What is Venture Capital?

Venture capital is a means of financing fast-growing private companies. Finance may be required for the start-up, development/expansion or purchase of a company via a mechanism such as in a management buyout.

Growing businesses always require capital. There are a number of alternative methods to fund growth. These include the owner's own capital, arranging debt finance, or as in the case of venture capital, seeking an equity partner.

With venture capital, the venture capitalist acquires an agreed proportion of the equity of the company in return for the requisite funding. It is patient capital that seeks a return through long term capital gain rather than immediate and regular interest payments.

Venture capital investors are exposed therefore to the risk of the company failing. As a result the venture capitalist must look to invest in companies that have the ability to grow very successfully and give higher than average returns to compensate for the risk.

When venture capitalists invest in a business they become part owners and typically require a seat on the company's board of directors. They tend to take a minority share in the company and usually do not take day-to-day control.

The role of the venture capitalists is therefore to:

Finance new and rapidly growing companies;

Purchase equity securities;

Assist in the development of new products or services;

Add value to the company through active participation;

Take higher risks with the expectation of higher rewards;
Have a long-term orientation

When considering an investment, venture capitalists carefully screen the technical and business merits of the proposed company. Venture capitalists only invest in a small percentage of the businesses they review. Going forward, they actively work with the company's management by contributing their experience and business savvy gained from helping other companies with similar growth challenges.

Venture capitalists mitigate the risk of venture investing by developing a portfolio of young companies in a single venture fund. Many times they will co-invest with other professional venture capital firms. In addition, many venture partnerships will manage multiple funds simultaneously.

For decades, venture capital has been a critical factor in the development of America's high technology and entrepreneurial communities resulting in significant job creation, economic growth and international competitiveness. Companies such as Digital Equipment Corporation, Apple, Federal Express, Compaq, Sun Microsystems, Intel, Microsoft and Genentech are famous examples of companies that received venture capital early in their development.

In Australia, venture capital is a much younger and smaller industry. In fact it is only in the past several years that Australian fund managers have been able to establish a track record of financing Australian companies to become global players and of achieving superior returns for investors in venture capital funds.