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In additional to a portion of the equity, a VC expects to have a say in how its portfolio company operates. Ideally, the VC fosters growth at the company through its involvement in managerial, strategic, and planning decisions. To do this, the VC relies on the expertise of its general partners who may be former CEOs, bankers, or experts in a particular industry. In most cases, one or more general partners of the VC take Board of Director positions at a portfolio company. They may also help recruit key executives to the portfolio company.
It's important to do your homework before approaching a VC for funding, to make sure you're targeting the right potential partner for your business needs. Not all VCs invest in ‘start-ups.' While some may invest small amounts of “seed” capital for very early ventures, many focus on early or expansion funding (see section III. Types of Funding), while still others may invest at the end of the business cycle, specializing in buyouts, turnarounds, or recapitalizations.
VCs may be generalists that invest in a variety of industries and locations. More typically, they specialize in a particular industry. Make sure your company falls within the VC's target industry before you make your pitch – a VC that's focused on biotechnology start-ups will not consider your request for later-stage funding for expansion of your semiconductor firm. You can often gain insight into a VC's investment preferences by reviewing its website.
In addition to industry preferences, VCs also typically have a geographic preference. Being in the same general location as a portfolio company allows the VC to better assist with business operations such as marketing, personnel, and financing.
Keep in mind that venture capital is not an option for all new businesses. In fact, VCs are very selective in choosing new companies to invest in, so your company may not qualify. They're most interested in businesses with high growth potential that will allow them to successfully exit with a higher than average return in a time frame of roughly three to 10 years, depending on the type of investment. Given the rigorous expectations, most venture funding goes to companies in rapidly expanding industries such as technology, biotechnology, and life sciences.
There are some excellent alternatives to venture capital that you should also explore in your search for funding sources. One such alternative is an angel investor – a term for an investor that takes you under its wing and lifts you up to the next level of growth. Angel investors typically do not have deep pockets so the average investment tends to be smaller than that of a VC, typically hundreds of thousands of dollars rather than millions. For that amount of capital, proceed with caution if you're considering giving up some control over your company. For instance, it may not be wise to give a Board position to an angel investor who does not necessarily have the time, experience or expertise to make a significant contribution to your company.
You might also consider a strategic investor partner in place of a VC investment. This could be a vendor, customer, or other business partner with whom you're currently working, who might be interested in investing in your company. A strategic investor often has deeper pockets than an angel investor, but typically has a specific reason for investing in your company – make sure you know the reason behind the investment. The investor may only want to leverage your technology for its own purposes, which could have a negative impact on your business. Or, the investor may want a licensing distribution agreement if your company succeeds, which could benefit you. Make sure your interests are aligned.
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