This is Part 2 of my 3 Part series on Defining Equity Investors. In this post, I will cover Venture Capital and Growth Investors.
Venture Capital
It is worth digressing here to look at the deal nomenclature which characterises VC investors. These investors are not homogenous and have different appetites for timing and deal size. In very broad terms the deal sizes get larger as companies grow and risk reduces. Consequently (as long as things go to plan) valuations increase for each investment round. This also reflects a theoretical return for earlier investors and mitigates their dilution as further investment rounds are raised. The Series A is the first institutional round and subsequent rounds are labelled accordingly. It is possible to identify the sweet spot for VCs by looking at their track record. This normally shows the round, the amount raised. Often these investors work in syndicates which spreads the risk (and the blame!)
The interpretation below is intended to shed light on the circumstances around specific rounds. This is not a prescriptive procedure. In effect, subsequent rounds are given subsequent lettering. What I am trying to highlight is the evolution of the business strategy and the development of the company as it raises additional rounds of finance.
Series A: typically the first institutional round. This is likely to be unto $10m and is the first time that Angels and HNWs will see their early investment justified. The terms are critical, it needs to be a good Up round otherwise the early investors will get heavily diluted. This is often seen as a product risk round where the company are proving that they have a viable product that can be sold into the market.
Series B: The next VC round is often followed by the investors in Series A. They may have preferential terms or pre-emption rights. It is not unusual for them to bring new investors into the syndicate. This round is seen as a Market Risk round. Is there a strong enough market for the product to get real traction. We are now in a growth capital stage where the company would be expecting to be beyond cash positive or if not then a clear plan is in place for the company to get to this point.
Series C: The third stage of investment is another Growth Capital round. The company has established a product market position. This stage is likely to be about scalability. Is the market big enough and can the product get a large enough market share. Again continuity of investors is not unusual and one would not expect any institutional investors to be selling out but the company might try and consolidate its share ownership by buying out some of the early Angel investors.
Series D: This may be a Pre-IPO round. The company may be seeking additional capital ahead of a liquidity event. The risk here is about exit risk. Will the company be able to achieve these last milestones ahead of an IPO or a Sale?
Series E: In this round, some of the early institutional investors (who’s focus is on making returns from investing specifically in earlier stages) may choose to sell. In a sense this can become a secondary type transaction where new investors with larger amounts of financial firepower come into the business to continue its development
Series F: This is late stage investing but one scenario may be that the company has decided to takeout a competitor, to consolidate its market and therefore seeks additional capital (probably backed by some bank debt and/or mezzanine) to enable it to make one or more acquisitions.
Growth Investors
This is a cross over category between VCs and PE firms. In essence both investors are looking for companies who will grow in order to make their returns. However, a growth investor puts his cash into the company specifically to enable the business to implement its growth strategy.
Roll Out/Roll Up: This is also known as the “Buy-and-Build” strategy. In these deals investors provide acquisition finance for the “Platform” company to acquire competitors and thereby consolidate their market. The companies gain critical mass, achieve synergies normally by eliminating duplication and hope to exit, larger and more profitable. The biggest risks in these deals centre around not finding skeletons in closets and implementing the merging of the businesses effectively. These deals often involve bank debt to enhance the equity returns.
Expansion; this is a more straightforward variant of the growth strategy as acquisitions are not normally part of the mix. Additional capital can be deployed for capital expenditure or operational expenditure (e.g. extra resources for the sales and marketing efforts or R&D).
Mid Stage: this is a reference to a business’s life cycle. Above we have early stage and below we will discuss late stage. This implies that the company is two or three years away from a likely sale or IPO and is investing for growth. This may involve M&A.
Leveraged Build Up: this is another variant of the buy and build strategy referred to above. The leverage involved is the use of debt to extend the reach of the equity resources and in the normal course, the profits from the business are expected to pay this back.
Late and Growth Stage: these investors are all part of this group and this is simply another way of describing investors who are investing their capital in established businesses. The range of the deal size can be anything from £5m upto £100m and above. This is an investing strategy not really definable by size of deal.
Private Equity: this term is commonly used to refer to the wide range of institutional investors who are in a hetrogenous group separate from the VCs. Often the terms are used inter changeably. PE investors would tell you that they have less appetite for risk than VCs but in practice both groups work very hard to protect their down side.
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