As a startup founder, you need to understand exactly how venture capital works – TechCrunch

Before you raise Cash As a cash-strapped startup, it can feel like every problem you’re facing will disappear if you have some money in the bank. At TechCrunch, every other startup story seems to be yet another fun company raising a bag full of venture capital.

Millions – even billions – of dollars are pouring into startup tech companies, and as the main news hub of the startup ecosystem, we’re just as guilty as anyone of being on the “cult of capital” side of things. . One truth is that successfully raising capital from a VC firm is a major milestone in a startup’s life. Another truth is that VC is not right for all companies. Of course, there are significant downsides to raising money from VCs. In this episode I am looking at both sides of the coin.

I have two day jobs. One is as a pitch coach for beginners and the other is as a reporter here at TechCrunch, which includes writing our wildly popular Pitch Deck Terword series. Prior to these two day jobs, I was a portfolio director at Bolt, a hardware-focused VC fund. As you might expect, this means I talk to a lot of early-stage companies, and I’ve seen more pitch floors than anyone should.

But many of the pitches I see make me wonder if the founders really thought about what they were doing. Yes, it’s sexist to own a boatload of money, but money comes with possession, and once you’re on the VC-fueled treadmill, you simply can’t turn back. I guess the bottom line of that is that many founders don’t really know how venture capital works. This is a problem for several reasons. As a startup founder, you wouldn’t dream of selling a product to a customer you don’t really know. Not understanding why your VC partner is interested in investing is dangerous.

So let’s see how it all hangs together!

Where VCs get their money

To really understand what’s going on when you raise venture capital, you need to understand what drives the VCs themselves. In short, venture capital is a high-risk asset class that capital managers can choose to invest in.

These fund managers, when investing in venture capital funds, are known as limited partners, or LPs. They come from – for example – pension funds, university endowments, or the huge pile of money sitting in the deep coffers of a corporation. Their job is to make a huge pile of money grow. At the low end, it should grow in line with inflation—if not, inflation means the purchasing power of the capital pool is shrinking. That means a few things: the firm that owns the cash is losing money, and the fund manager is about to be fired.

So, the low end of the range is to “increase the stack size by 9 percent per year” to keep up with current inflation in the US. Traditionally, fund managers beat inflation by investing in relatively low-risk asset classes. A strategy that works best in low inflation environments. Some of these low-risk investments may go to banks, some may go to bonds, and some may go into index and tracking funds that track the stock market. A relatively small slice of the pie is allocated to “high risk investments”. These are investments where the fund can lose, but the hope is that a high risk/reward approach will mean this piece doubles, triples or more.