A:

Small businesses have a variety of options for raising capital for the purpose of funding growth operations or start-up costs. Generally referred to as equity financing, this type of funding is made available through an individual or a group of investors who are willing to invest in the business for something in return. Venture capital is an option for some small start-up companies with limited means to funding, and it differs from other types of equity financing in a number of ways.

Venture capitalists focus their investing on businesses that are in their infancies and have high growth potential. Companies that fall into this category are commonly in the technology sector and may be unable to obtain affordable financing through other conventional entities, such as banks or the Small Business Administration. A venture capital deal also involves investing through equity capital as opposed to debt, creating a situation in which the business being funded is required to give up a degree of capital to get financing. Instead of defining repayment terms and interest rates as would take place with a bank, young businesses working with venture capitalists are instead discussing future growth and return on investment (ROI) by way of appreciating equity shares.

Because start-up technology companies bear much higher risk than other small businesses, venture capitalists require much more ownership or equity in the business than other financing options. Additionally, a venture capital deal may require a professional from the venture capital firm to be integrated into management of the business being funded to ensure the investment is protected and progress toward growth is monitored in-house. Because of these unique aspects of young start-up companies, venture capital deals take much longer to create and implement. The funding firm needs to ensure the growth potential high enough to make the investment worthwhile.

Equity financing through venture capital may be a viable option for companies that operate in high-yield markets, but businesses must be aware of the restrictions venture capitalists may place on its operations in exchange for initial funding.

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