Venture capital is the provision of capital for growth for small to medium sized companies at various stages in their start-up journey. It can be an attractive alternative option for start-ups unable to secure traditional methods of finance, such as bank finance. So in considering venture capital, here are five key issues a business should be aware of:
1. Plan ahead
Planning is key. For instance some venture capitalists only invest in the life science industry. So it’s important to know the various specialty sectors of the fund you plan to target, learn who they have invested in previously, and the amounts they invest before making an approach.
2. Clean up
The company must have its house in order. All venture capitalists will perform due diligence on the business and it is therefore imperative to have the share capital of the company accurately reflect the ownership of the business.
Make sure your returns are filed on time to the Companies Registration Office. The investor will want to assess the stability within the team. Staff should have robust employment contracts.
Where share options have been allocated or promised, there should be a clear employee share option plan (ESOP) in writing that ties in with the company’s constitution and other relevant shareholder agreements.
3. Business plan
All venture capital funds have to justify the risk they are taking and are extremely knowledgeable about the start-up space so the company must show the compelling value proposition for their business.
A well thought through business plan is essential. It must contain the following elements; the opportunity, a description of the product/service, the team, the market, business operations, financial projections and the proposition for capital investment. This in turn will show that the business can generate revenue because of its unique nature which people are willing to pay for and this is crucial for the business to demonstrate to the fund.
4. The Investment
Venture capitalists will usually invest by way of an equity investment for shares or some form of a loan note instrument. In exchange will generally receive significant control over company decisions, a board position, and an ownership stake in the business.
Accordingly, all the shareholding will dilute eventually and where applicable, various third party consents will have to be obtained prior to any investment.
For example the consent of a previous early stage investor. The company must put in place a corporate governance structure to facilitate this new relationship and implement this structure. This increases transparency and enables informed decisions to be made.
4. The Exit
It’s important to remember that the main objective of the venture capital fund is to make a return on the investment. A return will be targeted usually between three and seven years. Both parties should have an open discussion around the future of the business before any investment is made.