<aside> 📚 Lectures (NVCA) What is VC?
(SBV) What is VC?
(SBV) Stages of VC
(Bob Zider for HBR) How VC works
(VC Lab) What is Venture Capital?
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Venture capital (VC) is a type of private equity financing provided to early-stage, high-potential, and growth companies that have the potential to generate significant returns on investment. Venture capital firms invest in these companies in exchange for an equity stake, typically through the purchase of shares or convertible securities.
The main goal of venture capital is to support and nurture startups and emerging companies that have innovative ideas or disruptive technologies but may lack sufficient capital or resources to scale their operations. Venture capitalists provide not only financial capital but also strategic guidance, industry expertise, and valuable networks to help these companies grow and succeed.
Venture capital investments are considered high-risk, and high-reward, as many startups fail to achieve significant growth or profitability. However, successful investments can yield substantial returns, making venture capital an attractive asset class for investors seeking long-term capital appreciation.
Venture capital funding typically occurs in multiple stages, starting from seed funding for early-stage companies and progressing through subsequent rounds of financing as the company achieves milestones and demonstrates market traction. The ultimate goal for venture capitalists is to exit their investments through an initial public offering (IPO), acquisition, or other liquidity events, generating substantial returns for their investors.
Overall, venture capital plays a crucial role in fostering innovation, driving economic growth, and supporting the development of new technologies and industries.
<aside> 📚 Lectures: Ahmad Takatkah (2019) Understanding Venture Fund Structures, Team Compensation, Fund Metrics and Reporting (link) Litvak, K. (2004) Venture Capital Limited Partnership Agreements: Understanding Compensation Arrangements (link).
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In a traditional venture capital (VC) fund structure, there are two main parties involved: the General Partners (GPs) and the Limited Partners (LPs).
The GPs are the founders of the VC firm who are responsible for devising the fund, raising capital from LPs, and managing the overall operations of the fund. They typically have a track record in relevant industries or technology/startups and bring their expertise and network to support the portfolio companies. The GPs may receive a share of the profits, known as "carry," and an annual management fee as compensation for their services.
The LPs are the investors who provide the capital for the VC fund. They can be high net-worth individuals, family offices, foundations, corporations, endowment funds, pension funds, or funds of funds. LPs contribute the majority of the fund's capital and have limited liability. They rely on the expertise and track record of the GPs to make investment decisions and generate returns.
The VC fund operates under a limited partnership agreement (LPA), which outlines the rights and responsibilities of both the GPs and LPs. The LPA details the fund's investment strategy, the distribution of profits, the management fee structure, and other important terms and conditions.
The economics of a traditional VC fund usually involve a 20% carry, which is a share of the profits generated by the fund, net of the invested capital. The management fee is typically around 2% to 2.5% of the total committed capital of the LPs, paid annually.
Overall, the traditional VC fund structure allows GPs and LPs to collaborate in identifying and supporting promising startups and generating returns on investment.