Venture capital

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Venture capital is capital typically provided by outside investors for financing of new, growing or struggling businesses. Venture capital investments generally are high risk investments but offer the potential for above average returns and/or a percentage of ownership of the company. A venture capitalist (VC) is a person who makes such investments. A venture capital fund is a pooled investment vehicle (often a partnership) that primarily invests the financial capital of third-party investors in enterprises that are too risky for the standard capital markets or bank loans.

1 History
- 1.1 The dotcom boom
2 Non-US VCs
3 Alternatives to venture capital
4 See also
5 References
6 External links

[edit] History

General Georges Doriot is considered to be the father of venture capital industry. In 1946 he founded American Research and Development Corporation (AR&D), whose biggest success was Digital Equipment Corporation. When Digital Equipment went public in 1968 it provided AR&D with 101% annualized Return on Investment (ROI). ARD's $70,000 USD investment in Digital Corporation in 1959 had a market value of $37 million USD in 1968. The first venture-backed startup is generally considered to be Fairchild Semiconductor, funded in 1959 by Venrock Associates. Before World War II, venture capital investments were primarily the domain of wealthy individuals and families. One of the first steps toward a professionally-managed venture capital industry was the passage of the Small Business Investment Act of 1958. The 1958 Act authorized the U.S. Small Business Administration (SBA) to license private "Small Business Investment Companies" (SBICs) to provide financing and management assistance to small entrepreneurial businesses in the United States. Passage of the Act addressed concerns raised in a Federal Reserve Board report to Congress that concluded that a major gap existed in the capital markets for long-term funding for growth-oriented small businesses. The goal of the SBIC program was, and still is, to stimulate the U.S. economy in general, and small businesses in particular, by facilitating the flow of capital to pioneering small concerns.

Venture capital is a phenomenon most closely associated with the United States and technologically innovative ventures. Due to structural restrictions imposed on American banks in the 1930s there was no private merchant banking industry in the United States, a situation that was quite unique in developed nations. As late as the 1980s Lester Thurow, a noted economist, decried the inability of the USA's financial regulation framework to support any merchant bank other than one that is run by the United States Congress in the form of federally funded projects. These, he argued, were massive in scale, but also politically motivated, too focused on defense, housing and such specialized technologies as space exploration, agriculture, and aerospace. US investment banks were confined to handling large M&A transactions, the issue of equity and debt securities, and, often, the breakup of industrial concerns to access their pension fund surplus or sell off infrastructural capital for big gains.

Not only was the lax regulation of this situation very heavily criticized at the time, this industrial policy was not in line with that of other industrialized rivals—notably Germany and Japan which at that time were gaining world markets in automotive and consumer electronics. There was a general feeling that the United States was in an economic decline.

However, those nations were also becoming somewhat more dependent on central bank and elite academic judgment, rather than the more populist and consumerist way that priorities were set by government and private investors in the United States—a model that proved to have some advantages when the public's attention was strongly activated by the successful IPO of Netscape and other Internet-related firms. This highlighted the nearly invisible role that Silicon Valley had played in the sustaining of American economic innovation.

[edit] The dotcom boom

Due almost entirely to the dotcom boom, the late 1990s were a boom time for the globally-renowned VC firms on Sand Hill Road in the San Francisco Bay Area. IPOs were taking truly irrational leaps, and access to "friends and family" shares was becoming a major determiner of who would benefit from any such IPO; the ordinary investor rarely got a chance to invest at the strike price in this period.

The NASDAQ crash and technology slump that started in March 2000, and the resulting catastrophic losses on overvalued, non-performing startups, shook VC funds deeply. By 2003 many VCs were focused on writing off companies they funded just a few years earlier, and many funds were "under water"; that is, the market value of their portfolio companies were less than the invested value. Venture capital investors sought to reduce the large commitments they have made to venture capital funds. As of mid-2003, the conventional wisdom was that the venture capital industry would shrink to about half its present capacity in the following few years. However, PricewaterhouseCoopers' MoneyTree Survey shows total venture capital investments holding steady at 2003 levels through Q2 2005. The revival of an Internet-driven environment (thanks to deals such as eBay's purchase of Skype, the News Corporation's purchase of MySpace, and the very-successful Google IPO) has helped to revive the VC environment.

[edit] Non-US VCs

US firms have traditionally been the biggest participants in venture deals, but non-US venture investment is growing. Europe has a large and growing number of active venture firms. Capital raised in the region in 2005, including buy-out funds, exceeded €60bn, of which €12.6bn was specifically for venture investment. The European Venture Capital Association includes a list of active firms and other statistics. Canadian companies are often linked to American firms, but have established many exceptional Venture Capital Funds.

The investment of venture capitalists in Indian industries in the first half of 2006 is $3billion and is expected to reach $6billion at the end of the year. In China, venture funding more than doubled from $420 million in 2002 to almost $1 billion in 2003. For the first half of 2004, venture capital investment rose 32% from 2003. By 2005, lead by a wave of successful IPOs on the NASDAQ and revised government regulations, China-dedicated funds raised US$4 billion in committed capital.

[edit] Alternatives to venture capital

Because of the strict requirements venture capitalists have for potential investments, many entrepreneurs seek initial funding from angel investors, who may be more willing to invest in highly speculative opportunities, or may have a prior relationship with the entrepreneur.

Furthermore, many venture capital firms will only seriously evaluate an investment in a start-up otherwise unknown to them if the company can prove at least some of its claims about the technology and/or market potential for its product or services. To achieve this, or even just to avoid the dilutive effects of receiving funding before such claims are proven, many start-ups seek to self-finance until they reach a point where they can credibly approach outside capital providers such as VCs or angels. This practice is called "bootstrapping".

In industries where assets can be securitized effectively because they reliably generate future revenue streams or have a good potential for resale in case of foreclosure, businesses may more cheaply be able to raise debt to finance their growth. Good examples would include asset-intensive extractive industries such as mining, or manufacturing industries.

[edit] See also

[edit] References

Campbell, Katherine. Smarter Ventures: A Survivor's Guide to Venture Capital Through the New Cycle. Financial Times Management Press. ISBN 0-273-65403-9