For beginners interested in finance, it can be easy to become overwhelmed by all the technical terminology involved. However, one fundamental concept rises above the rest: venture capital, or VC. So, what does VC mean, and what role does it play in our economy?
To begin to understand VC meaning, one must first recognize how ubiquitous venture capital is in our economy. Chances are, you use services and products from venture capital-backed companies daily, including big guns like Uber, Airbnb, Apple, Facebook, Netflix, Microsoft, Amazon, and Google. Nonetheless, VC meaning remains a complex topic. Many people struggle to comprehend VC meaningfully and the exact impact venture capital can have on companies that rely on it.
So, what does VC mean in layman’s terms? In short, venture capital is a form of financing where capital is invested into a particular company, typically a startup or small business, that shows promise for long-term growth potential in exchange for a share of the company’s equity. So, while Uber, Netflix, and Google are all major venture capital-backed companies that have achieved massive success, one must understand VC meaning to comprehend how new organizations rise in the ranks of the financial market in the first place.
Venture capital involves multiple players. As a breakdown, this includes venture capital firms that act as investors, limited partners who provide funds for these investments, venture capitalists who establish partnerships, and startups that receive the funding and ultimately provide the return-on-investment for all of the other key players.
To begin with, what does VC mean from the investor’s perspective? In good standing, venture capital is generally given by well-off investors, investment banks, and other financial institutions. One well-known capital firm is Sequoia Capital, which has invested in Uber, DoorDash, and 23andMe. Andreessen Horowitz is another well-established venture capital firm that backs Lime, Airbnb, Instacart, and Foursquare.
Importantly, VC meaning is not strictly limited to monetary form. So, what does VC mean in non-monetary scenarios? As an example, venture capital can be provided in the form of technical or even managerial experience. Whether monetary or not, once investors get equity in the company, they gain decision-making power. This is usually a minority stake that amounts to 50% ownership or less.
Venture capital firms coordinate investments. What does VC mean for these firms? VC investment firms typically fund and mentor startups and other young, often tech-focused businesses. Because they do not invest the money of their direct partners, VC firms themselves need to fundraise for money in exchange for a high return on investment. Once this money is pooled, it is then invested into promising private corporations.
Where does this money come from? Two key roles exist within a VC firm: general and limited partners. As their roles greatly differ, what does VC mean for each partner? General partners are responsible for making investment decisions. This often entails finding and establishing investment agreement terms with startups and companies and working directly with those organizations to set relevant goals. Meanwhile, limited partners provide the actual capital or funds required to complete those investments. Some examples of limited partners include pension funds, public venture funds, endowments, and hedge funds.
Investors who work at venture capital firms are considered venture capitalists. What does VC mean for venture capitalists? Mainly, they are charged with identifying investment opportunities for the firm and leading the fundraising efforts that can raise capital for these investments. Venture capitalists are not to be confused with angel investors. The latter is an individual who puts their wealth into companies that show growth potential, whereas venture capitalists must work with limited partners.
What does VC mean from the startup’s perspective? For new companies with a limited operating history, defined as below two years, VC means fundraising and convincing venture capital firms to give them money in exchange for equity. Because these companies often lack connections to capital markets (where suppliers seeking capital canexchange savings and investments), bank loans, or other debt instruments, venture capital is a primary form of funding. Thus, it can be pivotal in the success of the organization.
What does VC mean if not risk? First, each player – venture capital firms, partners, and new businesses – must have a fundraising strategy and return money to lenders with a profit.
This means the potential for returns must be promising enough to outweigh the risk investors take by putting up funds. Importantly, VC funds have a fixed life of around ten years, and as a result, investing cycles typically last anywhere from three to five years. Once this period ends, VC firms work alongside startups and their founders to seek an exit and capitalize on any returns.
How is risk determined and managed? VC is broken down into multiple stages as companies grow to track company progress and invest money in smaller chunks. The first is the seed stage. What does VC mean in this stage? This is when venture capital firms put forth a small amount of capital to be used for initial product or business plan development and market research. This marks the first official round of funding for an early-stage company. In exchange for seed investments, equity or stock is provided.
The next stage is dubbed the early stage. Typically, this stage involves larger investments than the seed stage. Once a viable product or service is established, more financing is required to grow the corporation and begin operations. This money can be invested in multiple series assigned a letter, such as Series A and Series B.
The final stage is termed the late stage. What does VC mean in this context? For companies to reach this stage, they must demonstrate some level of growth and revenue generation, although it is not required for them to be profitable. Once a company is either successfully acquired or goes public, the venture capital firm achieves high returns that it can then redistribute to its limited partners that contributed to its funding pool.
Although a sophisticated industry today, VC used to look quite different. What does VC mean when looking through a historical lens? Before World War 2, the field was strictly limited to extremely wealthy individuals, including the infamous Morgan and Vanderbilt families. Venture capital firms sprouted at the end of World War II in 1945, but it was still a particularly niche industry.
Around this time, Harvard Business School professor Georges Doriot, considered the “father of venture capitalism,” founded the American Research and Development Corporation (ARDC). ARDC was intended to encourage private-sector investment in businesses run by soldiers returning from WWII. Venture capitalism was also used to invest in companies that commercialized technologies developed during WWII, including the x-ray technology. Despite this, most of the largest corporations of the past were still financed through organic growth (retained earnings) and strategies such as bank lending, government funding, and stocks and bonds. As a result, VC was not as mainstream as to the institution of modern venture capitalism.
Yet, since the 20th century, venture capital has become a more popularized funding avenue, as a series of regulatory innovations were passed that included tax breaks for investors and pension-based investments. Despite changes in VC meaning due to historical financial events such as the dot-com bubble and 2008 financial crisis, venture capitalism has remained a key player in the growth and development of new companies.
What does VC mean when looking to the future? More specifically, what does VC mean following a global pandemic? First, the field appears to be booming despite COVID-19. 2020 turned out to be the second biggest year in venture capital history, amounting to $141.9 billion in investments in 2020. Financial experts attribute this to a generally favorable economy with low interest rates, creating better opportunities for new startups to seek funding. 2021 is predicted to be an equally strong year.
Interestingly, decades-old technology has been recognized as an additional area of opportunity for investors. As a result, certain venture capital firms invest in existing technology, including more niche sectors such as floor installation or oyster harvesting. By doing so, firms are aiming to revamp entire industries that are lagging behind 21st-century society. As a result, experts predict a new technology revolution could be on the horizon.
Venture capitalism is pivotal for the survival and maintenance of many companies we benefit from daily. Whether you’re calling an Uber or ordering an Amazon delivery, venture-capital-backed companies are fully integrated into modern society.