Venture Capital
Institutional investment funds that finance high-growth startups in exchange for equity, expecting outsized returns.
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Definition
Venture capital (VC) is a form of private equity financing where institutional funds invest in high-growth startups in exchange for equity. VC firms raise money from limited partners (LPs) — pension funds, endowments, family offices, and fund-of-funds — and deploy it into portfolios of startups.
The VC model relies on power-law returns: most investments fail or return modest amounts, while a small number of "home runs" (10x-100x returns) generate the majority of fund performance. This is why VCs seek companies with massive TAM, rapid growth, and potential for venture-scale outcomes.
VC firms operate on a "2 and 20" model: 2% annual management fee on committed capital and 20% carried interest on profits above a hurdle rate. Partners source deals, conduct due diligence, negotiate terms, sit on boards, and help portfolio companies.
Why It Matters for Founders
Venture capital has funded most of the world's largest technology companies. Understanding how VC works helps founders navigate fundraising, set appropriate expectations, and evaluate whether VC is the right path for their company.
Not every startup should raise VC. The expectation of 10x+ returns means VCs push for aggressive growth, which may not align with every founder's vision. Bootstrapping, angel funding, or revenue-based financing can be better fits for companies targeting sustainable, profitable growth.
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Real-World Example
Sequoia Capital raises a $2B fund from pension funds and endowments, then invests $15-50M per deal in 30-40 companies, expecting 2-3 to return the entire fund.
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