Despite the crisis and sky-high risks, the venture capital market still attracts many investors. Venture investments are a way to earn a large amount of money relatively quickly or lose all investments because such deposits are very risky. There are common things about venture capital deals.
Venture investment mechanism
Venture investments are investments with a high degree of risk. Most often, an investor invests in new promising projects that are developing. The main risk of such an investment is that the project will not bring real profit or will be closed before it starts.
The main difference between a venture project and a conventional one is its profitability. For example, you will receive a steady income if you invest in a restaurant. If you invest in a new social network, application, or cryptocurrency project, you expect it to take off, grow quickly and bring you a profit that is several times greater than investments. But if the project does not take off, your investment does not pay off in any way.
A great practical difficulty in concluding a venture transaction is the assessment, that is, determining the ratio between the size of the investor’s contribution and the nominal value of the share that he will receive.
4 Things to know about venture capital deals
We have defined four important points to know about the essence of venture capital deals:
- A venture investor often invests in several companies at once, and the process looks something like this. The investor selects ten companies just starting to develop and invests money in them. Three close in the first year, three more in the second year, three more show average growth, and one grows so that it covers the losses from other investments. Because of these statistics, venture investors prefer to invest in many companies at once to increase their chances of profit. The profit will also depend on the stage at which the investor entered the project. Usually, the risks are higher in the early stages, but the profits also grow.
- An IPO is the best way to make money on the company’s shares for an investor who has invested in venture capital. At this moment, the business lists its shares on the stock exchange, everyone can buy them, and the investor can sell theirs and earn. Another option is to wait until someone buys the company and sell him your share. For example, you can also sell shares in a private transaction to another venture capital investor.
- A venture investor is not constrained by the legal regulation that banks are subject to. He does not need licensing to conduct business, and there is no control by the Central Bank. He does not need to maintain a credit rating and financial liquidity to fulfill his obligations to depositors. A venture investor has the freedom to manage finances at his discretion and take on high risks – he initially understands that most startups in which he invests will not justify themselves.
- A popular format for early investments is a convertible note when the investor receives not a share in the company but a “discount” for buying shares in the next round. It allows you not to haggle with the founders about the company’s valuation when it does not have sales yet. In the world, the standard legal form of a venture fund is a limited partnership. It allows investors to enter the fund as a non-managing partner who is not responsible for the partnership’s obligations with anything other than his contribution.