Startups with high hopes of headline-making success often see venture capital as the holy grail. But is it all it's cracked up to be?
Of course, venture-capital firms bring much-needed funding, advisors with relevant experience and important connections you wouldn't have access to on your own. In addition, because venture capital is an investment, not a loan, you don't have to repay the money.
But you'll want to consider the potential downsides before adding venture-capital funding to your business plan.
“Like all financing options, no one gives you money for free," says Brian Cairns, founder of ProStrategix Consulting. "Everything comes with strings attached."
Here are five reasons why some business advisors and small-business owners view venture capital as a devil's bargain.
Venture Capitalists Become Part Owners
When you accept venture funding, you're giving investors equity in exchange for money. If investors end up with more shares than the founders, you no longer own your business.
“I've seen a few businesses regret taking venture capital," notes Stacy Caprio, founder of Growth Marketing. “It seems sexy and exciting in the moment, and you have a lot more cash flowing in but, after you spend it all, you own a sliver of your company instead of the whole thing."
Investors Have a Say in the Business Operations
Because investors now own a piece of the business, they have the right to weigh in on how you spend their money. It's how they protect their investment.
That isn't always a downside, though. It depends on how closely aligned you and your financing partner are with the business vision. That's one reason it's important to be selective about whose money you accept.
“Venture capitalists are like hitchhikers with a credit card," says Gene Caballero, co-founder of GreenPal.com. "If they like where you are going, they can be pleasant and pay for the journey. If they don't like the direction your company is heading, they can kick you out of your driver's seat or the entire automobile." Caballero and partners turned down venture-capital offers.
The End Game Is Usually Selling the Company
For some businesses, that was always the goal. But other founders want to keep the company — their “baby" — private permanently or at least for longer than the typical payout timeline for investors, which is usually five to seven years.
In addition, there's always a risk that new owners or an initial public offering will result in new leadership. New owners or shareholders can force key personnel changes if they don't like the company's results or direction.
Fast Growth Trumps All
Because venture capitalists want the highest return on their investment as soon as possible, their focus is on fast growth. This can create conflict around decision-making.
“They need a quick return on their investment and will push entrepreneurs to make decisions to get them to a fast, outsized exit," says Ori Zohar, founder of online spice retailer Burlap and Barrel. "That's where the entrepreneur's best interests and the venture capitalists' can be meaningfully different." Zohar ran a venture-capital-backed business financial services firm for several years before starting his current bootstrapped business.
You Don't Get Funded All at Once
Unlike with a loan, you can't be certain that you'll get all the money you want or need precisely when you want it. Some investors dole out funding according to agreed-upon milestones.
Still, accepting venture capital might make sense for your business, especially if you need funds to scale up for rapid growth after your concept is established and proven.
“Sector-specialist venture capitalists that are committed to your success can be the gatekeepers to everything from clients to the best talent to follow-on investors," says Alex Kaschuta, head of origination at Fundsquire. "It's a bit like getting an MBA—money and a high-class education are all well and good, but you're actually there for the network."