When we hear the term venture capitalist, we visualize a show where there are a bunch of investors (think: Mark Cuban and the Shark Tank panel) listening to business founders make a presentation about their business to gain monetary investment.
The word invest has become a precarious term. Today, we see a cautious approach adopted by businesses when it comes to investing. Considering the recent business debacles, it is quite understandable if investors want to be careful and sometimes even back out of certain investment opportunities.
The 2020 pandemic threw many investors into a cautious tailspin of questions and future predictability. Though there were other factors that created a surge in economic uncertainty, investors constantly asked business owners about revenue channels and potential customers.
( Also Read: What Is Fractional Share Investing? )
VCs to Fund Experiments
Firstly, one must understand that every established and successful business today was once upon a time a start-up. It did require funding and that’s how it was able to grow and become self-sufficient. So, there is absolutely no harm in investing in start-ups that have strong fundamentals, show stability, and also have a clearly defined future roadmap. However, this should not be at the cost of being over-experimental, where you disrupt the investment market; something that has been quite evident in the recent past where non-traditional investors have jumped in, taking more risks, which others (the traditional players) would have avoided.
Let us look at the top 4 reasons why venture capitalist firms should invest in experiments
High risk yields high returns
Those start-ups who start making early inroads in the moneymaking journey, attract investments, for just one simple and unfortunate reason, failure of start-ups. Most start-ups are not able to generate profit out of their business.
Investment in post-Covid times is even more challenging. Many start-ups have hit the crescendo of revenue generation. Hence, additional investment for the expansion of operations will not be a viable option for venture capitalists. They would be keener to invest in ideas that are at a very nascent stage, has a potential to grow, and which they can nurture from a very early stage.
Analysts have showcased that start-up owners who have adopted experimentation by leveraging cloud computing technology, have had an increase in the valuation by 20% compared to those in other sectors.
Exclusive access to insights
Any sort of experiment that start-ups are venturing on is rarely ready to be deployed at an early stage; forget about being profitable. If you are hearing about a start-up performing well, then there is a high possibility that the venture is swimming in a safe zone. The test case scenario that they are working on might be decades old, something that has undergone a paradigm shift in reality.
The best practices of established businesses sound to be very idealistic, but the flip side is the inability to achieve anything significant. On the other hand, start-ups who are at the early experimental stage are usually working with multiple datasets and business models, which are completely unique. These working scenarios can have a huge impact on the industry and will also impact the funding that they can attract.
Investment in the social causes is seeing a surge
Over the last two years, we have seen a significant rise in companies, particularly the ones that are promoting social causes such as environmental protection or carbon footprint. From a compliance point of view, ESG (Environmental, Social & Governance) has gained a whopping $51 billion worth of inflow in the year 2020. This number is expected to grow to $1 trillion according to a senior executive at BlackRock.
Then comes a question as to what the relationship of ESG is to venture capitalists investing in experimental start-ups. The fact is that many of these start-ups are promoting a lot of environmental and social causes. Furthermore, these start-ups are finding innovative ways of doing it, which were not done earlier. Yes, the methods are not going to yield any profit in the immediate future, but there is a visibility of that milestone being achieved.
Increase in leverage for better negotiation
If we look at start-ups, they don’t have any type of physical infrastructure or office or any other asset to be offered as a security to get a loan sanctioned from the bank. Hence, this is an opportunity for venture capitalists to jump in. Venture capitalists can evaluate the start-up on their own terms, which the traditional financial institutions (such as banks or lending companies) would not even consider.
People who are visionary and have the zeal to excel, are the ones that encourage these start-ups and promote them as well. The unfortunate part is that these traits are music to ears but pleasing to eyes when it comes to the balance sheet.
Today, institutional investors are not taking any risks, which is why many potential opportunities don’t get the financial thrust, and eventually, they just fade away. We see a large chunk of start-up entrepreneurs having a brilliant idea but lack the network to convert a concept into a financial model. However, venture capitalists are well connected, and they know exactly whom to reach out to at the time of investment. Additionally, these VCs can also serve as good mentors, sharing their own insights. This can result in a high possibility of a successful start-up venture.
As soon as the venture is set course in a direction, then there is a desire to constantly help in steering the ship to the right course; consistently.
Covid-19 has created some dent in the investment market, where we saw many established businesses closing their shop. Potential investments, that were a sure-shot market disruptor, wrapped up due to remote operations scenario. Investments are always a risky game; however, Covid-19 just gave it another tremor, making it far more precarious. One must understand the patterns of investment on three occasions – pre-covid, during covid, and post-lockdown times.