Types of Venture Capital Financing

There are three main groups into which venture capital investment can be divided. They are early stage, expansion, and buyout. Each of these groups is further divided into subgroups, as illustrated in the chart on the next page:

Early Stage

Early stage investing is divided into three subgroups: seed financing, startup financing, and 1st stage financing.

Seed Financing

This type of financing will be very early in the life of the business, usually pre-revenue and sometimes even before the product or service is created. It will also make it easier for the entrepreneur to get loans after being financed this way. The entrepreneur will use seed money for market research and early product or service development.

Startup Financing

Startup financing is used by businesses to finish the development of their products and services. In some cases, it will also be used for marketing the products and services. This helps the company launch their operations.

1st Stage Financing

This is the last subgroup of financing in the early stage category, and would be used to continue operations of the company at a higher scale. Products (or services) would start to be produced in a large scale, and the initial funding would have been used by this time.

Expansion

Expansion investing is also broken up into three subgroups: 2nd stage financing, bridge financing, and 3rd stage financing.

2nd Stage Financing

This stage of financing is used by a business for initial expansion plans whether that involves products or services. The company usually will not be profitable even after receiving this type of financing.

Bridge Financing

Bridge financing is used as a short term investment that will maintain liquidity, especially if an inflow of cash is going to be received. One example could be if the company plans to have an IPO, bridge financing can be used to sustain the company for a short period of time that is till it receives money from the allottees.

3rd Stage Financing

This type of financing is also called mezzanine financing, and is invested into a company that has achieved its breakeven point, and in some cases is achieving profitability. This type of financing will be used by a company for marketing, plant expansion, and new products or services.

Buyout

The buyout stage of investing can be broken down into two subgroups: acquisition financing and leveraged buyouts (LBO).

Acquisition Financing

This type of financing is used to acquire either part of a company or the entire company. The original business making the acquisition would have expanded to the point where this strategy is feasible.

Leveraged Buyout (LBO)

This type of financing is otherwise known as a management buyout. The management group of the company will acquire an equity stake in a company and potentially buyout certain assets of the company. The company acquisition will be primarily financed through debt. Management teams or companies themselves use this strategy when they do not want to commit capital to the deal.