In Short
Venture capital funding gives startups access to growth capital in exchange for equity in the business.
Venture capital funds are usually structured as limited partnerships, managed by general partners who make investment decisions.
Taking venture capital can dilute your ownership and influence how key decisions are made in your company.
Tips for Businesses
Before accepting venture capital, understand how much equity you are giving away and what control rights investors will have. Clarify expectations on strategy, growth and exit plans early. Review term sheets carefully, focusing on governance, dilution and veto rights. Ensure your investment agreements align with your long-term business goals.
Summary
This guide explains venture capital limited partnerships for UK business owners and startups, and how these structures affect funding and control. It is prepared by LegalVision’s business lawyers, and LegalVision, a commercial law firm, specialises in advising clients on venture capital and startup investments.
If you are looking for funding or investment for your startup business, you may come across venture capital funds. A venture capital investor can be a good way of financing your business in its early stages. Understanding a venture capital limited partnership can help you navigate your obligations and financial structure. This article will explain some key points that you should consider when dealing with venture capitalists.
What is Venture Capital?
Venture capital is a form of private equity financing where investors provide capital to early-stage, high-potential companies in exchange for equity stakes. In short, venture capital provides capital to startup companies that are anticipated to have long-term growth. In other words, the goal of a venture capitalist is to find a young company with high future growth potential.
Venture capital can be provided by:
- private investors;
- investment banks; and
- other investing institutions.
Venture capital is usually a good option for young businesses, especially if they have limited access to traditional debt instruments. For instance, it may be difficult for startups to access capital markets and bank loans. Furthermore, having large amounts of funding can be essential for your business to carry out its strategy.
However, venture capitalists will also usually want an equity stake in your company. This means that the main downside of securing funding from a venture capital fund is that you can lose control over some of the decision-making within your company.
Capital raising is a critical time for any startup. Take control of your startup’s equity with this free cap table template.
What is a Partnership Structure?
Most venture capital funds (and, more generally, most private equity funds) are structured with limited partnerships.
A fund will consist of general partners as well as limited partners. The general partners are responsible for running and managing the partnership. In theory, they have unlimited liability for the debts and obligations of the fund. However, in practice, general partners typically operate through limited liability entities (such as limited companies) to protect themselves from personal liability.
Limited partners are any partners who are not general partners. They will contribute to the capital pool using their own money but will not participate in the fund’s management. Typically, a limited partner will be an institutional investor, such as:
- a pension fund;
- a sovereign wealth fund;
- a university endowment; or
- a high net-worth individual.
When dealing with venture capital funds, your company will typically enter into investment agreements with the fund itself (which is structured as a limited partnership).
Continue reading this article below the formWhat Does This Mean for My Company?
You must understand how your funding is structured. Since the general partners manage the fund, they will be the ones who might want to get involved in your business.
A venture capitalist will want some equity or stake in your company as part of their overall investment. This is because venture capitalists seek to profit by helping a company with growth potential reach its potential.
They will typically do this by injecting funding and helping your company’s strategy and growth. Indeed, not all venture capitalists solely offer funding. Some offer valuable expertise beyond their financial investment.
As a result, if you are getting funding from a venture capitalist, you will likely be dealing with general partners more frequently. Therefore, it is essential that you are familiar with the general partners and have mutually beneficial expectations and goals.
Legal Framework in the UK
In the UK, venture capital funds are typically structured as limited partnerships under the Limited Partnerships Act, often using the modern Private Fund Limited Partnership (PFLP) regime, which offers greater flexibility and maintains limited liability for investors who do not take part in management. These partnerships are generally tax-transparent, allowing profits and losses to flow through to investors.
In Scotland, some funds may also use a Scottish Limited Partnership, which also has separate legal personality, though their use has become more regulated in recent years.
Key Takeaways
If you are a small business or a startup company with high growth, you may look at securing an investment from a venture capitalist. However, you should also remember that venture capital funding usually comes at the expense of equity in your company.
When you are dealing with venture capitalists, you will usually be dealing with the general partners. General partners are essentially fund managers, while limited partners are typically institutional investors who put forward their money and have little or no managerial obligations.
LegalVision provides ongoing legal support for UK startups through our fixed-fee legal membership. Our experienced lawyers help businesses manage contracts, employment law, disputes, intellectual property and more, with unlimited access to specialist lawyers for a fixed monthly fee. To learn more about LegalVision’s legal membership, call 0808 196 8584 or visit our membership page.
Frequently Asked Questions
A general partner is a manager of the fund. They take on unlimited liability for all of the debts in theory, though in practice, they typically operate through limited liability corporate structures and have more power to control what happens with the fund.
A limited partner is someone who pools together their capital as part of the overall fund. They enjoy limited liability (restricted to their capital contribution), provided they do not take part in the management of the partnership business.
The equity stake varies depending on the stage of your business, the amount of funding, and your company’s valuation. For example, early-stage investments (seed or Series A) might involve giving up 10-25% equity, while later rounds may involve smaller percentages. The exact amount is negotiable and should be carefully considered with legal and financial advice.
Key protections include anti-dilution provisions, board representation rights, veto rights on major decisions, and exit provisions. You should also consider negotiating founder vesting schedules, drag-along and tag-along rights, and clear governance structures. It is essential to have experienced legal counsel review any term sheet or investment agreement before signing.
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