Startup/Seed Stage Investment by Venture Capital

12291 Words Mar 14th, 2008 50 Pages
STARTUP/SEED STAGE INVESTMENT BY VENTURE CAPITAL
FUNDS (IN ISRAEL): ENTREPRENEURS IN RESIDENCY AND
EXECUTIVE IN RESIDENCY PROGRAMS

ABSTRACT

What constitutes venture capital and what constitutes angel financing is a natural question. In the time period after the bubble burst in 2000 it became easy to differentiate:

1. Angel investors: usually “high status” individuals, former successful technology entrepreneurs who use their financial wealth, which financed birth and initial growth of ventures.

2. Venture capital (VC): independently managed, dedicated pools of capital that focus on equity-linked investments in privately held, high growth companies needing mid stage financing. Startup/seed financing were usually not
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The concept is to invest in an idea or new technology, create a company and as soon as it reaches a sufficient size and credibility sell it to a corporation or to the public-equity markets. Venture capitals’ niche exists because of the structure and rules of capital markets (Zider, 1998). Banks will only finance a new business to the extent that there are hard assets against which to secure the debt. Most startup/seed ventures have few hard assets. Usury laws limit the interest banks can charge on loans and the risks inherent in startup/seed ventures justify higher rates than allowed by law. Usually, in return for financing one to five years of a company’s start-up, venture capitalists expect a ten-fold return of capital. Combined with the preferred position and stock options this is a very high cost on capital. This equity investment is like a loan with a 60%+ annual compound interest rate that cannot be prepaid (Zider, 1998).
Venture capital fills the void between personal sources of funds for innovation (usually provided by friends and family of the entrepreneur, government programs or corporate venture funds) or angel financing (former successful technology entrepreneurs that use their
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