In our previous posts, we’ve already talked about what venture capital is as well as its pros and cons. If you are interested in getting to know the basics of VC and haven’t yet read them — you know what to do. 😉
Venture capital is becoming an increasingly popular source of additional funds for young companies — over $282 billion was invested in prominent startups in 2019. If you think that venture capital is a go-to source of external funding for you, it’s imperative to understand the types of venture capital investors. Let’s dive right into it!
Friends & Family
It may sound surprising, but friends and family account for over $70 billion of investments in startups per year. Seeking investment from friends & family is a popular way of getting your company off the ground — in fact, 38% of startup founders resort to that source of funds. The average amount invested is $25,000.
Business angels (or angel investors) are independent individuals who invest in companies directly and operate with their own capital. They are typically wealthy individuals (over $1 million in assets), and many of them have fundraised for their own projects. That’s why they usually provide not only money but also personal involvement and expertise. Angels typically invest in early stages (Angel, Seed, and sometimes Series A rounds). Some of the notable business angels are Naval Ravikant, creator of Angel.co, Mark Benioff creator and CEO of Salesforce.com, and Fabrice Grinda, one of the creators of Twitter and Square.
An accelerator takes startups at the very early stages — when there is only a prototype or MVP (minimum viable product) or the platform already has first users. Startups receive capital, one-on-one mentoring, and access to a network of partners. In exchange, an accelerator takes a set amount of equity (usually 6–10%).
Accelerators usually bring a cohort of prominent startups in what is typically an on-site program (it’s remote during the lockdown, though), and the program usually lasts for three to six months. At the end of the program, startups will ‘graduate’ from the accelerator program, and can present their company in front of potential investors — the event is called “Demo Day.”
Incubators accept startups at the idea stage — when founders are just beginning to discuss the future business model, look for a team, and study the market. An incubator can either charge a fee for its services or take equity. Startups receive mentoring support, access to private events, and other valuable resources to help them learn how to build a business from scratch.
Venture Capital Fund
VC funds are pooled investment funds that manage money from a group of investors with the help of partners. The contribution of each investor can reach several million dollars. Funds are looking for innovative early-stage projects and finance them with the money invested by the co-founders.
Venture capital funds invest in startups at a variety of stages, ranging from Pre-Seed to Series A and beyond, and take equity in exchange for capital. VC funds can lead the rounds (account for a majority of the round sum) and participate in future company management or co-invest with other investors and become more of a passive investor.
As a rule, 70–80% of projects do not bring returns, but the profit from the remaining 20–30% pays for all losses. Examples of venture funds: Andreessen Horowitz, Sequoia Capital, Bessemer Venture Partners, Benchmark, TA Ventures, etc.
Corporate Venture Fund
A corporate venture fund is the venture arm of a large corporation. It means that corporate funds are invested directly in external startup companies, without the help of an external fund managed by some third party. Corporate venture funds usually invest in strategically important industries for the beneficiary.
Examples of corporate venture funds: Google Ventures, Intel Capital, Cisco Investments.
Venture capital is not suitable for every startup but sometimes it can be a crucial factor in getting the company off the ground. If the only thing you’ve got is an interesting idea, your best choice would be one (or more) of the three sources: Friends & Family, an Incubator, or Business Angels. If you have already developed a prototype or even have first clients, you can turn to an Accelerator or a Venture Capital Fund. Further development may be supported by the funds of Business Angels, VC funds, and Corporate VC funds.
However, you should always keep in mind not only the benefits of a particular type of investor but also its drawbacks. Before starting to seek external funding, it’s crucial to clearly define your goal and strategy. If you want to retain all the management control over the company, it’s better to tap Family & Friends or Angels as they are more loyal to founders’ needs and provide them with more freedom in decision-making. Incubators, accelerators, and, especially, VC funds are usually more result-oriented — they want to have high returns on their investments as soon as possible. That’s why sometimes they can put pressure on founders if it seems to them that the path a company is going is not the best one. With the possibility of being pressured, however, come greater checks, so it’s always your choice what investor type is the most suitable for your needs.
Good luck in your entrepreneurial endeavors!