With three kids of my own (10, 12, and 14), and a lot of time spent in incubators and corporate innovation programs, I’m frequently wondering if and how we can’t better introduce our kids to entrepreneurship and prepare them for what’s involved in raising capital. Begging this question, How would you explain venture capital to a 10 year old?
WAY too often offered online is the notion of a lemonade stand.
That in setting up a business, you have costs that require capital (money). And that if you have a way to pay back the money, upon selling your lemonade, you can turn to “investors” who will give you some of the money so you can buy the supplies you need.
The thing is, that’s not remotely how Venture Capital works. In such a case, you might get a loan or bring on a “business partner” who would get paid back from their participation in the business, but that’s not Venture Capital.
Venture capital is a form of private equity and a type of funding that investors provide to startup companies that are believed to have long-term growth potential. Venture capital generally comes from well-off investors, investment banks and any other financial institutions. The firm or the investor will pledge an investment of capital in exchange for equity in the company. These funds may be provided all at once, but more typically the capital is provided in rounds. The firm or investor then takes an active role in the funded company, advising and monitoring its progress before releasing additional funds. The investor exits the company after a period of time, typically four to six years after the initial investment, by initiating a merger, acquisition or initial public offering (IPO).Investopedia
Explain that to a kid.
Heck, explain that to an adult.
The lemonade stand is a good place to start but it’s not quite the right introduction to Venture Capital. Let’s go back to the beginning…
Business need two things to start:
1. People, like you, and the work you put into them
2. Capital, money, in case you have other things you need to pay for
Usually, well, always really, when you start a business, you pay for those things yourself. So while you need the two things to start, you’ll probably take care of both of them by yourself.
As your new business grows, you’ll probably need more help or in particular, help with things that you can’t even do yourself.
Make sense? [then I shift gears a bit]
Now what KIND of business have we started? [I let them share their ideas for a bit and then I clarify]
So is this a business that is doing something completely new and different? Inventing things? Or is it a business like a new restaurant or a book writing business?
In the case of our restaurant, or a business that’s fairly common, lots of people can help you because it’s pretty well known HOW to start that business. Make sense? You’ll need more money as you grow, of course. Most of the money for those kinds of businesses will come from customers, maybe a partner who can put in more money, or loans (which you really want to avoid if you can).
If we’re doing something completely new, like, at one point, Google was completely new, Netflix was completely new to the world, if we’re doing something like that, you might need a lot more money AND it’s not likely you’ll be able to get that money, or enough, from customers or a partner.
Make sense? [I teach so I’ve learned to pause and validate A LOT, particularly with kids] [shift gears again]
In any of our businesses, either that restaurant or our Google, we actually have to PAY for the money that we get from others.
Kind of confusing isn’t it but yes, we have to pay for money because people aren’t just going to give you money for free.
Customers give us money, and we pay them for that money by giving them what they want. Right?
The loan would cost us for the money, if we did that, because the bank will want you to pay it back, regularly, and more so. You’ll have to be able to do that, or you could lose the business.
And that business partner would be getting paid for the money they add, because they’d be a part owner of the business.
And that’s where “venture capital” is an option. But notice, I didn’t say venture capital is an option for the restaurant, because venture capital is LIKE a business partner, but very different.
Venture Capital is a source of money RAISED from other people.
When you get money from a Venture Capitalist, they’re taking it out of a fund, where OTHER investors put the money in.
And those investors want their money back. More of it, in fact.
So when you get money from Venture Capital, THEY want it back, more of it, as they have to return more of it to the people from whom they got money.
They don’t get it back like a loan… you don’t pay it back. Instead, like the business partner, they’ll own part of your business with you. Unlike a business partner, they don’t work only on the business with you, like you; because they put A LOT more money in and their job is to manage their investors and other investments.
So they get ownership in the business and to get their money back, they’re helping you be very successful – they want the business to get sold. Yes, sold.
Not putting you out of business and not because they want you out of the business, getting it sold is how everyone, you too, get a lot of money back for all the work you do.
It gets sold, in the future, to a bigger company, or to everyone, everyone can buy small parts of the business from you.
In either case, you all get a lot more money, the Venture Capitalists gets their money back, and the business is no longer yours (essentially).
Here’s the real catch, Venture Capital really only likes that new business kind of stuff, they want to make the next Netflix.
Why? Because that’s its role. That’s what it wants to invest in. There are other investors who like to invest in things that aren’t as new but Venture Capital does.
And so the catch, a lot of times those kinds of businesses, those newer businesses, fail. And the Venture Capitalist loses all their money. Yep, it happens.
So when looking to get Venture Capital, consider that they are expecting you to get A LOT bigger as a business, becoming a “company,” BECAUSE they need the few successes in which they invest, to make up for all the money they lost on things that didn’t work out.
And they won’t take that risk on you right away, they’ll only do it when you’re further along, so they have some confidence and reassurance that you can succeed.
What you want to do is figure out as you start, that you will need venture capital, that you want venture capital, and what it will take to get it, even start figuring out from where you might get venture capital, because there are a lot of “funds” that could invest in you. That way, you can start to build your business in the direction in should go so that those Venture Capitalists will want to help.