What kind of investors are venture capitalists?
Venture capitalists are professional investors who specialize in funding and
building young, innovative enterprises. Venture capitalists are long-term
investors who take a hands-on approach with all of their investments and
actively work with entrepreneurial management teams in order to build great
Where do venture capitalists get their money?
Most venture capital firms raise their "funds' from institutional investors,
such as pension funds, insurance companies, endowments, foundations and high
net worth individuals. The investors who invest in venture capital funds are
referred to as "limited partners." Venture capitalists, who manage the fund,
are referred to as "general partners." The general partners have a fiduciary
responsibility to their limited partners.
What makes a good venture capitalist?
Management backgrounds and networks in specific industries, financial
skills, "people skills", negotiating skills, statesmanship, and boundless
energy are some of the prerequisites of a good venture capitalist. But all
that's not enough, because at its core, venture capital is truly an
apprenticeship business. It takes years of mentoring to learn how to assess
investment opportunities, set pricing and strategy, build and motivate
management teams, deal with inevitable and unpredictable threats to the
businesses, source additional capital and strategic partners, and, finally,
divest (for better or worse) these illiquid investments. The good ones view
it as a calling, not a career.
How are venture funds structured?
Venture Funds are usually organized as limited partnerships where the
investors are limited partners, and the managers are the general partners.
The majority of funds range in size from $5 Million to $100 Million, and
have between 2 and 5 GP's. These partnerships generally have a five to ten
year life, which allows sufficient time for the managers to make
investments, assist in their maturation process over several years, and then
arrange appropriate sales of the partnership's interests.
How do I invest in a venture fund?
Venture fund general partners accept "qualified" limited partners, who
commit in writing to invest specific sums in their fund. Limited partners
become parties to the Partnership Agreement, which spells out the terms of
the fund, and must be prepared to invest their commitments when called upon
by the GPs. Capital calls are made in some funds over the first years of the
partnership's life, on fairly short notice.
How is my investment repaid?
When a company in the fund's portfolio is sold or taken public, the
partnership receives compensation in the form of stock or cash. The general
partner typically distributes any cash proceeds to the limited partners
immediately and will distribute securities when they are free of most
trading restrictions and have reached a reasonable and stable valuation in
the general partner's opinion.
What are the income tax considerations of investing in a venture fund?
Venture capital investments usually span several years and do not generate
ordinary income. Realized gains on the sale of these investments typically
qualify for long term capital gains treatment. In fact, in cases where the
LPs receive stock distributions, taxable gains are deferred until the stock
is sold by the LP. Most taxable investors find the characteristics of
venture capital investing to be particularly advantageous, as investments
normally compound in value over several years free of income recognition
Excerpted from National Venture Capital Association and B4ventures.