What is Venture Capital? | Wall Street Explained [Video]

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In this video, I break down the foundations of venture capital!

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Script:

Venture capital, often referred to as VC, is a form of financing provided by investors to startup companies and small businesses with high growth potential. In exchange for financial support, venture capitalists typically receive equity stakes in the companies they invest in, allowing them to share in the success of the ventures they support.

The venture capital process usually begins with the identification of promising startups by venture capitalists or VC firms. Once a potential investment opportunity is identified, thorough due diligence is conducted to assess the viability and potential of the business. If the investment aligns with the VC’s investment strategy and objectives, negotiations ensue, leading to an investment agreement.

The number of deals venture capitalists invest in can vary widely depending on their investment strategy, portfolio diversification goals, and risk tolerance. Generally, VCs invest in multiple startups to spread their risk and increase the likelihood of discovering the next big success.

In the VC industry, it’s commonly understood that a small percentage of investments will generate the majority of returns. This phenomenon is often referred to as the “power law distribution.” VCs typically expect that only a minority of their investments will deliver massive wins, while the majority may result in losses or modest returns.

While there isn’t a fixed number of deals that VCs aim for to secure a massive win, they often seek to build portfolios with a mix of early-stage, mid-stage, and late-stage investments. Early-stage investments carry higher risk but also offer the potential for significant returns if the startup succeeds and achieves high growth. Meanwhile, late-stage investments may offer more stability but potentially lower returns compared to early-stage investments.

In practice, some VCs may invest in dozens or even hundreds of startups over time, with the expectation that a few of these investments will become unicorns (startups valued at over $1 billion) or generate substantial returns through acquisition or IPO.

These examples illustrate the critical role venture capital plays in fostering innovation and driving economic growth. By providing funding and support to visionary entrepreneurs, venture capitalists help bring groundbreaking ideas to life, ultimately reshaping industries and improving our lives in the process. It also shows why many ambitious people choose to go into VC, with hopes of investing in the next unicorn, and thus generating massive wealth.