In the past, investing in startups required both money and a solid network. But today, crowdfunding websites make it simple for regular people to invest in a promising startup potential.
Although it has the potential to be profitable, investment in startups carries significant risks. As you do your research, there are also things you should know before starting to invest in startups.
What is Startup Investment
A clear definition of a startup investment is a fund or solid financial network given to a firm that is developing a new product or service in the face of great uncertainty.
They do all these things with Strategic plans and methods to tackle issues in the economy.
Read- 10 Resourceful Sources of Startup Financing
Platforms for Investing in Startups
With the aid of crowdfunding websites, regular individuals can invest in startups. Startup investing platforms provide a selected list of companies and have varied minimum buy-in requirements.
Major participants in the startup crowdfunding market include:
According to Kendrick Nguyen, CEO of crowdfunding website Republic, just approximately 3% of the thousands of companies that want to raise money on the platform are accepted.
While SeedInvest requires at least $500, the most of the sites on the list above allow you to start investing in businesses with as little as $100.
Another well-known startup investment platform is AngelList. However it only accepts certified investors with salaries of at least $200,000 ($300,000 if married) or net worths of at least $1 million (excluding their primary residence) as investors. On AngelList, the minimum buy-in is at least $1,000.
Read- Where Business Startups can Invest their money in Nigeria.
How to Get Rich Investing in Startups
To get rich investing in startups requires you and the startup entering into an investment agreement when you invest in a startup using a crowdfunding website.
In general, there are four basic types of investment contracts, each of which provides various opportunities for profit from your investment:
- Debt
- Convertible note
- Stock
- Dividend
1. Debt
This kind of agreement considers your funds as a loan with interest. A set return, such as two times your investment, or a variable return may be provided by the contract.
How well the business does over time will determine when you start receiving interest payments.
2. Convertible note
This agreement is a type of debt that does not accrue interest and is convertible into equity when a business achieves specified objectives, such as obtaining additional rounds of investment.
Once the company is bought out by another company or eventually goes public, you profit from your investment.
3. Stock
You might be able to purchase stock in later-stage businesses, just like you could do with a publicly traded company.
Just remember that you cannot sell your startup stock shares. Hold on to your shares until the startup goes public or is acquired by another company if you want to profit from it.
4. Dividends
Investors have the option to purchase shares of stock in profitable later-stage startups that pay annual dividends.
Read- 4 Insightful Ways to Attract Angel Investors in Nigeria
How Much Money Can You Invest in Startups?
According to SEC guidelines, non-accredited investors should be informed that there may be a maximum amount you can invest in crowdfunding projects within any 12-month period:
If your annual income or your net worth is less than $107,000, you might invest up to the greater of $2,200 or 5% of the lesser of your yearly income or net worth. You can invest up to 10% of your annual income or net worth, whichever is less, if your net worth is equal to or greater than $107,000. However, the total cannot go over $107,000.
You shouldn’t go all-in just because you have money to invest in startups. According to Randy Bruns, a certified financial planner (CFP) in Naperville, Illinois, “the correct amount to allot should be no more than the investor can safely lose if the startup goes bankrupt or takes an extremely lengthy period to play out.”
Experts typically advise against making a single large investment in a single business and instead advise making multiple smaller investments in a number of firms. You should “only invest if you have enough funds to make 15-20 startup investments,” according to AngelList’s investing criteria.
If you invest in five startups and four of them fail, you still have one winner, which provides diversification and may help you keep some of your money safe. However, according to AngelList, “you should expect your overall losses to surpass your gains.”
Advantages And Disadvantages of Investing in Startups
| Advantages | Disadvantages |
| Growth potential: Although the S&P 500’s large-cap stocks are much less risky than startups, there is rarely potential for exponential growth. But if you choose a lucrative startup, the possibilities are endless. According to Tom Schryver, a professor of entrepreneurship at Cornell University’s SC Johnson College of Business, “there are so many opportunities for growth.” “There is a big multiplier effect that might be quite significant. That is a portion of what an investor would purchase. | Startups are extremely risky: A lack of product-market fit, marketing concerns, team troubles, or other problems cause about 90% of businesses to fail. Total loss is a possibility, according to Schryver. Startups are often only a good investment if you’re willing to lose everything you stake. Your money should ideally be invested primarily in index funds, exchange-traded funds (ETFs), or even just individual stocks. |
| Confidence in a novel idea You might be drawn to startup investing because it involves business owners pursuing novel concepts. Whether it’s more sustainability or a really cool sneaker firm, people frequently invest in what they want to see in the world, according to Elias Stahl, the creator of the sustainable shoe company HILOS. There is no better chance to support what you wish to happen in the world. | 2. Investments in startups are illiquid: You could simply sell a stock you bought today if you decided to change your mind about it the next day. On the other hand, startups are notoriously illiquid. You should anticipate that your money will be invested in a startup for at least three to five years, if not longer. According to Ammar Amdani, a partner at early stage venture capital firm, Adapt Ventures, “you can have the opportunity to liquidate through secondaries, but it’s not a guarantee, and your investment will likely take years to mature and materialize.” |
| Personal connectionsPerhaps your brother or your neighbor is introducing a fantastic new product. You would like to contribute money to a friend’s or relative’s initiative since it sounds like a creative concept. According to Schryver, “a lot of people invest in startups because they’re in a network and are funding a project they know.” | 3. Results don’t appear right away: Even in the event that a startup is successful, it can take years before you see a return on your investment. To give your portfolio company the time they need to develop, Amdani advises being patient and possessing holding power. |
| A feeling of accomplishmentSome investors engage in startups because they enjoy the sensation it gives them: helping someone establish a firm, seeing something new develop, learning about other industries, or getting in on something interesting early | – |
How to Assess a Startup’s Investment Potential
Your financial status and how you choose to approach startup financing will be particular to you.
Before risking your money, experts advise conducting extensive research. Before making a startup investment, you should be able to respond to the following questions:
- How well do you understand a startup?
- Are they genuinely committed to their idea?
- Does the startup have domain knowledge?
- How big is the industry?
- Why is that? Why now?
1. How well do you understand a startup?
Is this a subject, business, or item that you are familiar with? Wefunder advises investing only in ventures you fully understand.
2. Are they genuinely committed to their idea?
Even a no-miss idea might flop if the team isn’t enthusiastic about getting it off the ground. Amdani says, “We’ve seen a number of businesses that had a lot of room to grow, but they settled and new rivals entered the market.
“Passion is vital to be a successful entrepreneur, whether it’s while working with clients, hiring a team, or designing a plan.”
3. Does the startup have domain knowledge?
The startup should be familiar with all aspects of the environment in which they are working. According to Amdani, “we’ve seen a number of first-time founders who discovered a successful business model and tried to recreate it in a new region.”
And it failed because the creator was attempting to learn the basics of the industry while rivals were able to set up and run their businesses more quickly.
4. How big is the industry?
For entrepreneurs, having a sizable and expanding market is essential. Sometimes businesses target a certain market and create a product that is so narrowly focused that even when they outperform their rivals, they are unable to grow into a significant business.
It becomes nearly hard to increase customer education and market growth at that point, according to Amdani.
5. Why is that? Why now?
Was this concept previously tried? If it hasn’t, why not? If so, why did it previously fail? There are no truly original good ideas, according to Stahl.
What makes you so special that you can accomplish this? Are you skilled in that? Your technology? Why should this exist in the world, and why is it not already?
Professional Guidelines to Follow before Investing in Startups
The following guidelines are advised by professionals when investing in a business now that crowdfunding platforms have made it easy for everyone to do so:
- Ask your financial counselor for advice
- Only make modest investments
- Be ready to lose everything
1. Ask your financial counselor for advice:
Before investing in startups, you will need to initiate the conversation because your financial adviser won’t bring up investing in young, extremely speculative private enterprises.
In Hudson, Ohio, CFP Gage Paul says, “We don’t always initiate the startup investing dialogue, but if it is truly essential to them, we will carve away a piece of their satellite holdings and dedicate it to this investing strategy.”
2. Only make modest investments
On the basis of investing in startups, advisors advise sticking to a small portion of your investment portfolio due to the high level of volatility in the industry. According to Dana Menard, a CFP in Maple Grove, Minnesota, “I wouldn’t recommend more than 5% of one’s portfolio be committed to the space.”
3. Be ready to lose everything
Before deciding investing in startups, be ready to lose everything. However, your savings for retirement or your children’s college expenses shouldn’t be used to fund your startup investments.
This should, to the degree that it is possible, be your “fun money” for investing, which means that if your bets fail, you won’t lose your home or otherwise mortgage your future.
Are Startups Worth Your Money?
Whether you should invest in startups relies largely on your own situation. Are you financially stable? Do you find it difficult to reach your financial goals or reduce your debt?
“When you consider the average person, who most likely hasn’t saved enough for retirement… I wouldn’t advise them to use a startup investment as a substitute for a 401(k) or IRA,” adds Schryver. Simply put, the risk of loss is too great.
Because of this, authorized investors with significant net worths and established sources of income used to be the only ones who could invest in startups.
Conclusion
Joel Cundick, a CFP in McLean, Virginia, says, “My main issue with startups is that they are frequently most appealing to folks who have fallen behind in saving for goals.
They could think that a startup will be a home run that will enable them to catch up. These people might not be able to afford to take that risk, so they should put their efforts first into creating a diversified portfolio that will do the bulk of the work.”
It’s likely that the businesses represented by the mutual funds and ETFs in your diversified portfolio invest in startups, which can provide you with some of the exciting startup growth you are wanting.
