Small Business Financing 101: What Is Venture Capital?
You’re the proud owner of a growing small or midsize business. You need capital, and fortunately, you have a range of options, from the routine (like bank loans) to the less orthodox (crowdfunding).
But for certain high-growth startups with big ideas and bold ambitions, one funding source stands out among the rest: venture capital.
VC can provide a major financial boost for companies ready to scale quickly, but it comes with unique trade-offs. If you’re considering whether VC is the right form of small business financing for you (or want to know more about it), read on as we discuss what it is and how it works.
What Is Venture Capital?
Venture capital is a form of private equity financing that provides early-stage and fast-growing businesses with funding in exchange for an ownership stake in the company.
The upside? Unlike loans or other debt, venture capital never really needs to be “repaid.” The downside? Investors receive a stake in your business. That’s a part of the business you no longer own. They’ll expect returns as the company grows, goes public or is acquired. And depending on the nature and size of the ownership, VC might have some say in how the company is run.
Venture capital firms typically raise money from institutional investors (such as pension funds, endowments or wealthy individuals), then pool that money into a fund used to invest in promising startups.
It’s the epitome of “high risk, high reward”: Many startups fail, but the ones that succeed can generate massive returns.
How Venture Capital Works
The venture capital process typically unfolds in stages, or “funding rounds,” each designed to help businesses reach a new level of growth. Some VC firms break down the process into even more stages than what we list here, but these are the most commonly used rounds:
- Seed: The earliest stage of VC financing, often used to fund the most rudimentary aspects of running a business, such as writing a business plan, marketing, advertising and research. Seed-stage funding often ranges between $500,000 and $2 million.
- Series A: Startups usually have a product or service in the market, as well as a tangible plan for making money. Series A funding often runs into the millions; recently, in a range of $2 million to $15 million.
- Series B and beyond: As companies mature, later rounds of funding help them expand — say, adding product or service lines, or spreading out geographically. Series C (and when applicable, Series D) funding rounds typically involve much larger investors than Series B. These rounds raise tens to hundreds of millions of dollars.
In exchange for this funding, venture capitalists receive an equity stake. They sometimes also take an active role in the company — useful in that they can provide mentorship and strategic guidance, but it can also affect leadership, as some VCs may claim seats on the board of directors.
Who Is Venture Capital Best Suited For?
Venture capital isn’t for every business. In fact, it’s a highly selective form of financing. VC firms look for companies with:
- High growth potential. Venture capitalists want to see the possibility of rapid scaling and significant returns. A new neighborhood restaurant might end up being a great, profitable business, but it’s unlikely to attract VC funding unless it has a unique, scalable concept (for example, a fast-casual chain with franchise potential).
- Innovative ideas. Startups in technology, biotech, fintech and other cutting-edge industries tend to draw the most VC attention.
- A strong founding team. Investors aren’t just buying into your idea — they’re betting on your ability to execute. Demonstrating expertise, experience and commitment is critical.
- A clear exit strategy. Venture capitalists expect to eventually cash out, whether through an initial public offering (IPO), an acquisition, or another liquidity event.
For entrepreneurs who fit the bill, VC funding can provide the capital — and connections — needed to grow exponentially faster than would be possible through organic growth or traditional financing.
What Entrepreneurs Should Expect
If you’re thinking about pursuing venture capital, here are some realities to prepare for:
1. You’ll Give Up Equity (And Some Control)
Unlike a loan, VC funding isn’t debt — it’s ownership. That means you’ll be giving up a portion of your company. In many cases, venture capitalists will also want a say in business decisions, particularly as your company grows.
2. It’s a Competitive Process
Venture capital firms receive countless pitches, but only a small fraction result in actual funding. Having a polished business plan, strong financial projections and a compelling story will help your company stand out.
3. It Can Be Time-Consuming
Raising VC money isn’t quick. It often takes months of pitching, negotiations and due diligence. Be prepared to spend significant time away from daily operations while seeking funding.
4. Mentorship and Connections Are Part of the Package
The right VC partner doesn’t just bring money — they bring experience and industry contacts. Many entrepreneurs find this strategic guidance just as valuable as the capital itself.
5. Returns Are Expected
VC investors are looking for significant growth, often 10x or more on their investment. This level of expectation can create pressure but also drive businesses to innovate and scale aggressively.
Alternatives to Venture Capital
If VC doesn’t seem like the right fit, there are plenty of other financing options for small businesses, such as bank loans and business lines of credit, Small Business Administration (SBA) loans, angel investors, crowdfunding platforms and even bootstrapping (self-funding).
Exploring all of your options can help you find the right financing strategy for your company’s goals and growth stage.
Ready to Explore Your Financing Options?
Venture capital is just one piece of the small business financing puzzle. Whether VC funding is right for you depends on your industry, growth potential and long-term goals.
If you’re considering your options, McManamon & Co. can help. We provide small and midsize businesses with expert guidance on accounting, tax and consulting services, including helping entrepreneurs understand financing strategies and prepare financials that stand up to investor scrutiny. Our team can position your business for growth—whatever path you choose.
Call us at 440.892.8900 or contact us online to learn how we can support your next stage of success.
Tags: financing, McManamon, McManamon & Co., small business, small business accounting, small business finances, small business financing | Posted in Financing, McManamon & Co.