Venture capital

What it means

Venture capital is equity put into a young company in exchange for a stake, not a loan. The fund expects no interest and no repayment, only a multiple when the stake is sold; if the company folds, the money is gone in full.

The investor joins the decision-making as well as the equity: information rights, a veto over key steps and a line in the cap table. In Slovakia the vehicle is an s. r. o. or a simple joint-stock company, which was created for exactly this.

It differs from investment crowdfunding in the number and role of the investors. In crowd funding many people put in small sums and stay out of management; a fund puts in a lot at once, picks the company to fit its own strategy and works actively with it throughout. Its money is tied to the fund’s lifetime, which is why the investor is thinking about the exit on the way in.

How it works in practice

The deal runs in order: term sheet, due diligence, investment agreement, capital increase and the entry in the commercial register. Only a small slice of the money lands in registered capital; the rest goes to a capital fund or to share premium, because the price of a stake is a multiple of its nominal value.

For the bookkeeper this means the investment is not revenue but a movement within equity, and that a convertible loan stays a liability until it converts. Regular investor reporting comes with it, on its own timetable and in a shape that does not match the statutory accounts.

A round often includes an employee share option plan, which the fund wants created before it enters so that its stake is not diluted later. For the books and payroll we go through with the client in advance how the plan shows in equity and in employee taxation, since the point at which tax arises depends on the terms on which the options are granted and exercised.

What to watch out for

Founders sign a term sheet with a liquidation preference and vesting without modelling a modest exit. On a sale just above the money invested the investor takes the whole preference and the founder is left with nothing, although on paper they hold the majority.

Several convertible loans with a discount and a valuation cap, signed one by one without a combined calculation, all convert in the same round. Only in the new cap table do the founders see that their stake has fallen far more than expected, and the new investor still wants a fresh option pool for the team on top.