As the exciting, fast-moving world at the intersection of entrepreneurship and finance, venture capital attracts numerous starry-eyed students from the best business schools in the world each year.
Venture capital provides a unique and interesting entrepreneurial environment to professionals, offering exposure to a variety of companies and technologies as opposed to being withheld by a single investment or idea. It is a highly lucrative career path, both for professional development and financial success. For graduates fresh out of undergraduate programs, working in venture capital provides continuous exposure to up and coming entrepreneurial ventures and ideas in varied industries.
Venture capital also provides the highest median salary of $170,000 inclusive of bonuses for the analyst position, ahead of investment banking ($150,000) and management consulting ($100,000). It only gets better with progress to the post-MBA position of an associate.
In 2017, the forecast for the venture capital industry has been quite optimistic, as the venture capital firms are flush with funds, and the Internet of Things (the phenomenon of connecting anything that can be switched on and off to the internet- including washing machines and oil rig drills ) along with big data analytics are driving a high number of deals. In the last year, venture capital in the United States raised $40.6 billion in fundraising, the highest since 2010. This is quite in keeping with the United States leading in venture capital confidence worldwide.
Everyone studying or working in any business function has at least a rudimentary understanding of the working of this industry due to the global start-up craze (the terms ‘seed capital’, ‘start-up accelerators’ and ‘million dollar IPO’ should spring to mind), but a detailed analysis can only manifest in much better career choices.
Whether you are an undergraduate student with experience in working with start-up incubators, or an MBA with years of work experience in a completely different industry, read on to learn a few things about the workings and opportunities in the venture capital industry.
What is Venture Capital?
Venture capital is the financial capital provided by investors to startup companies and small-medium businesses with high growth and profitability potential. As Fred Wilson, famous financier and founder of Union Square Ventures (which has investments in Twitter, Tumblr, Kickstarter and Zynga amongst others) put it: “Venture capital is about capturing the value between the startup phase and the public company phase.”
Venture capital is an essential source of startup funding for businesses which are at too nascent a stage to obtain bank loans or issue debt offerings, or essentially lack access to capital markets. This funding is in the form of equity capital, and generally comes in at a stage after initial funding or seeding. Venture capital is typically a high-risk, high-return investment in a company with a unique selling point in fast-growing fields such as mobile technology and biotech. Venture capital buys investors significant influence in company decisions and market actions. The venture-backed company’s alternative to going public or an IPO is acquisition by another company, and both these are known as “exit” strategies that generate profits for the investors and entrepreneurs. The average time for a venture-backed company’s exit is five years through M&A, and seven years via IPO.
The Difference Between Venture Capital and Private Equity
Private equity and venture capital are related but quite distinct investment strategies- the difference being the investment in different types and sizes of firms, size of investment and equity stakes. Private equity is concerned with established, mature firms and private equity firms generally acquire 100% ownership of these firms. In contrast, venture capital firms typically acquire 50% or less of firm equity. Venture capital firms also diversify risk by investing in different companies, whereas private equity firms concentrate on a single company where the risk is minimal- as the company is already well-established. Consequently, private equity investments are also large sized- anywhere between $100 million to many billions. Venture capital investments are modest in comparison; often below $10 million. Private equity investment is done in both cash and debt, but venture capital investment is only in terms of equity.
The Venture Capital Industry
The venture capital industry is quite small, and the players of the industry include corporate venture capital firms (Salesforce Ventures, Comcast Ventures, Bloomberg Beta), affiliations of global investment banks, buyout and venture-leasing firms, and independent investors such as high net worth individuals (also called ‘angel investors’). The National Venture Capital Association’s directory of members is a good place to familiarize yourself with the firms in the industry.
In the last decade, the venture capital industry is said to have taken on a “barbell” structure; there are numerous small-sized funds (such as Ampersand Ventures, Geocapital Partners, Hummer Winblad) and a handful of large funds operations (such as Bessemer Venture Partners and the Mayfield Fund), with only a few moderate-sized funds (such as Matrix Partners, General Catalyst, Menlo Ventures) in the middle.
The world’s leading venture capital investors by number of deals are Sequoia, 500 Startups and New Enterprise Partners.
Venture capital partners can be segregated by the stage they invest in; early-stage, growth stage or late-stage companies. Much of the industry can be divided into two categories: early-stage and late-stage focused firms. The former is the sort of firm that comes to mind in the current age of start-up success and stories; these are investors looking to fund new breakthroughs in services and technologies via nascent companies. The latter focus and invest in established but undervalued companies (much like private equity firms), and work on improving company performance through elimination of business problems. The key difference is expertise; early-stage focused venture capital firms aim to embody technical know-how, whereas the later-stage focused venture capital firms concentrate on building value through financial expertise and operations.
In the United States, investments in the software sector dominate the venture capital industry, with over 40% of market share invested in the high-tech companies of Silicon Valley. The sectors inspiring the most confidence at the international level are cloud computing/ SAAS and mobile services. The larger funds such as Sequioa, Benchmark, Bessemer etc. invest in a large variety of industry sectors, in contrast to the seed funds which target niche sectors.
At the Firm Level
Venture capital firms are known to be small-sized, with 5-50 employees and a large amount of funds. While the internal organizational hierarchy can vary from firm to firm, most have a structure and positions similar to investment banks: analyst, associate, principal and partner.
Apart from the attractiveness of the industry, the very few openings each year in venture capital firms make the industry incredibly competitive; the industry has organizations with an “inverted” pyramid structure; more partners than analysts. This makes the junior positions even more competitive; there are less than 10,000 positions available globally each year.
The attrition rate in the venture capital industry is also low in comparison to industries such as investment banking, consulting and technology, probably because only people highly passionate about the field are able to break into the industry, unlike fields where the compensation or label is the biggest attraction. Most venture capital firms only recruit when they are raising a new fund, so people who are able to enter the field have also waited a long time to land a position.
Each firm is distinctive in the approach to generating returns, fund size, industry focus and stage of investing. The type of venture capital firm determines whether the firm places greater focus on sourcing, due diligence or portfolio company work. Firms interested in early-stage investments place more of an emphasis on sourcing and market sizing. The closer the firm is to the “private equity” end of the spectrum, the greater the focus on due diligence and deal execution. These firms prefer candidates with ideally a background in finance, with profiles similar to those of counterparts in investment banking.
What Do Venture Capitalists Do?
Venture capitalists have three major responsibilities: scouting investment opportunities, developing these opportunities for investment, raising funds for investment.
As an analyst, the three tasks that this boils down to are communication, deal sourcing and analysis. Most of deal sourcing is done through daily networking, and continuous cold calling to have ideas to pitch at a weekly investment committee meeting. This also means a lot of report writing and presentations.
A typical workday can involve a significant amount of number crunching on Excel as part of the quantitative analysis required to study the viability and profitability of an investment.
An associate, typically a post-MBA candidate from a prestigious university, is responsible for conducting advanced financial modelling, market-fit analysis and marketing strategies.
The responsibility of fundraising is generally left to more senior employees.
Hours are longer during deal execution, but are more flexible during the stage of sourcing and investigating potential investments. Venture capitalists work an average of 60 hours per week, depending upon the stage of investments. This sounds quite close to a traditional workweek, and relatively mild compared to the demanding workweek in fields like investment banking, but can be demanding depending upon professional goals and drive for progression within the firm.
Venture capital is an exciting but highly competitive industry. Now that you have a coherent image of the industry and functions, the next step is to explore opportunities and inroads. There are several routes to a career in venture capital, and the next article on VMock Thinks will explore these in detail to help you break into this field.