Venture capital

Venture capital (VC) is equity financing from professional funds. The fund raises money from its own investors, buys a slice of startups, and hopes to sell that slice years later for much more. For a SaaS founder, taking VC changes the job: you are now expected to grow very fast and to end in a large exit.

How the model works

A VC fund invests in many companies knowing most will return little or nothing. Returns come from the rare outlier. Paul Graham made this point about Y Combinator's own portfolio: two companies, Dropbox and Airbnb, accounted for about three quarters of the total value it had funded at the time he wrote. This is a power law. One company can return the whole fund, so investors want companies that can plausibly become enormous.

That logic shapes what a fund will back. A business that grows to $3M ARR and throws off healthy profit is a great outcome for a founder, but it does not move a large fund's results. The fund therefore pushes for growth over profit, and for a sale or IPO big enough to matter.

What you give up

• Ownership. Each round sells equity, so you face dilution.
• Control. Investors usually get board seats and veto rights on major decisions, set out in the term sheet.
• Optionality. Preferences such as a liquidation preference mean a modest sale can pay investors first and founders last.

Why it does not fit every SaaS

Paul Graham defines a startup as a company designed to grow fast. VC money is built for that kind of company. Many good SaaS businesses are not designed that way. They serve a narrow niche, grow 30 to 60 percent a year, and reach profitability early. Rob Walling and the Startups For the Rest of Us community have long argued that for these businesses bootstrapping, small angel checks or bootstrapper-focused funds are a better match than a traditional VC round.

Ask what outcome the investor needs, not only what you want. If your realistic ceiling is a $10M to $30M sale, that can change your life and still be too small for a VC to want.

Stages

Most VC-backed companies move through seed, then Series A, then later letters. Each round comes with higher expectations on growth.

Related terms

• Seed funding
• Series A
• Bootstrapping
• Term sheet
• Dilution
• Exit strategy

Sources

• Black Swan Farming, Paul Graham
• Startup = Growth, Paul Graham
• Episode 558: Thinking Through Funding as a Bootstrapper, Startups For the Rest of Us