Description
Venture capital (VC) is financial capital provided to early-stage, high-potential, high risk, growth startup companies. The venture capital fund makes money by owning equity in the companies it invests in, which usually have a novel technology or business model in high technology industries, such as biotechnology, IT and software.
VENTURE CAPITAL
MEANING
Venture capital refers to an equity/equity-related investment in a growth oriented small/medium business to enable the investors to accomplish corporate objectives, in return for monetary shareholding in the business or the irrevocable rights to acquire it. Venture capital is a typical 'private equity investment.'
Venture capital is a popular method by which investors support entrepreneurial talent with finance and business skills to exploit market opportunities with a view to obtaining long-term capital gains. It involves the provision of risk-bearing capital, usually in the form of equity participation, to companies with high growth potential, besides providing more value addition in the form of management advice and contribution to overall strategy.
Long-term investment, generally in high-risk industrial projects with high reward possibilities, is called 'venture capital.' The investment may take place at any stage of implementation of the project, between the start-up and commencement of commercial production. Venture capital is also invested in financing the new business and professional activities that carry a higher degree of success and failure as well. Venture capital implies a high level of risk implicit in the investment of funds.
DEFINITION According to the Bank of England Quarterly Bulletin of 1984, "Venture capital investment is defined as an activity by which investors support entrepreneurial talent with finance and business skills to exploit market opportunities and thus obtain long-term capital gains."
RATIONALE The rationale for venture capital arises on account of the fact that there is high expectation for large gains for an entrepreneur which acts as the motivation behind taking up
risky investments that carry high return profiles. Venture capital investmen is made with the objective of obtaining equity ownership in such enterprises initially, and to take part in the growing prospects in the form of capital appreciation subsequently.
FEATURES
ew ventures: Venture capital investment is generally made in new enterprises that use new technology to produce new products, in expectation of high gains or sometimes, spectacular returns. Continuous involvement: Venture capitalists continuously involve themselves with the client's investments, either by providing loans or managerial skills or any other support. Mode of Investment: Venture capital is basically an equity financing method, the investment being made in relatively new companies when it is too early to go to the capital market to raise funds. In addition, financing also takes the form of loan finance/convertible debt to ensure a running yield on the portfolio of the venture capitalists. Objective: The basic objective of a venture capitalist is to make a capital gain on equity investment at the time of exit, and regular return on debt financing. It is a long-term investment in growth oriented small/medium firms. It is long-term capital that is injected to enable the business to grow at a rapid pace, mostly from the start-up stage. Hands-on Approach: Venture capital institutions take an active part in providing value added services such as providing business skills, etc. to investee firms. They do not interfere in the management of the firms nor do they acquire a majority /controlling interest in the investee firms. The rationale for the extension of hands-on management is that venture capital investments tend to be highly non-liquid. High Risk-return Ventures: Venture capitalists finance high risk-return ventures. Some of the ventures yield very high return in order to compensate for the heavy risks related to the ventures. Venture capitalists usually make huge capital gains at the time of exit. ature of firms: Venture capitalists usually finance small & medium sized firms during the early stages of their development, until they are established and are able to raise finance from the conventional industrial finance market. Many of these firms are new, high-technology oriented companies
Liquidity: Liquidity of venture capital investment depends on the success or otherwise of the new venture or product. Accordingly there will be higher liquidity where the new ventures are highly successful.
ORIGIN & GROWTH OF VENTURE CAPITAL IN INDIA
Venture capital that originated in India very late is still in its infancy. It was the Bhatt Committee (Committee on Development of Small & Medium Entrepreneurs) in the year 1972, which recommended the creation of venture capital. The committee urged the need for providing such capital to help new entrepreneurs and technologists in setting up industries.
A brief description of some of the venture capital funds in India is as follows:
1. Risk Capital foundation: The Industrial Finance Corporation of India (IFCI) launched the first venture capital fund in the year 1975. The fund, 'Risk Capital Foundation' (RCF) aimed at supplementing 'promoter's equity' with a view to encouraging technologists and professionals to promote new industries. 2. Seed capital scheme: This venture capital fund was launched by IDBI in 1976, with the same objective in mind. 3. Venture capital scheme: Venture capital funding obtained official patronage with the announcement by the Central Government of the 'Technology Policy Statement' in 1983. It prescribed guidelines for achieving technological self-reliance through commercialization and exploitation of technologies. The ICICI, an all India financial institution in the private sector set up a Venture capital scheme in 1986, to encourage new technocrats in the private sector to enter new fields of high technology with inherent high risk. The scheme aimed at allocating funds for providing assistance in the form of venture capital to economic activities having risk, but also high profit potential. 4. PACT: The ICICI undertook the administration of Program for Application of Commercial Technology (PACT), aided by U.S.AID with an initial grant of USD 10 million. The program
aims at financing specific needs of the corporate sector industrial units along the lines of venture capital funding. 5. Government fund: IDBI, as nodal agency, administers the venture capital fund created by the Central Government with effect from 1st April, 1986. The government started imposing a Research & Development (R & D) levy on all payments made for the purchase of technology from abroad, including royalty payments, lump sum payments for foreign collaboration and payment for designs and drawings under the R&D Cess Act, 1986. The levy was used as a source of funding the venture capital fund. 6. TDICI: In 1988, an ICICI sponsored company, viz. Technology Development and Information Company of India ltd. (TDICI) was founded, and venture capital operations of ICICI were taken over by it with effect from July 1, 1988. 7. RCTFC: The Risk Capital Foundation (RCF) sponsored by IFCI was converted into Risk Capital and Technology Finance Corporation Ltd. (RCTFC) in the year 1988. It took over the activities of RCF, in addition to the management of other financing technology development schemes and venture capital fund. 8. VECAUS: VECAUS-I, the UTI sponsored "Venture Capital Unit Scheme" was launched in the year 1989. Technology Development and Information Company of India Ltd. (TDICI) was appointed as its managers. In the year 1990, the corporation was also entrusted with the responsibility of managing another UTI sponsored venture fund entitled 'VECAUS-II'. In 1991, UTI launched VECAUS-III and RCTC was appointed as fund manager.
VENTURE CAPITAL & OTHER FUNDS Venture capital funds are different from other capital funds in many respects as shown below: Venture capital & Development capital : Venture capital is advanced for ventures using new technology or new innovation. In this type of financing the venture capital company remains interested in the overall management of the project due to the high risk involved in the venture. Funds are made available throughout the project, commencing from commercial production to the successful marketing of products, to ensure continuous revenue earnings, enhanced worth of the investments, and finally making available a proper exit route for liquidating the investments.
Development capital, on the other hand, is generally granted in the form of loans for setting industrial units, and also for expansion and modernization. The lender takes special care in ensuring the end use of the credit and requires prompt payment of interest and repayment of the loan amount.
Venture capital, Seed capital & Risk capital: There are no tangible differences between venture capital, seed capital & risk capital. Both seed capital & risk capital are components of venture capital. Seed capital and risk capital are provided by all- India financial institutions in the form of promoter's contribution to the project, with the emphasis on providing interest free finance to encourage professionals to become promotees of industrial projects.
Venture capital &
ational equity fund for small entrepreneur: The National equity fund,
administered by SIDBI, was established in 1987, with the object of providing seed capital assistance to small entrepreneurs, in the rural as well as urban areas, with a population below 5 Lakhs.
VE TURE CAPITAL
STAGES OF VENTURE CAPITAL FINANCING
Setting up a new venture
Seed Capital
Early stage financing
Follow on financing
Expansion financing
Replacement financing
Turnaround financing
Exit
IPO
Sale of shares
Puts & Calls
Seed capital
This is the early stage of financing. This stage involves primarily R & D financing .The European venture capital financing defines seed capital as "the financing of the initial product development or capital provided to an entrepreneur to prove the feasibility of a project for start up capital.
This stage involves serious risk, as there is no guarantee for the success of the concept, idea & process pertaining to high technology or innovation. This stage requires constant infusion of funds in order to
sustain the R & D work & establish the process of successful adaptation, going into the commencement of commercial production & marketing. Venture financing constitutes financing of ideas developed by R & D wings of companies or at university centers. Chances of success in hi - tech projects are meager. The venture capital fund considers the following points to safeguard its own interests.
1. Successful performance record, entrepreneur's previous experience in similar products, technology & market. 2. Qualities of business management & technical innovation in the enterprise, realistic business plan with the clear future projects for which seed capital is required.
Start up financing
The European venture capital association defines start up financing as "the capital needed to finance the product development, initial marketing & establishment of product facilities ". This too falls under the category of early stage financing .the term 'start up' refers where a new activity is launched .the activity may be one emanating from R & DS stage, or arising from transfer of technology from overseas - based business.
Venture capital finance is provided to the projects, which have been selected for commercial production .The activity chosen for funding has the potential for fulfilling effective demand. Venture capitalists provide finance with the view to take advantage of the capital gain arising from equity appreciation on completion of such projects & marketing of its product. The venture capitalists on their part take into consideration such factors as the managerial ability, capacity, experience, competence etc of the entrepreneur before making investments.
The entrepreneur should furnish the following details to the venture capitalists:
1. Brief history of business or project. 2. A synoptic note on career history of entrepreneur & key managers. 3. Description of product / service to be manufactured.
4. Description of product /service with existing /future state of competition, growth prospects in the share market etc. 5. Description of technical process involved & technology to be followed in the manufacturing process. 6. Degree of technological obsolesce in technical process. 7. Finance history & forward projections of turnover profits, cash flows & borrowings over at least a two yr period. 8. Proposed deal structure for the funding being sought.
Venture capitalists appraise projects by taking the following key factors into consideration with the basic objective of assessing the risk involved in financing, & then judge the realistic expectation of gains.
1. Track record: The track record of the promoter / entrepreneur /management team / skilled staff resource is analyzed to evaluate the management performance record, ability, capacity of the entrepreneur to handle the proposed business plan successfully.
2. Performance assumptions: the technical performance assumptions about the product/process/service, the technical strength of the proposed process service with reference to product life cycle are also analyzed.
3. Market potential: Market potential, relating to market size, growth & penetration are analyzed .in addition, evaluation state of domestic competition & international competition is also carried out.
4. Cost Structure: An analysis in order to evaluate profitability projections on realistic cost assumptions & competitive price setting is under taken, as part of venture financing.
5. Time Schedule: overall completion time is ascertained by evaluating the time schedule given by client for completion of the plan on a realistic basis ,& the experience gained by the venture capitalist/merchant bankers from other projects.
Early stage financing
The European venture capital Association defines early stage finance as " finance provided to companies that have completed development stage & require further funds to initiate commercial manufacturing &sales. They will not be generating profit". This is the kind of financing required fro completing the project .It is required immediately after the start up stage of a project. The need for additional funds arises when the project encounters cost & time over - runs or when the completed projects starts making losses, thus necessitating the infusion of equity type funding. This type of funding may also be required when the start up has been successful, & the business is growing.
Follow - on financing
The European venture capital association defines follow on financing or second round finance as " the provision of capital to a firm which has been in receipt of external capital but whose financial needs have subsequent expanded ". Later stage, in a project at this stage promises to be a attractive in terms of earning potential, it is considered to be the most attractive stage for venture capital financing. Financing, at this point in the project, is preferred by venture capitalists around the world, particularly in U.K & U.S.A. Expansion Financing
The European Venture capital Association defines expansion capital as "the finance provided to fund the expansion or growth of a company which is breaking even or trading at small profit ". Expansion or growth of a company will be used to finance increased production capacity, market or product development to provide additional working capital. This is one of the later stage financing methods, whereby finance is provided by the venture capitalists for adding production capacity, once it has successfully gained a market share, & faces increased demand for the product. Financing is also made available for acquisition or takeover.
Replacement Financing
A later stage financing method, also know as 'money - out deal', whereby venture capitalists extend financing for the purchase of the existing shares from an entrepreneur or their associates in order to reduce their holdings in the unlisted company, is know as 'replacement financing '. This sale of shares may be by
persons other than entrepreneurs or their associate's .The venture capitalists may buy ordinary shares from vendors and may convert them into preference shares bearing a fixed dividend coupon. Such shares may be converted back into ordinary shares if the company is listed & can thereafter be sold.
Turnaround Financing
This type of financing provided by the venture capitalists in the event of an enterprise becoming un profitable after the launch of commercial production. This is provided in the form of a relief package from the existing the exiting venture capital investors, & the enterprise is provided with specialist skills to recover. This form of financing is popular in the U.S finance is made available to a unlisted & non profitable venture in need of equity funds to allow for turn around .The finance may also be provided to sustain the current operations of the enterprise.
Analyzing venture capital financing proposals - criteria
Fundamental Analysis
Fundamental analysis refers to an examination of the aspects of the business without which the investor cannot even begin to make an informed decision. As part of fundamental analysis the following factors are considered
1. History: A brief history of the company, including date in incorporation & summary of progress.
2. Management: The quality, experience, strategy & motivations of management, directors & existing shareholders.
3. Products: A complete description of the company's products or services.
4. Markets: The market which the company serves, including size & nature of the industry ,location & characteristics of customer base ,potential competition & unique selling points.
5. Manufacturing: Manufacturing & operational aspects of the business, including a description of the technology used, access to sources of supply, manufacturing capacity & premises owned or occupied .
6. Risks: An objective analysis of the fundamental risks & management's plans to cope with the same.
Financial analysis
The purpose of financial analysis is to set out the financial implications of a company's strategy & to measure its performance. Following aspects are considered by venture capitalists to determine the financial viability of the project:
Earnings growth potential. Sensitivity of earnings to sales & margins. Likely time - lag between investment & return . Likely impact on cash flow. Expected value of the company at the notional time of divestment. Analysis of the financial risks & managements plans to cope with these.
Portfolio analysis
Portfolio analysis consists in examining the venture capitalist portfolio balance at the time the investment proposal is being considered. According, the proposed investment must be an acceptable addition to the
venture capitalists portfolio, in terms of its size of development, its geographic location & its industry sector.
1. Size of investment: the amount of money per investment has a significant impact on the size of the portfolio. Moreover, if the venture capitalist builds up a large portfolio, hands on management will be difficult.
2. Stage of development: A venture capital portfolio will typically of some companies, which are in the start up phase, some companies in a development stage & others in the mature phase of its life cycle, such as MBO investments.
3. Geographic Location: In order to reach an acceptable level of portfolio diversity & volume, many funds will go in search of foreign investments .The basic principle of a successful international investment policy is it join a syndicate with local fund, which will have a superior understanding of the market, &also the social, investment & tax environment.
4. Industry Sectors: This is the fourth in the portfolio diversification. Venture capitalists attempts to diversify the portfolio in order t offset problematic or slow growth investments.
Divestment Analysis
Divestment calls for venture capitalists to have a clear idea about the method, the timing & valuation of the company upon divestment. There are 4 principal means by which venture capitalists realize investments:
Trade Sale: The process of selling the investment to a company in the trade, i.e. a competitor wishing to buy the investor's market share or production capacity, a supplier intending to integrate forward, or a customer trying to integrate backward or tie up source of supply, is referred to as 'trade sale '. A trade sale is in the form of an unexpected & unsolicited bid.
Take Out: The process of selling the investment to another professional investor, another venture capitalist, by way of private placement with a major institutional investor such as an insurance company or pension fund manager, or a management holding company is know as 'take out'. Under this agreement, typically, only the venture capital company will sell its shares while the entrepreneur retains his stake.
Earn Out: I this method, the venture capital investment is realized through the entrepreneur buying back the venture capitalist shares with the proceeds of the project .For their purpose the entrepreneur is given the option at the time of investment.
Floatation: This is the final exit route for the venture capital investment. Under this method. Issue of securities is made in the stock market. In order to float, the company must have a good & complete management team. The methods of floatation may vary as shown below;
a) Placing, where the company's shares are placed with prearranged buyers. b) Offer for sale, where the company invites the public to subscribe to its shares at a fixed price, which is underwritten. c) Tender, where the public is invited to name the number of shares & price it will pay, with a minimum price underwritten.
doc_350732434.docx
Venture capital (VC) is financial capital provided to early-stage, high-potential, high risk, growth startup companies. The venture capital fund makes money by owning equity in the companies it invests in, which usually have a novel technology or business model in high technology industries, such as biotechnology, IT and software.
VENTURE CAPITAL
MEANING
Venture capital refers to an equity/equity-related investment in a growth oriented small/medium business to enable the investors to accomplish corporate objectives, in return for monetary shareholding in the business or the irrevocable rights to acquire it. Venture capital is a typical 'private equity investment.'
Venture capital is a popular method by which investors support entrepreneurial talent with finance and business skills to exploit market opportunities with a view to obtaining long-term capital gains. It involves the provision of risk-bearing capital, usually in the form of equity participation, to companies with high growth potential, besides providing more value addition in the form of management advice and contribution to overall strategy.
Long-term investment, generally in high-risk industrial projects with high reward possibilities, is called 'venture capital.' The investment may take place at any stage of implementation of the project, between the start-up and commencement of commercial production. Venture capital is also invested in financing the new business and professional activities that carry a higher degree of success and failure as well. Venture capital implies a high level of risk implicit in the investment of funds.
DEFINITION According to the Bank of England Quarterly Bulletin of 1984, "Venture capital investment is defined as an activity by which investors support entrepreneurial talent with finance and business skills to exploit market opportunities and thus obtain long-term capital gains."
RATIONALE The rationale for venture capital arises on account of the fact that there is high expectation for large gains for an entrepreneur which acts as the motivation behind taking up
risky investments that carry high return profiles. Venture capital investmen is made with the objective of obtaining equity ownership in such enterprises initially, and to take part in the growing prospects in the form of capital appreciation subsequently.
FEATURES
ew ventures: Venture capital investment is generally made in new enterprises that use new technology to produce new products, in expectation of high gains or sometimes, spectacular returns. Continuous involvement: Venture capitalists continuously involve themselves with the client's investments, either by providing loans or managerial skills or any other support. Mode of Investment: Venture capital is basically an equity financing method, the investment being made in relatively new companies when it is too early to go to the capital market to raise funds. In addition, financing also takes the form of loan finance/convertible debt to ensure a running yield on the portfolio of the venture capitalists. Objective: The basic objective of a venture capitalist is to make a capital gain on equity investment at the time of exit, and regular return on debt financing. It is a long-term investment in growth oriented small/medium firms. It is long-term capital that is injected to enable the business to grow at a rapid pace, mostly from the start-up stage. Hands-on Approach: Venture capital institutions take an active part in providing value added services such as providing business skills, etc. to investee firms. They do not interfere in the management of the firms nor do they acquire a majority /controlling interest in the investee firms. The rationale for the extension of hands-on management is that venture capital investments tend to be highly non-liquid. High Risk-return Ventures: Venture capitalists finance high risk-return ventures. Some of the ventures yield very high return in order to compensate for the heavy risks related to the ventures. Venture capitalists usually make huge capital gains at the time of exit. ature of firms: Venture capitalists usually finance small & medium sized firms during the early stages of their development, until they are established and are able to raise finance from the conventional industrial finance market. Many of these firms are new, high-technology oriented companies
Liquidity: Liquidity of venture capital investment depends on the success or otherwise of the new venture or product. Accordingly there will be higher liquidity where the new ventures are highly successful.
ORIGIN & GROWTH OF VENTURE CAPITAL IN INDIA
Venture capital that originated in India very late is still in its infancy. It was the Bhatt Committee (Committee on Development of Small & Medium Entrepreneurs) in the year 1972, which recommended the creation of venture capital. The committee urged the need for providing such capital to help new entrepreneurs and technologists in setting up industries.
A brief description of some of the venture capital funds in India is as follows:
1. Risk Capital foundation: The Industrial Finance Corporation of India (IFCI) launched the first venture capital fund in the year 1975. The fund, 'Risk Capital Foundation' (RCF) aimed at supplementing 'promoter's equity' with a view to encouraging technologists and professionals to promote new industries. 2. Seed capital scheme: This venture capital fund was launched by IDBI in 1976, with the same objective in mind. 3. Venture capital scheme: Venture capital funding obtained official patronage with the announcement by the Central Government of the 'Technology Policy Statement' in 1983. It prescribed guidelines for achieving technological self-reliance through commercialization and exploitation of technologies. The ICICI, an all India financial institution in the private sector set up a Venture capital scheme in 1986, to encourage new technocrats in the private sector to enter new fields of high technology with inherent high risk. The scheme aimed at allocating funds for providing assistance in the form of venture capital to economic activities having risk, but also high profit potential. 4. PACT: The ICICI undertook the administration of Program for Application of Commercial Technology (PACT), aided by U.S.AID with an initial grant of USD 10 million. The program
aims at financing specific needs of the corporate sector industrial units along the lines of venture capital funding. 5. Government fund: IDBI, as nodal agency, administers the venture capital fund created by the Central Government with effect from 1st April, 1986. The government started imposing a Research & Development (R & D) levy on all payments made for the purchase of technology from abroad, including royalty payments, lump sum payments for foreign collaboration and payment for designs and drawings under the R&D Cess Act, 1986. The levy was used as a source of funding the venture capital fund. 6. TDICI: In 1988, an ICICI sponsored company, viz. Technology Development and Information Company of India ltd. (TDICI) was founded, and venture capital operations of ICICI were taken over by it with effect from July 1, 1988. 7. RCTFC: The Risk Capital Foundation (RCF) sponsored by IFCI was converted into Risk Capital and Technology Finance Corporation Ltd. (RCTFC) in the year 1988. It took over the activities of RCF, in addition to the management of other financing technology development schemes and venture capital fund. 8. VECAUS: VECAUS-I, the UTI sponsored "Venture Capital Unit Scheme" was launched in the year 1989. Technology Development and Information Company of India Ltd. (TDICI) was appointed as its managers. In the year 1990, the corporation was also entrusted with the responsibility of managing another UTI sponsored venture fund entitled 'VECAUS-II'. In 1991, UTI launched VECAUS-III and RCTC was appointed as fund manager.
VENTURE CAPITAL & OTHER FUNDS Venture capital funds are different from other capital funds in many respects as shown below: Venture capital & Development capital : Venture capital is advanced for ventures using new technology or new innovation. In this type of financing the venture capital company remains interested in the overall management of the project due to the high risk involved in the venture. Funds are made available throughout the project, commencing from commercial production to the successful marketing of products, to ensure continuous revenue earnings, enhanced worth of the investments, and finally making available a proper exit route for liquidating the investments.
Development capital, on the other hand, is generally granted in the form of loans for setting industrial units, and also for expansion and modernization. The lender takes special care in ensuring the end use of the credit and requires prompt payment of interest and repayment of the loan amount.
Venture capital, Seed capital & Risk capital: There are no tangible differences between venture capital, seed capital & risk capital. Both seed capital & risk capital are components of venture capital. Seed capital and risk capital are provided by all- India financial institutions in the form of promoter's contribution to the project, with the emphasis on providing interest free finance to encourage professionals to become promotees of industrial projects.
Venture capital &
ational equity fund for small entrepreneur: The National equity fund,
administered by SIDBI, was established in 1987, with the object of providing seed capital assistance to small entrepreneurs, in the rural as well as urban areas, with a population below 5 Lakhs.
VE TURE CAPITAL
STAGES OF VENTURE CAPITAL FINANCING
Setting up a new venture
Seed Capital
Early stage financing
Follow on financing
Expansion financing
Replacement financing
Turnaround financing
Exit
IPO
Sale of shares
Puts & Calls
Seed capital
This is the early stage of financing. This stage involves primarily R & D financing .The European venture capital financing defines seed capital as "the financing of the initial product development or capital provided to an entrepreneur to prove the feasibility of a project for start up capital.
This stage involves serious risk, as there is no guarantee for the success of the concept, idea & process pertaining to high technology or innovation. This stage requires constant infusion of funds in order to
sustain the R & D work & establish the process of successful adaptation, going into the commencement of commercial production & marketing. Venture financing constitutes financing of ideas developed by R & D wings of companies or at university centers. Chances of success in hi - tech projects are meager. The venture capital fund considers the following points to safeguard its own interests.
1. Successful performance record, entrepreneur's previous experience in similar products, technology & market. 2. Qualities of business management & technical innovation in the enterprise, realistic business plan with the clear future projects for which seed capital is required.
Start up financing
The European venture capital association defines start up financing as "the capital needed to finance the product development, initial marketing & establishment of product facilities ". This too falls under the category of early stage financing .the term 'start up' refers where a new activity is launched .the activity may be one emanating from R & DS stage, or arising from transfer of technology from overseas - based business.
Venture capital finance is provided to the projects, which have been selected for commercial production .The activity chosen for funding has the potential for fulfilling effective demand. Venture capitalists provide finance with the view to take advantage of the capital gain arising from equity appreciation on completion of such projects & marketing of its product. The venture capitalists on their part take into consideration such factors as the managerial ability, capacity, experience, competence etc of the entrepreneur before making investments.
The entrepreneur should furnish the following details to the venture capitalists:
1. Brief history of business or project. 2. A synoptic note on career history of entrepreneur & key managers. 3. Description of product / service to be manufactured.
4. Description of product /service with existing /future state of competition, growth prospects in the share market etc. 5. Description of technical process involved & technology to be followed in the manufacturing process. 6. Degree of technological obsolesce in technical process. 7. Finance history & forward projections of turnover profits, cash flows & borrowings over at least a two yr period. 8. Proposed deal structure for the funding being sought.
Venture capitalists appraise projects by taking the following key factors into consideration with the basic objective of assessing the risk involved in financing, & then judge the realistic expectation of gains.
1. Track record: The track record of the promoter / entrepreneur /management team / skilled staff resource is analyzed to evaluate the management performance record, ability, capacity of the entrepreneur to handle the proposed business plan successfully.
2. Performance assumptions: the technical performance assumptions about the product/process/service, the technical strength of the proposed process service with reference to product life cycle are also analyzed.
3. Market potential: Market potential, relating to market size, growth & penetration are analyzed .in addition, evaluation state of domestic competition & international competition is also carried out.
4. Cost Structure: An analysis in order to evaluate profitability projections on realistic cost assumptions & competitive price setting is under taken, as part of venture financing.
5. Time Schedule: overall completion time is ascertained by evaluating the time schedule given by client for completion of the plan on a realistic basis ,& the experience gained by the venture capitalist/merchant bankers from other projects.
Early stage financing
The European venture capital Association defines early stage finance as " finance provided to companies that have completed development stage & require further funds to initiate commercial manufacturing &sales. They will not be generating profit". This is the kind of financing required fro completing the project .It is required immediately after the start up stage of a project. The need for additional funds arises when the project encounters cost & time over - runs or when the completed projects starts making losses, thus necessitating the infusion of equity type funding. This type of funding may also be required when the start up has been successful, & the business is growing.
Follow - on financing
The European venture capital association defines follow on financing or second round finance as " the provision of capital to a firm which has been in receipt of external capital but whose financial needs have subsequent expanded ". Later stage, in a project at this stage promises to be a attractive in terms of earning potential, it is considered to be the most attractive stage for venture capital financing. Financing, at this point in the project, is preferred by venture capitalists around the world, particularly in U.K & U.S.A. Expansion Financing
The European Venture capital Association defines expansion capital as "the finance provided to fund the expansion or growth of a company which is breaking even or trading at small profit ". Expansion or growth of a company will be used to finance increased production capacity, market or product development to provide additional working capital. This is one of the later stage financing methods, whereby finance is provided by the venture capitalists for adding production capacity, once it has successfully gained a market share, & faces increased demand for the product. Financing is also made available for acquisition or takeover.
Replacement Financing
A later stage financing method, also know as 'money - out deal', whereby venture capitalists extend financing for the purchase of the existing shares from an entrepreneur or their associates in order to reduce their holdings in the unlisted company, is know as 'replacement financing '. This sale of shares may be by
persons other than entrepreneurs or their associate's .The venture capitalists may buy ordinary shares from vendors and may convert them into preference shares bearing a fixed dividend coupon. Such shares may be converted back into ordinary shares if the company is listed & can thereafter be sold.
Turnaround Financing
This type of financing provided by the venture capitalists in the event of an enterprise becoming un profitable after the launch of commercial production. This is provided in the form of a relief package from the existing the exiting venture capital investors, & the enterprise is provided with specialist skills to recover. This form of financing is popular in the U.S finance is made available to a unlisted & non profitable venture in need of equity funds to allow for turn around .The finance may also be provided to sustain the current operations of the enterprise.
Analyzing venture capital financing proposals - criteria
Fundamental Analysis
Fundamental analysis refers to an examination of the aspects of the business without which the investor cannot even begin to make an informed decision. As part of fundamental analysis the following factors are considered
1. History: A brief history of the company, including date in incorporation & summary of progress.
2. Management: The quality, experience, strategy & motivations of management, directors & existing shareholders.
3. Products: A complete description of the company's products or services.
4. Markets: The market which the company serves, including size & nature of the industry ,location & characteristics of customer base ,potential competition & unique selling points.
5. Manufacturing: Manufacturing & operational aspects of the business, including a description of the technology used, access to sources of supply, manufacturing capacity & premises owned or occupied .
6. Risks: An objective analysis of the fundamental risks & management's plans to cope with the same.
Financial analysis
The purpose of financial analysis is to set out the financial implications of a company's strategy & to measure its performance. Following aspects are considered by venture capitalists to determine the financial viability of the project:
Earnings growth potential. Sensitivity of earnings to sales & margins. Likely time - lag between investment & return . Likely impact on cash flow. Expected value of the company at the notional time of divestment. Analysis of the financial risks & managements plans to cope with these.
Portfolio analysis
Portfolio analysis consists in examining the venture capitalist portfolio balance at the time the investment proposal is being considered. According, the proposed investment must be an acceptable addition to the
venture capitalists portfolio, in terms of its size of development, its geographic location & its industry sector.
1. Size of investment: the amount of money per investment has a significant impact on the size of the portfolio. Moreover, if the venture capitalist builds up a large portfolio, hands on management will be difficult.
2. Stage of development: A venture capital portfolio will typically of some companies, which are in the start up phase, some companies in a development stage & others in the mature phase of its life cycle, such as MBO investments.
3. Geographic Location: In order to reach an acceptable level of portfolio diversity & volume, many funds will go in search of foreign investments .The basic principle of a successful international investment policy is it join a syndicate with local fund, which will have a superior understanding of the market, &also the social, investment & tax environment.
4. Industry Sectors: This is the fourth in the portfolio diversification. Venture capitalists attempts to diversify the portfolio in order t offset problematic or slow growth investments.
Divestment Analysis
Divestment calls for venture capitalists to have a clear idea about the method, the timing & valuation of the company upon divestment. There are 4 principal means by which venture capitalists realize investments:
Trade Sale: The process of selling the investment to a company in the trade, i.e. a competitor wishing to buy the investor's market share or production capacity, a supplier intending to integrate forward, or a customer trying to integrate backward or tie up source of supply, is referred to as 'trade sale '. A trade sale is in the form of an unexpected & unsolicited bid.
Take Out: The process of selling the investment to another professional investor, another venture capitalist, by way of private placement with a major institutional investor such as an insurance company or pension fund manager, or a management holding company is know as 'take out'. Under this agreement, typically, only the venture capital company will sell its shares while the entrepreneur retains his stake.
Earn Out: I this method, the venture capital investment is realized through the entrepreneur buying back the venture capitalist shares with the proceeds of the project .For their purpose the entrepreneur is given the option at the time of investment.
Floatation: This is the final exit route for the venture capital investment. Under this method. Issue of securities is made in the stock market. In order to float, the company must have a good & complete management team. The methods of floatation may vary as shown below;
a) Placing, where the company's shares are placed with prearranged buyers. b) Offer for sale, where the company invites the public to subscribe to its shares at a fixed price, which is underwritten. c) Tender, where the public is invited to name the number of shares & price it will pay, with a minimum price underwritten.
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