How to raise Venture Capital for Startups in India
Venture Capital is an investment made by private or institutional investors into early-stage / start-up companies defined as new ventures. The investment is made into businesses that are small, new, or in the early stage but have huge potential to grow. This form of capital has its own risk since the investment is made in return for equity into the venture and there is always the possibility of losing the money if the venture fails.
Venture Capital firms are usually backed by institutional investors and high net worth individuals who come together and pool their money to invest in the business that is new, growing, or in trouble. Venture Capital investments are high-risk and low-liquid investments that are made with a long-term horizon into projects that are innovative and have huge growth potential. These investments can be made in the form of equity, participating debentures, or conditional loans.
Types of Venture Capital
Six stages in venture capital funding are made as per their usage at various stages of a business. These six stages fall under three categories that are corresponding to the periods of a company’s development.
Early Stage Financing:
- Seed money – Seed money financing is low-level financing that is used for proving the business concept and make it productive.
- Start-up Funding – Startup financing is made to new businesses that need funds to meet the expenses related to marketing and product development.
- First-Round Funding – Businesses that have spent their initial capital and need further finance to start the business activities on full-scale seek for the First Stage Financing.
Expansion Financing:
The expansion financing category leads to the second stage of financing, bridge financing, and third-stage financing or mezzanine financing.
- Second-Round Funding – Second-stage financing is provided to early-stage companies to begin their expansion. These companies have started selling their product or services but are not making a profit.
- Third-Round Funding: It is also known as mezzanine financing. It is provided to the companies that have just turned beneficial and now wish to expand in a major way.
Acquisition or Buyout Financing:
- Fourth-Round Funding: This financing is done to the companies that have an adequate presence and are profitable and now wish to acquire certain parts or an entire company.
Advantages and Disadvantages of Venture Capital for Entrepreneur
Venture Capital not only brings a large sum of equity finance without the obligation to repay back but also the expertise in the form of valuable information, institutional resources, technical assistance, and experienced management to the business. However, it also means that the investors become part owners of the business, and the founder loses autonomy. Venture Capital financing is a lengthy and complex process from which the real benefits can be realized in long run only.
Venture Capital funding is not easy to obtain and the entrepreneurs must understand the basics and the process of VC funding to make a successful deal.
Venture Capital Funding Process
Venture Capital investors typically focus on certain criteria such as the type of industry, the stage of the company seeking investment, and the geography. A startup should check whether its company is aligned with the focus areas of the venture capitalist. Venture Capital firms get innumerable emails asking for funding that is usually ignored, so it’s always better to approach a VC through a proper channel instead of sending a cold mail.
Obtaining funding through the Venture Capital route is a time-consuming process that starts from initial meetings to submitting a business plan and presenting a pitch deck followed by due diligence from the investor and VC issuing term sheet. Post negotiations and approvals by all the partners involved lead to the final drafting of legal documents and then the actual funding process gets over. Let’s discuss the process in detail in the following steps:
- Ideation and submission of the Business Plan
The very first step is to submit a business plan of the idea for which the entrepreneur is seeking funding from the Venture Capital. The business plan contains the following points:
- Executive summary of the business proposal
- Detailed summary of the business opportunity
- Market potential and the size of the market it plans to capture
- Description of the market competition
- Financial projections
- Details of the management of the company
Upon submitting the business plan the Venture Capital reviews it and decides whether it fits into their objectives and if they wished to go ahead with the project or not.
- Introductory Meeting
Once the VC completes the preliminary study and finds the project viable a meeting is called in which the entrepreneur presents the pitch deck and discusses the project in detail. After the presentation and discussion, the VC finally decides whether or not to move forward with the process of due diligence.
- Due Diligence
Venture Capital investor conducts thorough due diligence of the business under consideration. This process includes many activities such as seeking clarifications on various aspects of the business, physical visit to the site of the business, deep understanding of the product and business strategy, conducting management interviews and verification about the business and its owners conducted by the third party.
- Term Sheets and Funding
Once the proposal goes through the due diligence process satisfactorily, the VC presents a term sheet to the entrepreneur. A Term Sheet is a non-binding document that contains the basic terms and conditions of the investment agreement. Presenting a term sheet means that the VC is serious about investing and the investment committee has approved the venture.
The term sheet covers all the important facets of the financing such as:
- Valuation of the company
- Structure of the Board of Directors
- “Veto” rights the investors will enjoy
- Right to participate in future financings
The term sheet should be considered as a blueprint of the relationship that the entrepreneur will have with his or her investor. The term sheet is negotiable and the aspects are discussed to reach the final agreement. Once the final agreement is reached all the legal documents are prepared, funds are transferred and the board is restructured.
Venture capital financing is crucial for a startup to be successful. Considering venture capital investments as the high risk-high return proposition the investor should conduct a thorough study of the project while the entrepreneur should consider the route of venture capital when the business needs a large sum of investment and the founder is ready to lose the autonomy. By considering all the important aspects of venture capital financings, entrepreneurs can increase the likelihood of a successful outcome.
