Fredrik Leek, Jan Johansson - Tillväxtbloggen

Startups part 3 – VC thinking

What is ‘Venture Capital’ (VC)?

A venture capitalist is a person who invests in a business venture, providing capital for promising startup or young businesses that have a high potential for growth. These investors(persons or firms) seek high rates of return by (typically) investing in IT, bio-pharmaceuticals, clean technologies etc. These investments obviously come with substantial risk.

Understanding how Venture Capital Funding Business Models work might help start ups better secure needed funding.

First of all everyone needs to understand that this is a “Numbers Game”. Horsley Bridge distributed anonymous historical data on investment returns of hundreds of VC funds they have invested in since 1985 and found “6% of investments representing 4.5% of dollars invested generated ~60% of the total returns”. Meaning that these investors are aware that a substantial number of their companies will fail, however the ones that succeed typically excel. For this model to work VC’s must find the next “rocket ship” in order continue funding the next new venture. Babe Ruth Effect in Venture Capital.

Now just because we said that these VC’s are aware that many of their investments will fail, does not mean they are going to throw money at you just for showing up. Scalability is extremely important! Depending on the individual investing profile of the VC they will require a different level of growth potential (3X, 10X, 50X+) in order for the start up to secure funding.

Every VC has their own investing profile. These profiles are typically defined based on previous experience, the amount of capital that is able to be invested, a level of risk analysis, and a number of market calculations. These evolution tools can be extremely complex and utilise AI (machine learning) to the decision making process. For a regional list of VC requirements in Swedish.

At the risk of over simplifying the entire process VC’s need to see three things in order to invest:

  1. A clear market problem
  2. Large (normally global) growth potential
  3. Have the ability to generate revenue

Building a company in Northern Sweden is a bit unique and creates both, benefits and challenges.

Advantages:

  • Resources (Top Management, VC’s, Incubators, Universities) are approachable
  • Sweden (in general) early adopter mentality
  • Broadband Internet Levels / Technical competencies

Challenges:

  • Small Local, and Regional market size in most industries
  • Distance to major centres (Stockholm)
  • Recruitment challenges, finding the right people for growth companies.

Another thing to remember is that these VC firms get pitched daily/weekly/monthly, this is their business. A small VC firm in Stockholm may evaluate 150 potential investments each year and invest in 4-7 companies. We recommend that any project looking for funding to do their homework on their VC (know their preferences and investing profile) and to be prepared to answer the tough questions. Good luck!

20150316062035-shutterstock-255222718

Image Sources:
Bolurfrushan, A. (2015).Venture Capital As The Future Of Innovation. Entrepreneur Middle East. Venture Capital. Available at: https://www.entrepreneur.com/article/245671. Image credit: Shutterstock

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