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Finance > Venture Capital > Different
from banks
How VCs differ from banks
Conventional financing
generally extends loans to companies, while VC financing invests in equity
of the company. Conventional financing looks to current income i.e.
dividend and interest, while in VC financing returns are by way of capital
appreciation. Assessment in conventional financing is conservative i.e.
lower the risk, higher the chances of getting loan. On the other hand VC
financing is a risk taking finance where potential returns outweigh risk
factors.
Venture Capitalists also lend management support and provide entrepreneurs with many other facilities. They even participate in the management process. VC generally invest in unlisted companies and make profit only after the company obtains listing. VC extend need based support in a number of stages of investments unlike single round financing by conventional financiers.
VC are in for long run and rarely exit before 3 years. To sustain such commitment VC and private equity groups seek extremely high returns.. a return of 30% in dollar terms . A bank or an FI will fund a project as long as it is sure that enough cash flow will be generated to repay the loans. VC is not a lender but an equity partner.
Venture
capitalists take higher risks by investing in an early-stage company with
little or no history, and they expect a higher return for their high-risk
equity investment. Internationally, VCs look at an internal rate of return
(IRR) north of 40% plus. In India, the ideal benchmark is in the region of
an IRR of 25% for general funds and more than 30% for IT-specific funds.
With respect to investing in a business, institutional venture capitalists
look for average returns of at least 40 per cent to 50 per cent for
start-up funding. Second and later stage funding usually requires at least
a 20 per cent to 40 per cent return compounded per annum. Most firms
require large portions of equity in exchange for start-up financing.