Friday, December 17, 2010
Venture Capital (Equity) vs. Bank Loans (Debt)
In contrast, if you asked a venture capitalist for the APR on their potential investment in your business, they would give you a blank look....or look at you like you were crazy. Why? There isn't one. Venture capital is equity. There is NO APR. It's a win or lose proposition. They either make a return because the business is successful and is later sold or goes public or they don't because the business goes bankrupt, shuts down, or is sold for a loss. Venture capitalists measure their returns as a function of the company’s (or venture's - hence the name venture capital) future performance. Unlike a bank loan, neither the term nor repayment amount is predetermined (known in advance) in venture capital. The business owner/entrepreneur's risk is limited because there is no personal liability, i.e., no personal guarantees or personal assets used as collateral. Due to the increased risk, the venture capitalist gets an ownership stake in the company. In return for this ownership participation, venture capital firms expect a return of 300% - 500% minimum. If they do not expect to reap that type of reward, they will not invest.
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