Whither venturing in venture capital?

Venture capital (VC) is the best and focal source of finance for startups, which can consider it as a crucial financing to grow and succeed in the market place. VC may work like panacea to a start-up and help overcome financial troubles.

The reality is that one out of every 100 companies is likely to receive venture funding, and a high percentage of those companies still fail.

Many entrepreneurs who receive venture capital cite ownership dilution as a major deterrent to establishing a relationship with VC firms, as well as the ultimate loss in profits for the company due to firm’s ownership stake.

Thus, it is crucial that a startup considering entering the world of venture capital funding look at not just the available capital, but also the possible impact of venture capital funding on the undertaking.

On the contrary, the most obvious advantage in accepting venture capital fund is that it places money at a company’s disposal, because, there are often no repayment obligations during the term of the loan.

This financing requires neither the payment of dividends nor personal guarantees or collateral from the entrepreneur. The capital provided by the firm also increases the capital base of the startup, which improves the startup’s net asset value, making the undertaking more attractive to bank financing or future investors.

On the other hand, startups that receive VC also often experience many intangible benefits. VC firms have reputations for being highly selective, so the receipt of VC funding often strengthens a startup’s reputation among customers, other investors, and suppliers.

Not only that, even, VC firms resources, including access to technical specialists, accounting, taxation, and legal experts, industrial contacts, strategic partnerships, and access to new technologies accompany the investment.

This may help defray the steep legal and marketing costs associated with growing startups. As one of the members of the venture capital firm sits on the startup’s board of directors, the VC firms can provide structure and good decision-making as well as effective management to the fledgling company.

While there are many advantages to venture capital funding, it is not always appropriate for every startup endeavor. As, the venture capital investors sit on the board of directors for the startup, the entrepreneur will likely experience ownership dilution.

VC is also ultimately more expensive than debt financing as the firm typically takes an ownership stake in the startup, commonly referred to as an ‘equity position.’ It means, the VC firm is not just placing money at the disposal of the startup, but also participating in the operations as a part owner.

This has a greater impact on the company’s increasing value, as the stake that the VC firm has in the company, unlike simple loan, increases in value should the value of the company increase.

For example, if the firm takes a 20 per cent ownership stake in a company that is ultimately worth one hundred million dollars, the VC firm will receive twenty million dollars, even if the firm only contributed a very small amount of money but retained an equity stake in exchange.

In case the startup used debt financing instead, it would only owe the amount of the loan plus interest, which would undoubtedly be a smaller amount than the firm’s ownership stake.

VC financing is the amount of time and resources expended during the process of seeking and acquiring a firm’s support.

It may take anywhere from six to nine months to obtain financing, during which time the entrepreneur must compile and craft multiple documents, spend time with hired legal and financial advisors, and spend countless hours in negotiations with the firm.

As only one in hundred companies receives VC financing, many entrepreneurs are unwilling to waste precious time and money on the process.

More to the point, most of the VC funds are behaving like a financial controller like in the traditional type of investments. This attitude of VC has deterred many entrepreneurs from starting on their enterprises. If this continues, the country cannot exploit the creative abilities of people and cannot climb the ladder of scaling the startups promotion to make India turn a entrepreneurial India, in the days to come.

So what Indian venture capital need is a right and fitful strategy to nurture the nascent and promote the entrepreneurs properly by playing the role of nature in metamorphic change of a cater- pillar into a colorful butterfly. Otherwise, VC will carry a tag as venture capital without venturing in India.

By: Prof T Satyanarayana Chary
Writer is Dean, Faculty of Commerce & Business Management, Telangana University, Nizamabad