Why do people choose this direction?
The main reason is profitability. Venture investments are the most profitable asset in the world, and successful contributors sit tightly on Forbes lists.
To understand the order of the numbers: the first investments in Google were only $ 100,000, in Facebook – $ 500,000, in Apple – $ 150,000. Today, even the smallest shares of these companies are worth tens of billions of dollars. The current capitalizations of Apple and Google exceed a trillion dollars, and Facebook’s capitalization is $ 600 billion.
There is also a non-monetary reason why investors are attracted to venture capital. Roughly speaking, these are emotions. So, investments in a metallurgical plant give only profit. Investing in Tesla or SpaceX generates profit and involvement in innovative businesses. And large investments in such companies turn the investor into a rock star of the venture world.
How Venture Investments Work?
The task of a venture investor is to find a company that will grow many times over, recoup investments and earn a profit from above. Moreover, it is better to find one superstar and lose money on the rest of the deals than to get into several medium-sized companies.
In its classical form, venture mathematics looks like this:
- Investor invests in ten companies
- Three companies die in the first year
- Three more companies die in the second year
- Three companies show mediocre growth
- One company takes off, increasing investment by tens or
hundreds of times
Of course, the mathematics can change depending on the stage of development of venture projects.
If an investor finances companies at a very early stage, then the number of failures increases. For this he gets a good share for little money.
Such a sponsor is called a business angel, and a funding round is called an angel round.
The average investor share in the angel round is 5% -10%.
The average investment is from $ 100K to $ 1M.
If an investor finances companies that have tested the business model, gained clients and have growing revenues, then the number of failures decreases.
But the cost of entry is also growing: the average check starts at $ 10M.
Such transactions take place in literal rounds, and large funds are the main investors.
In general terms, the rule is: the earlier you enter a trade, the more risks and the higher the profit.
At the same time, the average term of a venture investment is 7-10 years.
Broad venture capital is still outperforming stock indices. According to Cambridge Associates, in twenty-five years it posted a 13.38% annual return versus a 9.83% return on the S&P 500.
And the return on early-stage venture capital was 54.4%.
Several recent high-profile stories which have brought billions of dollars to venture capitalists.
Uber International Taxi Service
Launched in 2009, today it operates in 76 countries around the world. Uber is listed on the stock exchange and has a capitalization of $ 64b. However, back in 2010, Uber was valued at $ 4m in the angel round. The value of Uber has grown 16,000 times in eight years.
Zoom video conferencing service
Founded in 2009 and has 750k users today. Zoom is publicly traded with a market cap of $ 24b. The company’s valuation on Series A was a thousand times lower at $ 24.5m. Seven years have passed since that moment.
Airbnb private rental service
In fact, the same Uber, only for rental housing, and not for ordering a taxi. Airbnb launched in 2008 and is priced at $ 35b today. This is one of the few venture capital projects that has a positive operating profit. The company’s valuation in the angelic round was $ 2.5m. It has grown 14,000 times.