Many startups wishing to scale will seek to raise funds from VCs. The funding negotiations…
Business Expertise: Leverage Your Venture Capitalists
VC funding can provide your business with the capital it needs to scale to success — but VC firms can offer much more than money alone.
You should look to get business expertise from your venture capitalist.
Venture capitalists are a driving force of innovation, identifying and supporting early stage startups and large-scale IPOs alike. Many startups choose to pursue venture capital funding in order to scale, viewing VC as a vehicle that provides a new venture with the money needed to launch a successful business.
VC firms are able to offer startups far more than the capital necessary to scale, however. While the success of VC firms depends on front-end diligence, networking, research, and deal-making, VC firms are able to provide new ventures with a wide range of benefits outside of financial support.
How do VC firms work, though, and what do they do after investing in a company? What kind of value do VCs add to a new startup? We’ll proceed to explore the structure and function of VC firms in the startup ecosystem and break down the additional benefits they provide to new businesses.
The Structure and Roles of a VC Firm
In order to understand how VC firms operate and the business expertise they provide to startups it’s necessary to develop an understanding of the roles within a firm. In The Art of Startup Fundraising, author and venture capitalist Alejandro Cremades breaks down the different types of people that work within a VC firm, beginning with analysts.
Junior analysts typically join a VC firm as an intern while working on an MBA, or have recently graduated. The primary role of analysts within a VC firm is the identification of investment opportunities — analysts will attend conferences and network in order to scout potential investments that fit the investment strategy of the firm they work for.
While analysts may not be able to make investment decisions, they represent a contact opportunity for startups seeking to capture the attention of VC investors. Within the internal hierarchy of a VC firm, analysts are typically followed by associates, who take a senior position to analysts.
Associates typically work with VC firms in a networking role, and typically come from a senior financial background. Like analysts, associates are unable to make investment decisions but are an integral part of the VC funding process.
Associates are junior to principals within the VC firm structure, who work as seniors that are able to make investment decisions. Principals are able to lead new startups through the process of receiving VC funding, but can’t be considered the most senior individuals within a VC firm and thus do not have full control over the overall strategy of a firm.
Partners function as the most senior people within a VC firm. Partners can take a variety of different titles within a VC firm, working in the capacity of general partners or managing partners. In addition to taking a leading role in investment decisions, partners are also responsible for raising the capital that the firm invests with.
Other roles within a VC firm include venture partners. While not involved in the daily operation of a VC firm, venture partners take a strategic position and are typically responsible for new deal flow that is referred to other partners within the firm. Entrepreneurs in residence, or EIRs, assist VC firms in exits, and are focused on enhancing strategic support for the startups and businesses the firm invests in by providing business and/or product acumen.
Lastly, Limited Partners, or LPs, are the individual or institutional investors that invest capital with the VC firm. LPs can include corporate pension funds, sovereign wealth funds, endowments, family funds, or investment funds.
How VC Funding Works
Getting funded by a VC firm is no simple task — less than 1 percent of all startups seeking VC funding achieve success. The first step in capturing VC funding is identifying a list of VC firms that operate within the specific vertical of your business or startup. There are several tools that can be used to identify VC firms, such as Crunchbase or CB Insights.
After you’ve identified a list of VC firms that could be interested in your startup, it’s important to identify any network connections you may have with them and determine which VCs you are in a position to introduce your business to.
In most cases, the best VC firms to connect with are those that you are able to capture an introduction to from entrepreneurs that have already provided the firm with good returns. VC firms view these introductions as positive social proof, increasing the chances that your startup will capture funding.
If a VC firm is interested in your startup subsequent to an introduction, you’ll likely receive a show of interest from the firm. A successful introduction and show of interest will typically result in communication with a partner at the firm, who will request a pitch deck.
Composing an effective pitch deck is often par for the course in communicating your business to VCs. Paypal co-founder Peter Thiel composed a highly effective pitch deck template that has helped hundreds of startups secure VC funding, which serves as a benchmark to measure the effectiveness of your own pitch deck.
Should your pitch deck capture the interest of the VC firm, the partners of the firm will coordinate a meeting in which they will raise any questions regarding the concerns they may have and provide an opportunity for both parties to connect on a personal level.
If a VC firm decides to support your startup afterwards, they will provide your business with a term sheet, which functions as a non-binding agreement to fund your business prior to the due diligence process, which can take up to three months. If your startup is able to pass due diligence investigation, a VC firm will offer funding at this stage after offering documents have been signed. The VC funding timeline can take approximately four to six months from initial introduction to offering and remittance.
How do VC Firms Monetize?
Venture capital firms generate profit from management fees and carried interest. The management fees charged by a VC firm are calculated as a percentage of the capital they have invested, commonly charged at approximately 2 percent.
Carried interest is the second vehicle through which VC firms monetize, and essentially functions as a percentage of profits. Carried interest can range between 20% and 25%, depending on the size of the VC firm. In order to generate profit on carried interest, an investing venture capitalist needs to “exit”, meaning the company is acquired or executes an IPO that allows investors to sell their position.
Exits commonly take between five to seven years depending on business performance. It is in the VC’s interest to provide you with business expertise that gets you to that position.
What Kind of Value does VC Bring to Your Company?
VC firms typically invest a large amount of capital in the businesses they support, and thus prefer to work closely with them. A VC firm will commonly require between 15 and 45 percent in equity, and request board involvement with a company in order to ensure they have a say in key business decisions.
The presence of venture capitalists in your business can deliver a wide range of benefits outside of the initial capital investment a firm provides. It’s important to perform your own due diligence before engaging a VC firm, but the right firm can provide key guidance, investment opportunities, or critical infrastructure that your business may not have been able to access otherwise.
Leveraging VC Experience
The partners of a VC firm that invests in your business will want to sit on the board — the weekly schedule of a VC partner is typically packed with board meetings. The presence of a VC partner on your board provides you with the opportunity to leverage the industry and business expertise they possess, assisting with management coaching and assisting with operational matters.
VC-Assisted Networking & Recruiting
If you need specific business expertise, you can approach your venture capitalists directs. VC firms maintain extensive databases of senior talent — it’s common for large VC firms to maintain pools of specific executives and talented individuals. The networking opportunities presented by VC firms allow startups to access a broad range of specialized individuals that can assist with sales, marketing, scaling, or any other specific role within a new startup.
Identifying, hiring, and retaining reliable talent is critical to the growth of a new business. VC firms eliminate the difficulty of finding the right people for your business, helping startups hit the ground running.