Pros And Cons Of Venture Capital Funding

28 Oct 2020

#Startup Library

#Trends

#Useful Information

#Venture Capital

At the heart of every successful business lies a good idea, but even the most prominent one may fail if there is not enough financing for its implementation and growth. Some founders manage to “bootstrap” their businesses — they build a company from the ground up without any external input and rely only on their personal savings and revenue to operate and expand. While bootstrapping means that the entrepreneur has total control over all decision-making and nobody from the outside can dictate what to do with his company, it is usually a tough way to go. Quite often, bootstrapping means limited resources that can inhibit growth, prevent promotion, and sometimes even undermine the integrity or quality of the product or service. Moreover, market players with substantial financing usually quite easily outperform those who are limited to bootstrapping, so if there is high competition, money matters a lot.

Thus, some entrepreneurs decide to seek external financial help — bank loans, grants, investments from private individuals (angels), investment funds, etc. Venture capital has been on the rise for quite some time as probably the most convenient and the fastest way to get outside financial support, so today we will discuss its advantages and disadvantages for entrepreneurs.

Defining Venture Capital Funding

In our previous article on VC (Venture Capital: Introduction), we’ve covered its origins and rationale, but let’s sum it up in short. Venture capital funding implies financing startups from the pockets of well-off investors, investment banks, and any other financial institutions. Startups attracting venture capital are early-stage or emerging tech companies with long-term growth potential. In exchange, investors get an equity stake in the startups they invest in as well as the right to participate in the decision-making processes. While it’s risky for venture capitalists to put up their funds in young companies with no certainty, potential returns are well above average, especially if investors diversify their portfolios (invest in various business models and sectors).

Pros of Venture Capital

1. Financial resources — the money is yours! Banks may give you a loan but you have to repay both the body and interest, and it’s quite difficult to scale while having a debt. VC firms, on the other hand, give you the money which you can use as you please — investors only get a stake in your company.

2. Business expertise and support. As VCs want to get hefty returns from the investment in your company, they, so to say, have skin in the game and are willing to do everything they can (within reason, of course) to help your startup grow and. As a result, mentoring, expert advice, help with hirings, and training frequently come as part of the investment package.

3. Connections. Not only are VCs useful in terms of business support, but, quite often, they also have an extended network of investors — other VCs that may participate in financing your company.

4. Swift growth unlocked! If your product or service is complete and you’re ready to scale, VC funding would be a perfect choice. Additional financial resources enable quick and swift expansion both nationally and into new markets. When competition is fierce, additional capital behind a startup is just what it needs.

Cons of Venture Capital

The fact of securing venture capital funding is great on many levels, but it doesn’t mean that there are no drawbacks. Here are the main ones:

1. Less control over the company. Since investors’ financial success depends on your company’s performance, most likely they will want to get at least a little steering power over your decision-making.

2. Attracting money is not that easy. Startup founders usually spend a considerable amount of time and energy getting together and perfecting their pitch, reaching out to various investors, and dealing with multiple follow-up meetings. And there are no guaranteed results for your hard work, so you have to be prepared for a long slog, especially when you’re a first-time founder and you haven’t raised investment rounds before.

3. Your company may not be ready. Indeed, getting large amounts of cash sounds great, but many startups actually need to spend a lot of time on the product or service development at the early stages. Thus, early scaling (and that’s what most VC firms will expect of you) can be detrimental to startups that are not yet market-ready and haven’t built a strong enough foundation to help them withstand the pressures of the next stages.

Summary

While external financing in the form of venture capital funding may be a perfect choice for many startups, it is not a panacea for everyone. When deciding on whether to attract venture capital, answer the following questions: Are you able to give up a portion of control over your company? Is your company ready for the money injection? Are you ready to spend much time on communication with investors and pitching your product without guaranteed results? If yes, go ahead and start preparing your perfect pitch!

At Idealogic, we dealt with several startups trying to raise venture capital funding. From their words, it’s a complicated process that requires a lot of energy, time, and stamina. Moreover, you should always be ready for uncomfortable questions from investors as they want to know the ins and outs of your business before putting up their money. Summing up, venture capital is a good option when bootstrapping is not enough for setting up and scaling your business, but if you can manage to cope without asking for external financial help, our take is that you’d better not seek it as there are no guarantees that your hard pitching work will be duly rewarded.

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