Venture capitalists are compensated through a combination of management fees and carried interest.

Management fees:

– VC firms typically receive a 2 percent management fee of the committed capital paid to them from the remaining money in the investment fund.

– This money is used to help pay for the day-to-day operation expenses of the VC firm.

Carried Interest:

– After exiting an investment, typically 20 percent of the investment fund’s profits are paid to the private equity fund’s management. This hefty percent is paid as an incentive in efforts to achieve outstanding performance.

– The remaining 80 percent of profits are divided between the fund investors.

– This 80/20 split of profits is only a general guideline, and different splits are very possible.

Capital Use

As mentioned, two percent of a fund’s capital is paid each year toward VC management fees. As an investment gets closer to its exit stage, a fund may run out of funds. To handle this problem, a firm often has overlapping funds from which money can be drawn to help pay for skilled category managers in each stage of the investment.

In a world where technologies are in rapid and constant change, a funds management needs current state of the art managers and these managers may change over the life of the investment.

Funding Alternatives to Venture Capital

Entrepreneurs often seek funding from angel investors– rather than from venture capitalists– because of the strict legal requirements associated with VC rules.

Often, angel investors are daring and speculative and, although the money received from angel investors comes at a steep price, it may be a wise move by the entrepreneur to accept an angel investment.

An angel investor is usually a single individual who provides capital for a business startup and in return receives convertible debt or ownership equity.

Most VC firms want a proven technology and not an idea which may work. This concept was born out recently when our firm had an entrepreneur come to us to help arrange funding on an automobile whose fuel source was hydrogen. Although the science was sound, the entrepreneur did not have a working prototype and although we approached 58 in-category VC firms, none was interested, once no prototype was available. In contrast an angel investor may just fund an entrepreneur in the idea phase.

There is a relatively new investment concept for VC called crowd funding. Although common in the mutual fund world, it is a fairly new concept in VC. In crowd funding a group of middle income investors pool their money and a management firm invests it in a venture capital project.

In the past it has taken an enormous amount of effort to find fund investors, but with the proliferation of social media, friends in the same financial position communicate around the world, and make crowd funding possible at very little cost.

As technology increases and companies provide more and more information to potential investors, it is very possible to calculate the value of multiple investments simultaneously using net present value on multiple investments based on cash flow and the trend of cash flow. This ability makes it possible to obtain business loans from many different sources which can then be used to finance expansion.

There are also angel groups who work at the idea generation and attorneys who act as intermediaries for VC groups and those needing funding.

The above is only a small sample of possible investors. The reality is that there is far more money available to projects than there are good projects. It is the case of too much money chasing too few good deals.

Dr. Brent Lundell owns http://www.GainStreamGroup.com, a venture capital sourcing and consulting company, and is a partner in The Guinn Consultancy Group, Inc. The Guinn Consultancy Group provides a wide array of business services, including seminars, webinars, and venture capital sourcing services.

Dr. Brent Lundell owns http://www.GainStreamGroup.com, a venture capital sourcing and consulting company, and is a partner in The Guinn Consultancy Group, Inc. The Guinn Consultancy Group provides a wide array of business services, including seminars, webinars, and venture capital sourcing services.

Author Bio: Dr. Brent Lundell owns http://www.GainStreamGroup.com, a venture capital sourcing and consulting company, and is a partner in The Guinn Consultancy Group, Inc. The Guinn Consultancy Group provides a wide array of business services, including seminars, webinars, and venture capital sourcing services.

Category: Finances
Keywords: Finance,Business Funding,Venture Capital