1

VENTURE CAPITAL
SOURCES
Meaning and Definition of Venture Capital 2

• Venture Capital is an important source of finance for those small and

medium- sized firms, which have very few avenues for raising funds.
• Although such a business firm may possess a huge potential for earning
large profits in the future and establish itself into a larger enterprise. But the
common investors are generally unwilling to invest their funds in them due
to risk involved in these types of investments.
• In order to provide financial support to such entrepreneurial talent and
business skills, the concept of venture capital emerged.
• In a way, venture capital is a commitment of capital, or
shareholdings, for the formation and setting-up of small scale
enterprises at the early stages of their lifecycle.
•
Meaning and Definition of Venture
The term venture capital comprises of two words, namely, ‘venture’
3
and
Capital
‘capital’.
• The term venture literally means a course or proceeding, the
outcome of which is uncertain.
• On the other hand, the term capital refers to the resources to start
the enterprise.
• However, the term venture capital can be understood in two ways.
• A venture capitalist (also known as a VC) is a person or investment firm
that makes venture investments, and these venture capitalists are
expected to bring managerial and technical expertise as well as
capital to their investments.
 Meaning and Definition of Venture Capital 4

• The term Venture Capital fund is usually used to denote Mutual funds
or Institutional investors. They provide equity finance or risk
capital to little known, unregistered, highly risky, young and
small private business, specially in technology oriented and
knowledge intensive business.
• According to Jane Koloski Morris, “ Venture capital is defined as
providing seed, startup, and first stage financing and also funding
expansion of companies that have already demonstrated their
business potential but do not yet have access to the public securities
market or to credit-oriented institutional funding sources, Venture
Capital also provides management in leveraged buy out financing”.
Equity: 6

• A new company is not capable enough to return the money to investors

on time as it is still at the stage of a growing startup.
• Thus, they take money from the investors via equity financing through
which they give a certain percentage of the equity to the investors,
which cannot be more than 49% of the total stake.
• Thus, the company manages to retain its ultimate power and get finance
from investors in return for the equity shares of the company itself.
• This is the most used method in Venture Capital financing.
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Conditional Loans:
• They are different from bank loans.
• There is no fixed rate of interest attached to these loans.
• There is no predetermined schedule for payment.
• When the venture capital undertaking starts making revenue,
they repay the finance provided by the investor in terms of
royalty, which varies from 2% to 15%.
 Income Notes: 8

• The income note combines the features

of conventional and conditional loans in a
way that the entrepreneur has to pay
both interest and royalty on sales at
low rates.
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Convertible Loans
• A time is fixed for payment of interest on the
loan and in case it is not paid within that
stipulated time, the loan gets converted into
equity shares method in which the investor is
given a certain percentage of equity in the
Venture Capital Undertaking.
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Quasi-equity
• Also known as Revenue Participation Agreements.
• A type of financial instrument that allow both the investor and investee to share the risk and reward of
enterprise more flexibly than debt allows and in situations in which equity financing is not possible.
• If the company fails to reach the expected performance benchmark, the investor receives a significantly
lower return. However, if the company goes through a more profitable growth stretch than expected,
the investor receives greater financial return.
• It is also possible to place a ceiling on the possible return, if a company does exceptionally well in the
future years there will be a payment cap that does not allow the investor to receive anything more than
what the cap is regardless of how well the business performs.
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Participating Debentures
• generally offer the interest rate like venture capitalists and seed fundings.
• For example, initially, no interest will be paid for a stipulated time period, however,
then some interest will be paid and finally a higher rate of interest will be paid.
• The firm pays the interest to the investor firm on distinct rates for different stages
of its operations.
• The interest is nil before the commencement of business, low-interest rate after
the commencement, and higher interest rate after a particular level of
operations.
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Initial Public Offering (IPO):

• means that a company's ownership is transitioning
from private ownership to public ownership.
• For that reason, the IPO process is sometimes
referred to as "going public.“
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A buyback
• also known as a share repurchase, is when a company buys its
own outstanding shares to reduce the number of shares
available on the open market.
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•A subscription agreement is a formal

agreement between a company and an
investor to buy shares of a company at
an agreed-upon price.
•It contains all the details of such an
agreement, including Outstanding Shares,
Shares Ownership, and Payouts.
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•A shareholders' agreement is an arrangement among the

shareholders of a company.
•It protects both the business and its shareholders.
•A shareholders' agreement describes the rights and obligations
of shareholders, issuance of shares, the operation of the
business, and the decision-making process
• Term sheet is a non binding agreement
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outlining the basic terms and conditions

under which an investment will be made.
• Term sheets are most often associated with start-
ups.
• Entrepreneurs find that this document is crucial to
attracting investors, such as venture capitalists
(VC) with capital to fund enterprises.
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Management Rights Letter typically

gives investors additional rights and
increased access to the company’s
financial information and corporate
decision-making.
Characteristics of Equity Financing Grants Debt Financing
Investment 19

NATURE There is no component of the There is no component of

repayment of the invested the repayment of the Invested Funds to be
funds. This type of investment invested funds. Grants are repaid within a stipulated
requires the external person to mainly given by the time frame with interest
take ownership of the business. Government for special
purposes.

SOURCE OF Angel Investors, Self-financing, Central Government, Banks, Non-Banking

FUNDING Family and Friends, Venture State Governments, Financial Institutions,
Capitalists, Crowd Funding, Corporate Challenges, Government Loan
Incubators / Accelerators Grant Programs of Private Schemes (Credit
etc. Guarantee Fund Trust for
Micro and Small
Enterprises (CGTMSE),
Mudra Loan, Stand-up
India) etc.

RETURN TO Capital growth for investors No return Interest Payments

INVESTOR
Characteristics of Equity Financing Grants Debt Financing
Investment 20

RISK FACTOR The risk factor for the investor There is no risk factor for
Risk Factor for the
is higher as he has no the startup as no investor is lower as
guarantee against his collateral is involved.
investor generally has
investment. collateral against his
investment.
REPAYMENT Less pressure for startups to No pressure for More pressure for
MANNER adhere to a repayment repayment as grants are a startups to adhere to the
timeline but added pressure form of monetary support repayment timeline and
from investors to achieve provided for a specific as a result more pressure
growth targets. purpose to generate cash flows to
meet interest
repayments.
INVOLVEMENT IN Equity Fund Investors usually No direct involvement in Debt Fund has very little
DECISIONS MAKING prefer to involve themselves in decision making. involvement in decision
decision-making process. making.
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FORMS OF OWNERSHIP
Sole Proprietorship 22

•A sole proprietorship—also referred to as a sole trader or a proprietorship—is an unincorporated

business that has just one owner who pays personal income tax on profits earned from the
business.
•Many sole proprietors do business under their own names because creating a separate business
or trade name isn’t necessary.
•A sole proprietorship is the easiest type of business to establish or take apart, due to a lack of
government regulation.
•As such, these types of businesses are very popular among sole owners of businesses, individual
self-contractors, and consultants.
•Most small businesses start as sole proprietorships and either stay that way or expand and
transition to a limited liability entity or corporation.
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Pros Cons
•Less paperwork •Unlimited liability goes from
•Quick and easy setup business to owner
compared with other business •Difficulty in raising capita
structures
•Low fees and costs
•Pass-through tax advantage
•Easier banking
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Partnership 26

•A partnership is a formal arrangement by two or more parties to manage

and operate a business and share its profits.
•There are several types of partnership arrangements. In particular, in a
partnership business, all partners share liabilities and profits equally, while
in others, partners may have limited liability. There also is the so-called
"silent partner,“ in which one party is not involved in the day-to-day
operations of the business.
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There are three main categories of partnership: general partnership, limited partnership, and limited liability
partnership.
• In a General Partnership, all parties share legal and financial liability equally. The individuals are personally
responsible for the debts the partnership takes on. Profits are also shared equally. The specifics of profit sharing
will almost certainly be laid out in writing in a partnership agreement.
• Limited Liability Partnerships (LLPs) are a common structure for professionals, such as accountants, lawyers, and
architects. This arrangement limits partners' personal liability so that, for example, if one partner is sued for
malpractice, the assets of other partners are not at risk. In an LLP, partners are not exempt from liability for the
debts of the partnership, but they may be exempt from liability for actions of other partners.
• Limited Partnerships are a hybrid of general partnerships and limited liability partnerships. At least one partner
must be a general partner, with full personal liability for the partnership's debts. At least one other is a silent
partner whose liability is limited to the amount invested. This silent partner generally does not participate in the
management or day-to-day operation of the partnership.
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Company 31

• A company is a legal entity formed by a group of individuals to engage in and operate a business—
commercial or industrial—enterprise.
• They can be distinguished between private and public companies. Both have different ownership
structures, regulations, and financial reporting requirements.
• A company is essentially an artificial person—also known as corporate personhood—in that it is an entity
separate from the individuals who own, manage, and support its operations.
• Companies are generally organized to earn a profit from business activities, though some may be
structured as nonprofit charities.
• Each country has its own hierarchy of company and corporate structures, though with many similarities.
• A company has many of the same legal rights and responsibilities as a person does, like the ability to
enter into contracts, the right to sue (or be sued), borrow money, pay taxes, own assets, and hire
employees.
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Pros Cons

•Diversification •Increased financial risk

•Increased legal liability
•Creative Freedom
•Long hours
•Flexibility
•Health risks due to stress
•Following your dreams
•Responsibility for employees and
•Leaving a legacy administrative staff
•Job creation •Tax issues
Public vs. Private Companies 33

PUBLIC CO.:
• A public company allows shareholders to be equity owners when they purchase shares through a stock
exchange. Someone who owns a large number of shares has a larger stake in the company compared to
someone who has a small number of shares. Shares are first issued through an initial public offering
(IPO) before trading begins on a secondary exchange. Apple, Walmart, Coca-Cola, and Netflix are all
examples of public companies. Public companies are held to strict reporting and regulatory
requirements by the SEBI. Under these guidelines, companies must file financial statements and reports
annually outlining the financial health of the company. This prevents fraudulent reports and activities.
Public vs. Private Companies 34

PRIVATE CO.:
• Private companies, on the other hand, are held under private ownership. Although they may issue
stock and have shareholders, equity in private companies is not traded on an exchange. They vary in
shape and size and are not always bound by the strict regulations and reporting requirements to
which public companies must adhere. These companies do not have to disclose financial
information or outlook to the public, giving them more opportunity to focus on long-term growth
rather than quarterly earnings.
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Filling of the
Selection documents
of the with the
type of Reservatio Registrar of Effect of
company n of name Company Registration

Preliminary Preparation Certificate of Commenceme

requiremen of MOA & Incorporation nt of Business
ts AOA and allotment
of corporate
identity number
 SOLE PARTNERSHIP COMPANY
PROPRIETORSHI 36

P
Registration No formal Registration is optional- Registration is
Authority registration Partnership Act, 1932 compulsory Company
Act, 2013
Members Single owner Min- 2, Unlimited for a public
Max- 50 company.
Private company: 2 to
200 members
Separate No, the No, the agreement comes to Yes, despite no human
legal entity corporation will an end if any partner dies, is being,
and Business not continue to injured, withdraws, sells his the company will remain
Continuity exist if the owner interest, or a new partner is in
dies accepted into the company. existence.
Capital Limited Limited but more Large financial
Contribution resources
Taxation based on the total Partnership profits are Company profits are
income of the taxed at 30% taxed at 25%-30%
Proprietor.
 SOLE PARTNERSHIP COMPANY
37
PROPRIETORSHI
P
Existence or dependent on the dependent on must not be
Survivability Proprietor the Partners. dependent on the
Directors or
Shareholders. It can
be dissolved only
voluntarily or by
Regulatory
Authorities
Members unlimited unlimited Limited, liable only to
liability an extent of their
share capital.
Transferabili ownership can be ownership can ownership can be
ty transferred by be transferred transferred by way of
way of by making share transfer.
inheritance. changes in the