Venture capital is an attractive option when thinking about financing your startup. In fact, it is so attractive that many entrepreneurs start searching for VC investors without even thinking about whether it is the right choice for their company and their situation or even really weighing up the pros and cons. And who can blame them? VCs come with large amounts of cash, support, mentoring and advice – why would anyone say no to that?
The truth is, nothing comes without a price attached, and that includes VC money. You need to really think about your choice of method in financing your business, it is one of the most critical decisions you will make. In the first part of this article we showed you the reasons not to opt for VC funding. However, there are two sides to this coin, and there are also many good reasons to choose this funding option, too.
These are the reasons to go for venture capital.
1. A source of financing and rapid growth
This is the most obvious, and the most common reason why startups turn to VC money. Venture capital is a source of a lot of funding, and more rapidly than you could get it by bootstrapping. The sudden appearance of a large amount of money can boost your growth to the point where the sky’s the limit – exaggerating slightly, obviously. What is certain is that you can grow on a scale that would have been difficult without funding. And there are definitely many success stories concerning famous companies that have been backed by VC.
One such success is WhatsApp. Facebook’s $22 billion acquisition of WhatsApp in 2014 was (and still is) the largest private acquisition of a VC-backed company ever. It was also a big win for Sequoia Capital, the company’s only venture investor, which got a $3B return from its $60M investment.
On the other hand, we can’t resist mentioning that the rapid growth model is receiving increasing amounts of criticism and there is an emerging tendency to favour impact investments and investors, so the emphasis is slowly shifting towards sustainability and social impact from pure numbers. Covid-19 has also played its part in this change of direction, so it is definitely worth keeping our fingers on the pulse regarding the latest trends and industrial sentiments.
We mentioned in a previous blog post how valuable a decent network is. You can have the best idea in the world, but without connections you might get nowhere with it.
VC investors wouldn’t have gotten where they are without being well-connected. They have a huge number of connections in the business community – consequently, having the right VC partner gives you the opportunity to expand your own network. Not only do they know other investors, but they also meet numerous other startups, and even individuals with skills that you might need in your team. Whether you’re looking for partners, employees or consultants, your investors will be able to point you in the right direction. These connections can serve your interests and help you grow and become successful.
Imagine that you’ve been looking for a team member to do your marketing for ages, but have had no success. The VC investor you bring in will most likely know and will be able to connect you to your new amazing team member so that you are ready to grow. This often happens, and it is definitely one of the reasons why VC money does indeed sound tempting.
3. Industrial experience and expertise, guidance and support
VCs understand the sectors they invest in, they are experienced in the field. A good team can advise you on a lot of things: from going to market to financial management and eventually becoming the number one in your industry. They may even have people who have built companies similar to yours in the past. They can provide you with experience, know-how and all kinds of advice to help you grow your business.
When it comes to guidance and support, you also need to think about what kind of support it is that you need; and if you go for VC funding, you need to choose the one that fits your needs best. As this study published by Pageant Media shows, different VCs take different approaches when it comes to giving support to the startups they have invested in. There are the mentor-type investors who love to jump in and help, but only when requested: support is almost always initiated by the entrepreneur, and you can choose when you need advice with something. And there are those who offer a lot more structured help, the study calls these VCs the “Portfolio Operators”. These VCs have a structured, standard process for adding value and providing support to the startups in their portfolio. The success stories of this method definitely make support coming from VCs a huge pro when deciding whether to go for them or not.
One of these portfolio-operator VCs is Andreessen Horowitz, which has invested in huge successes such as Airbnb, Facebook, Instagram, Skype and Twitter. They provide their portfolio companies with the structured support that has contributed to the success of all of these companies, and has made an impact on the 128 exits they have guided their startups through. Google Ventures has also followed a similar approach, leveraging Google’s vast resources and providing a dedicated team with numerous experts, including partners to help and support the startups. Joe Kraus, partner at GV once said: “We believe helping companies plays more of a role than most people give it credit for.”
You certainly cannot do everything by yourself and you may not even have people on your team for important, critical and very special areas such as legal, tax and personnel matters. This is where a VC can help you by providing active support in the areas if you don’t have the people or the budget yourself.
This support and the success that demonstrably follows certainly do make VCs very attractive.
4. A more startup friendly approach than at the banks
This is a huge advantage that should not be forgotten. Unlike a loan, which would be another potential source of funding, in the case of VCs you don’t necessarily need to repay the money in the classical sense. You pay them with equity, so once the deal is done, the money is yours to spend. However, there is no such thing as free money, so obviously the VC-s also count on getting their investment back in the event of an exit, see also IRR.
In a lot of cases, banks for example wouldn’t even consider giving a loan to startups because of the huge risk. You’d either need a positive cash flow for a bank to lend you money or to collateralize your loan with assets the company has. A bank may even ask you to collateralize a loan with your own bank account. We’re pretty sure you can see the problem there. Most startups don’t have any assets nor do they have positive cash flow, which is why it can be preferable to turn to a VC. You do give up equity, but you get the money without having to pay it back as you would with a loan, potentially from your own bank account. On the other hand, VC-s also try to secure their investments as much as possible, obviously, so you cannot escape from understanding the contractual background you are signing up to with your investor, also with regard to clauses for failure, insolvency, bankruptcy or other dead-end scenarios.
5. Free media coverage
Most VCs have media contacts, a PR group and tons of media coverage; and it is in their best interest to get as much exposure for your startup as possible.
If you’re one of those exceptional founders who somehow intuitively masters PR immediately, you might need their support less, but you can still benefit a lot from the connections and get even better media coverage. And if you’re in amongst the majority who need a lot of support in this, you will definitely be thankful for the investors. Even something as simple as a funding announcement, done in the right place and at the right time, can open up many doors for your startup. Coverage by the right publications, the right type of media, can generate leads from potential customers and great PR can make you seem like you’re much bigger than you actually are which is super useful when talking to potential customers and partners. Creating a buzz around the company and spreading the word can even help you in recruiting the best talents by making your company a desirable place to work.
What does all this mean in the long run? More publicity leads to more customers, partners, getting noticed by potential new employees and other VCs getting interested in investing even more in your company. All this and you do not even have to lift a finger, or definitely by doing less than you would without the VC exposure. Sounds pretty tempting, doesn’t it?
Following on from all the above reasons, we can still mention some successful new startups that were backed by venture capital firms, just to turn the balance in favour of venture capitals. First and foremost, we can mention Airbnb: this Y Combinator startup has come a long way since 2009 and has raised an incredible amount of funding. You can book homes anywhere in the world at affordable rates through Airbnb. The other one is Rent the Runway that was recently named one of the most innovative companies in the world. Rent the Runway makes it convenient and cost-effective for women to dress for work, special events, and everyday life. Finally, we can highlight Coursera, which lets you take classes from the top colleges in the country and fun and interesting classes that you didn‘t have time to take in school – for free. 1
‘All right, now you’ve told me the pros and cons, but how do I decide on what to do?’ This may be the question on your mind, and rightfully so. The answer is – and I’m sorry, to be the stereotypical lawyer, but – ‘It depends’. It depends on the type of business, the target market, and your goals. MPD has recently written a pretty accurate and comprehensive guide that can help you decide.
Basically, the key is to align your financing strategy with your company’s potential. To put it very simply: go for bootstrapping in cases where the potential is relatively small, and raise venture capital if you’re building a giant.