Venture capital and private equity funding are options available to very few startup companies as these antiquated alternatives are losing out to newer forms of investment and their steadfast belief that only billion-dollar companies are worth the effort.
Paul Ford, Founder and President of DS9 Capital, recommends that entrepreneurs not be swayed by the illusion that the grass is greener on the VC/PE side—it is not.
(Louisville, KY) March 1, 2022—The total dollar amount raised by venture capitalists increased by 47.5% in 2021, to a record-breaking $128.3 billion. However, equally record-breaking was the amount of exit activity VCs produced in 2021—a staggering $681.5 billion or a whopping 168% increase when compared to 2020.(1) “If you’re a company founder or a startup CEO,” says Paul Ford, Founder and President of DS9 Capital, “and you’re hoping for funding from the venture capital or private equity community, you need to be very careful about the stipulations of that funding or what it might cost you in terms of autonomy and long-term success.”
Fewer than five percent of all U.S. startups receive any VC funding.(2) One reason for this, notes Ford, is that venture capital is a very tough business. Ninety-five percent of VCs fail to return enough money—12% per year—to justify the risk and illiquidity their investors are taking on; instead, they survive on the fees they charge those investors. (If a venture capital-funded company does succeed, however, the VC firm takes 20% of its profits.)(3)
One thing conspicuously lacking in most venture capital firms, says Ford, is an interest in developing and nurturing a key resource in most startups: the ideas and capability of the founder. A smart investor, he says, sees the value and potential in entrepreneurialism and is willing to share and possibly refine the founder’s vision. “What you want to do,” he says, “is not take over the company, but look at helping build the business, so the return on your investment will not only become rock steady, but grow.”
A common price of VC investment, on the other hand, Ford says, is the surrender of a controlling interest in the company, leaving the founder on the position of being a minority stockholder or even an employee. While this is usually characterized as a growth strategy—the new management is more experienced with rapid growth toward an IPO—it raises a question for the founder, who must ask him or herself whether it would be better, X years down the road, to own 5% of a billion-dollar company, or 55% of a $150 million company.
Which, Ford points out, raises another question: if you’re the founder/owner of a business, do you really need access to venture capital funding? “The best type of capital is still revenue,” says Ford. “If you have traction, it also makes capital less expensive if you go down the VC and PE paths for capital,” Ford adds. It is, according to a recent survey of more than 5,000 companies, a relatively rare source of startup capital. Primary funding sources identified by the study include bank and other loans (34.9%), personal savings (30%), friends and family (6.3%), credit cards (6.2%), angel investors (5.8%), venture capital (4.4%), and government bodies (2%).(2)
There are, Ford emphasizes, investors who regard startup businesses as something besides a source of inflated and possibly temporary growth, and he recommends that business owners seek them out. “If you are an entrepreneur,” Ford says, “don’t be fooled by lofty promises from VCs who will take the company away from you. It may appear to you that the grass is greener over on the VC and PE side, but what you’re really seeing is just realistic-looking AstroTurf.”
About DS9 Capital: DS9 Capital is a founder-friendly portfolio management holding company focused on building enduring and stable cash-flowing businesses in the insurance and healthcare technology space. DS9 is generally focused on frontier technology and service offerings in the insurance and healthcare space largely leveraging cloud-based infrastructure, and more specifically on applying our domain expertise to nano-cap sized businesses to expand the value chain for all stakeholders. This value creation typically includes investment, leveraging our vast resources and networks to create a strategic pipeline for organic growth, and realigning the businesses to optimize commercial and IP assets. Our tactical goal with each of our companies is to leverage our expertise into higher margin and missed revenue opportunities.
Kapen, Alon and Fritz Farrell; “Venture Capital Set Records in 2021, Faces Headwinds in ’22”; 24 Jan 2022; JDSupra; jdsupra.com/legalnews/venture-capital-set-records-in-2021-1011895/#:
Kiisel, Ty. “Startup Financing: Where Do Most Startups Go to Get Business Financing.” OnDeck, ondeck.com/resources/startups-really-get-money-start.
Dean, Tomer. “The Meeting That Showed Me the Truth about VCs.” TechCrunch, 1 June 2017, techcrunch.com/2017/06/01/the-meeting-that-showed-me-the-truth-about-vcs/.