How Venture Capital Firms Can Reduce Risks
Venture capital (VC) firms help startups and small business raise funds with long-term growth potential. It is a form of private equity that is backed by HNIs, seasoned investors, area experts, investment banks, and financial instituitions. VCs go beyond just adding value to cap tables. VCs, more often than not are experienced individuals who come with managerial expertise.
Now companies with an operating history of less than two years might have a hard time accessing capital markets, debt instruments, or bank loans. Such companies turn to VCs to raise funds in their initial growth phases. At times VCs invest with just proof of concepts, making undertakings high on risk. But there are widely accepted best practices that VCs follow to minimise the risk involved.
To begin with VCs make sure not to put all their eggs in a single basket. They make sure to maintain a diversified portfolio and invest in varies asset classes and securities. By doing so they are able to mitigate risk factors such as market volatility, and supply chain disruptions
Secondly, investing in early-stage startups can be a hit-and-miss business. You either miss or end up making the lion’s share worth of returns. One could only imagine the ROI early investors made in Uber, Airbn, and Palantirs. That’s why, it is best to divide the fund size into small portions and invest in companies that are at different stages of growth. Some could have already demonstrated their viability while others would have proposed a promising business idea. A study by the Kauffman Foundation highlights that just 1 or 2 angel investments out of 10 provide 10x-30x returns expected on the investment.
The third thing to keep in mind would be having a balanced portfolio. Just a few years ago a balanced portfolio would have included mutual funds , bonds, and stocks. But today this list has expanded to include cryptos, startups, real estate funds, local businesses, video games. WIth a portfolio that has it’s fingers in many pies, investors are able to put their money in various instruments and businesses that react variedly to market conditions.
Other considerations could include the team you are investing in. If the VC firm is providing the seed capital with no proof of work, what they are essentially investing in is the team’s capabilities. In such cases it also becomes essential to invest in categories that the firm has internal experts in.
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