What is Venture capital

Venture capital refers to investment that is used to finance a young company at risk of loss.

The term venture capital originally comes from the English-speaking world. Synonymous and the abbreviation VC are frequently used. The translation into German also indicates that VC represents an investment form which contains certain risk for the investors. An example may be that the capital injected does not multiply or even be lost altogether.

The venture capitalist

Venture capital is not a loan, but rather is seen as a form of development aid for a business idea. A so-called venture capitalist finances a young company with the knowledge that the company can fail and he loses his invested money. Therefore, venture capitalists choose their investments cautiously.

Venture capital and the risks

The goal of venture capital, of course, is to maximize the money spent. With the rule of thumb that out of ten deals, three of them must be very successful in order to achieve a good profit ratio. Venture capital therefore carries the risk of losing its investment but also the chance of getting back a multiple of its investment in a sale.

In most cases, venture capital deals not only provide funds, but also, unlike banks and credit institutions, logistical and non-material investor support. That is precisely why venture capital investors are a very important partner for young companies with potential.

The investment of venture capital can be introduced at different stages of the company’s development. Here we will talk about these so-called stages. The first and most risky stage is the seed funding, which will take place when the start-up is still in the Seed Stage.

This is followed by the early-stage financing, in which the invested venture capital is mostly needed for the activities after the completed product development. The subsequent later-stage financing is also often referred to as growth finance or expansion. The final stage is the exit, in which the shares in a company are either sold back to the founders or other financially strong investors who want to get into the company.

Anyone who wants to participate as an investor in a company, has the agony of choice. The range of the participations is large. Depending on the form and design, they bring advantages and disadvantages. In the following article, we explain that what company ownership is. We will also introduce different types of business ownership.

Corporate Participation - What is it?

Corporate participation in a company (also called equity participation) describes the proportionate ownership of a company. Corporate participation allows both private and professional investors to invest in a company. In return, he receives shares in this company. This means that the investor becomes the shareholder, and thus can profit in the future or obtain proceeds from a sale of the company.

Shareholders of a company have certain rights and obligations. The most important rights include information rights (entitlement to regular information about the course of business), profit-sharing rights (proportional claim to profits) and voting rights (voting rights in shareholder resolutions or shareholder meetings). The principal duty of the shareholder is the duty of loyalty (obligations of respect and loyalty towards the enterprise).

Investments in equities are the most common type of investment in companies. Investments in shares in limited liability companies are also widespread among professional investors such as business angels or venture capital companies. Even with funds investors can participate in a company. Corporate investments are usually investments in a company's equity. The investor receives an equity investment in which he contributes money or objects to the company, which then passes into the equity of the company.

Investors can also participate in the company's success through mixed capital (so-called mezzanine capital). Crowd-funding, for example, offers the opportunity to participate in start-up companies and growth companies through participating loans. These loans are linked to certain rights similar to those of a shareholder, including information rights, profit sharing and exit participation.

Debt capital, however, is not an equity investment, as debt investors cannot exert an influence on the company because they have no say and cannot claim information rights. In addition, the creditors have no profit sharing or exit participation and thus do not benefit from the company's success. They are only entitled to an interest-bearing repayment of their loan, credit or bond issue, not to profits or sales proceeds.

Corporate Participation - What types are there?

For investors, there are various ways to participate in a company. Almost all of these channels represent an investment in the company's equity, which will turn investors into shareholders. Some investments, on the other hand, take place with mixed capital, which does not make the investor a shareholder but allows him to participate in the company's success. Finally, there is the possibility to participate indirectly in the success of a company, as in the case of investing in fund shares. In the following paragraphs, we present the investment opportunities available to investors for participation in a company.

Corporate participation with shares

Investing in equities is the most common way of participating in a business. Large companies as well as some medium-sized companies are traded on the worldwide stock exchanges. In Germany, listed companies can either take the legal form of a stock corporation or a limited partnership on shares. They use the stock exchanges to raise capital by selling some of their equity in an initial public offering or a capital increase.

Company participation with pre-IPO shares

For investors, in addition to the classic stock market trading, there is also the option of participating in public companies before the stock market. Often times an emerging company from the growth phase plans an IPO in the near future, but requires a follow-up financing for the transition phase. For investors, this is the opportunity to invest venture capital in a promising company and to multiply their investment until the IPO.

Corporate participation with funds

Funds are a popular form of investment in Germany. For private investors, funds are a great opportunity to diversify their portfolios. Funds spread the risk for the investor, because they invest in various projects. There are funds with various range of investments: real estate, energy, film, music or business. In the following, we focus exclusively on funds that invest in companies.

Corporate participation with shareholder loans

A shareholder loan (also called equity loan) is a loan that is used to finance a project or business. The lender receives in return a profit-dependent (= shareholder) participation in the success of the project or company. This means that the lender receives a share of the profit or turnover. Participatory loans are long-term loans that run for several years.

Corporate participation with silent participations

In the case of company investments, a distinction is made between open and closed participations. Open participations are investments in the equity of a company and are entered as such in the commercial register. In addition, there are extensive rights of the shareholders, such as a say in shareholder resolutions. 

Company participation with tokens

Another form of ownership was created by the breakthrough of Blockchain technology and the associated Initial Coin Offerings (ICOs). In doing so, company issues digital value coupons (so-called tokens) and in return receives capital from investors. Most capital seeking companies are start-ups from the blockchain or crypto market. ICOs broke all records last year on raised capital. The record sums were favoured by ever-increasing hype of well-known cryptocurrencies such as Bitcoin and Ethereum.

Company participation with ltd. company shares

A direct way of investing in companies is investing in ltd. company shares. In the case of venture capital, it is a popular choice of many investors. Professional investors such as business angels (BAs) and venture capital companies (VCs) generally invest in equity capital, that is the ltd. company shares. Because most emerging start-ups and growth companies are still ltd. companies. In contrast, the corporation (AG) is more the legal form of large companies and industrial groups. 

Corporate participation and voting weight

Company shares can be differentiated according to which share of the capital an investor owns. For the amount of his share also determines the voting weight that he can muster in shareholder resolutions or general meetings.

For example, if an investor holds more than 50 percent of the voting rights, this is called a majority stake. With a participation of between 25 and 50 percent one speaks of a blocking minority. Although these are a minority of votes, they are just enough to prevent certain decisions from voting.

In the following chart you will find an overview of all forms of participation and the required amount of participation.

Succession or new establishment? 10 reasons for a takeover

If you dream to have your own business, do you have to start your own? Not necessarily. There are also other possibilities, for example, the acquisition of an existing company. But even this practice is widely used, there is relatively little information about it. In this article, we offer you 10 reasons for taking over a business exclusively.

Reason 1: The business idea has proven itself in practice

Hardly anything is as uncertain as a business idea which is not yet thoroughly tested. No matter how convinced a founder is of his approach, what is good for him is to put it into practice.

If you succeed a company that has been in the market for years, maybe even decades, you can be sure that the business idea really works. Otherwise, the company would have gone bankrupt.

Reason 2: You can directly step into the process

Anyone who has ever started a business (or is currently at it) knows: It's hard to get started! Especially in the early phase of self-employment, so many things have to be done "on the side", thus it is difficult to concentrate on the actual business.

In the case of a takeover, it is very different. As a successor, you can directly enter the business and continue the running processes.

Reason 3: You have experienced partners by your side

Entrepreneurs who sell their company often sell not just a business idea and manufacturing facilities, but also a large, high-quality network of business partners and suppliers. Do not waste your time making new contacts, just maintain the ones your predecessor left you.

You will soon realize that these experienced partners are a great advantage.

Reason 4: There are already customers

This fact will be particularly pleasing to many aspiring entrepreneurs, because it is well known how difficult it can be to convince a potential customer of a product or service.

One of the greatest benefits of company succession is that you automatically take over a customer base without any acquisition or expensive marketing measures.

Reason 5: Create valuable synergies

When young motivation meets old experience, in most cases it will generate something really exciting.

A company takeover rarely takes place right away; it is rather a product of a gradual rapprochement. Especially when the former and the new managing director work hand in hand for a while and enrich each other, the succession can create interesting synergies that considerably advance the company.

Reason 6: You already have suitable staff. Search for employees? Hire a head-hunter? Go through tons of CVs?

As a successor, recruitment is usually spared. After all, you usually take on the entire workforce with the company.

The staff do not only grow over time, they also know exactly what to do. This not only saves you a lot of time, but ultimately also lots of money.

Reason 7: The risk of failure is lower

If you are interested in taking over a business, you probably will not buy a company that has been "dying" for years. Acquiring a solid business always means you have a low risk of failing, which is invaluable in some industries.

Reason 8: You have better chances of getting loans

Many banks and other donors struggle to lend to inexperienced start-up founders. However, if the request comes from an established company with good balance sheets and financial statements, the situation will be very different.

As a successor you usually enjoy a high reputation with banks automatically. Not a bad starting point if, for example, you intend to take the company to the next level and let it grow.

Reason 9: The complex start-up process is partially dropped

Especially when you intend to establish a corporation, for example, a limited liability company, an entrepreneurial society or a stock corporation. You have to prepare for a complex start-up process that not only consumes time and money, but also brings lots of stress.

The situation is quite different with the takeover. In this case, only the follow-up formalities need to be clarified. It saves you from all the complexity of establishing a new company.

Reason 10: You earn money from day one

While founders who start from scratch often do not earn a penny for months, as a successor you can start earning money from the first day. Again, it is clear how advantageous it is to take over a running operation.

Company takeover? Worth considering

Of course, the topic of company takeover is incredibly complex and was touched on this page only superficially. And of course, it must also be emphasized at this point that there are certainly disadvantages in this context.

Investing in start-ups and growth companies is exciting, but there are also investments with certain risks. Because start-ups are at the beginning of their business development and work mostly on business ideas that have yet to prevail in the market.

That is why venture capital is mentioned when investing in start-ups. If you enter at the early stage as a crowd investor, you also have the opportunity to participate in shares of the start-up's profit or sale and thus achieve high returns. In order to make your investment in start-ups successfully, we present 5 tips that experienced crowd investors follow when investing in start-ups.

Check the risk capacity and risk tolerance

Crowd-investing (also known as equity-based crowd-funding) offers high returns at the meantime with high risks. The question that should be answered here is whether the loss of capital is bearable or not. In case of doubt, are you able to give up the invested money? Only after these questions are considered, then you can be involved as a retail investor in crowd-investing.

Since to invest in start-ups are considered as venture capital, early crowd investors will also be rewarded for their courage. The growth companies offer investors a fixed interest rate of up to 8 percent as part of a venture loan. Although start-ups cannot offer such high fixed rate, but for small investors, they will get return from subsequent profits and can expect high returns if the start-up company get sold (also called exit).

Every crowd investor has to decide for himself whether he is prepared to take the risks or not. This question is related to the type of investor. For the defensive and conservative crowd investors, security is more important than return. By contrast, the moderate and risk-focused crowd investors are brave and at times are willing to take on greater risks in order to gain the prospect of higher returns.

Spread risks in portfolio

In general, investors can reduce the risk by spreading or diversifying the invested capital among different investments. This also applies to start-ups: the capital should not go to a single start-up. The portfolio theory asserts that the sum should be distributed over several investments, in this case to several start-ups.

If an investment does not succeed, successful investments in other start-ups can offset that loss. Crowd investors should be careful to invest in companies with different industries and different business ideas. When a crisis hits one particular industry, not all investments in the portfolio are affected equally.

Gain experience

No one invests in crowd-funding alone, but always together with others. That's why Companisto has the Investors' Forum in the profile of the respective financing round, in which the crowd investors (called Companists in our case) exchange ideas, either with each other or with questions to the founding team personally. This way, all open questions between the crowd and the founders can be clarified in advance.

By attentively reading the questions asked by other investors and the respective answers of the start-up one gets an even deeper insight and profits from the knowledge of the others. Through this exchange with the founders and the crowd, crowd investors themselves become part of the founding scene. Since you can become a crowd investor in start-ups with an investment of only 100 euros, it is possible to start with relatively small amounts of money. So everyone can find out for himself which investment opportunity is right for him.

Thoroughly read contracts and company profile

The participation agreements at Companisto are standardized. A few parameters change depending on the financing, such as the exact participation rate, as it depends on the company's valuation, but in general they are the same contracts. Therefore, it is worth taking the time to read everything thoroughly when investing in Companisto.

When deciding which start-up to invest in, it's not just the business ideas, the team and the business plan also matter. The central questions are among others:

• Will the product perform successfully on the market?
• Is the need for capital described on the start-up's profile comprehensible?
• Is the monetization strategy of the business idea understandable and likely?

The last point means that the start-ups should at least already know how they want to earn money in the future with their business ideas. This point may sound almost too logical for it to be addressed.

Stay informed

Crowd-investing is a long-term investment. The participation in a start-up (not in venture capital for growth companies) lasts usually over five to eight years. Quarterly, the companies send reports in which they inform the crowd investors about the current situation of the company. These quarterly reports allow the investors to keep an eye on the start-up's development and thus their own investment.

Experienced crowd investors also keep themselves up to date. They not only follow the development of their company, but also observe the founder scene in general in order to recognize new trends in time. In this way, they can find out innovative business ideas and possibly the right start-up company. It makes sure that they can participate early on crowd investing.