For a lot of entrepreneurs, venture capital is the holy grail in their quest for capital investment.
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Inebriated with visions of multi-million dollar deals, some start their search by asking how much venture capital is available in the marketplace and then set out to claim it all for their company. They usually fail - not because their business is a bad investment, but rather because they were asking the wrong question.
Instead, the question young companies seeking venture capital should be asking is, "How much venture capital is right for my business?"
Some small businesses may be ready to receive large amounts of venture capital while others may not be prepared for an influx of any venture capital.
The difference depends largely on your company's current size, its growth potential, and its ability to manage the requirements that go along with a venture capital relationship. Here are a few things to consider when assessing how much - if any - venture capital is a good idea for your business.
Venture capitalists base the size of their investment on a valuation of your company's earnings potential. For them, the lower the valuation, the better because in a low-valued company their dollar goes further, resulting in a greater equity stake in your business.
Logically, you should be fighting for the highest possible valuation of your company's earnings potential in order to preserve as much equity as possible for yourself. With that in mind, don't necessarily take a venture capitalist's word for how much your company is worth. Find a third party who is capable of assigning a reasonable value to your company's earning potential, and use it as a basis to determine how much equity you are willing to hand over in a venture capital relationship.
The amount a venture capitalist is willing to invest in any given business varies from investor to investor. The typical range of investment a venture capitalist invests in a business is between $250.000 and $2 million, although it's not unusual for these investors to consider proposals for much larger amounts.
Venture capital investment is inherently risky, and if a venture capitalist believes in your business he will expect to see a return of three to five times his initial investment within five years. If your company is capable of generating that kind of return you'll want to retain as much equity as possible, so it's important to make the sure the amount of venture capital you receive lines up with your own equity goals and expectations.
Venture capitalists often specialize in a specific industry or subset of an industry. If the venture capitalist has experience in your industry, it might make sense to agree to a higher investment amount because the management stake the venture capitalist receives will be an asset to your business.
But if the venture capitalist doesn't have experience in your specific industry, you should be cautious about agreeing to an investment relationship of any size since the venture capitalist's management stake could easily become a liability.