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  • Colby Lepore

What is the easiest way to explain what a venture capitalist does?

Updated: Jan 5

(Answer requested by Paul W.)


Paul,

In order to understand what a VC does, you have to first understand where the money is coming from.


The money that VC’s invest typically comes from LP’s (Limited Partners) or Family Offices.


These are entities that manage large amounts of money, and invest that money into an array of assets including startups.


The issue however, is that investing in high potential startups is very difficult.


That’s where VC’s come in.


VC’s understand the startup ecosystem and are able to make strategic investments that hypothetically, have a better chance at returning money to the LP’s/Family Offices.


As a general rule, the typical compensation model for VC’s is referred to as the 2/20 model.


What that means is that VC’s will take a 2% management fee every year on however much is left to be invested, and then 20% of the profits on any investments that yield a return.


Ironically, venture fundraising is very similar to startup fundraising in the sense that both VC’s & startups must raise money from investors. The VC’s pitch the LP’s, the startups pitch the VC’s.