved in investing third party investors’ financial capital in business entitites that are considered to be quite risky in comparison to the banks or standardized capital markets.
Venture capital also involves technical and managerial skills. The majority of venture capital flow from a number or set of investment banks, affluent investors and other types of financial services providers who consort these type of partnerships or investments.
This type of capital raising method has become quite popular amongst emerging ventures or nascent companies that have a small history of operations and are not able to collect funds by a debt issuance. One of the negative aspects of venture capital for the enterprisers is that the venture capitalists commonly have a voice with regards to the decision making of the company, additional to a part of equity.
Operations of Venture Capital Fund
The general partners of venture capital fund are also termed as VCs or venture capitalists who function as executives of the venture capital fund and they are otherwise known as investment professionals. The majority of these types of professionals are former chief executive officers (CEOs) or senior executives of technology groups.
The investors of venture capital funds are called limited partners. Limited partners include the following:
Private pension funds
Individuals with high net worth
State pension funds
Financial endowments from universities
Fund of funds, otherwise known as pooled investment vehicles
Different types of positions that are available in venture capital firms include EIR or entrepreneur-in-residence and venture partners. The venture partners are responsible for bringing in deals and income is received by them only for the deals that they are working on. This is contrary to the position of general partners who receive earnings from every deal. The EIRs or entrepreneurs-in-residence are knowledgable individuals in a specific subject area and apply due diligence on probable transactions. The venture capital firms employ the EIRs on a temporary basis, for example 6-18 months and they function in order to work out start-up concepts to the host venture capital organization. However, there is no compulsion between the two parties in working with one another. A number of EIRs also play the role of a CTO or Chief Technology Officer in a portfolio organization.
Structure of venture capital funds
The majority of venture capital funds have a stipulated term period of 10 years and the investment cycle of these funds usually ranges between 3-5 years.
Typically, in case of a venture capital fund, a yearly management fee equivalent to 2% of the capital invested in the fund and 20% of net profit (this is termed as carried interest) is paid to the general partners. This is termed as a 2 and 20 agreement. This is similar to the compensation system of a large number of hedge funds.
The concept of venture capital mostly prevails in sectors like technology, biotechnology and life sciences that are witnessing rapid growth. Venture capital proves to be a useful device for small and medium scale enterprises (SMEs).
Last Updated on : 1st July 2013