It used to be that only the wealthy and well-connected could invest in startups, but with the rise of crowdfunding platforms, the opportunity is now open to everyday investors. However, investing in startups comes with its own set of challenges and risks, as most startups fail to succeed in the long run.
Nevertheless, if you’re willing to take the plunge and invest in a potentially game-changing startup, there are steps you can take to increase your chances of success.
In this article, we’ll provide you with essential tips on how to invest in a startup and navigate the high-risk, high-reward world of startup investing.
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What is a startup?
A startup is more than just a company; it’s a movement, a culture, a way of life. It’s a small group of individuals who share a common vision and a burning desire to change the world. They pour their hearts and souls into bringing their unique business idea to fruition.
In the early stages, startups are like delicate flowers that need constant nurturing and care. They require long hours, endless determination, and unwavering commitment. Most startups face significant challenges, including high costs and minimal revenue.
To overcome these obstacles, startups seek funding from venture capitalists and investors. These supporters provide the necessary resources to help startups grow and achieve their goals. And as they grow, startups create jobs, stimulate the economy, and change the world around them.
The story of Airbnb exemplifies the potential of a startup. Founded in 2007, the company started as a simple idea to rent out a room in San Francisco. Today, it has become a global phenomenon with millions of active listings worldwide. Yet, the success did not come overnight. It took years of hard work and determination, and the support of investors to make it a reality.
4 ways to invest in a startup
When it comes to investing in startups, the path you take depends on whether you’re a high-rolling accredited investor or a regular person with a passion for innovation.
If you’re a high roller with a net worth of over $1 million (excluding your primary residence) and have earned $200,000 annually (or $300,000 if you’re married) for the past two years, then you’re an accredited investor.
But what about those who haven’t quite hit those high earning and net worth requirements yet? Don’t worry, there are still ways for you to invest in the startups you believe in.
1. Invest through a crowdfunding platform
Crowdfunding platforms are opening up the world of startup investing to everyday people like you and me.
Platforms like Wefunder, SeedInvest, StartEngine, and Republic offer a handpicked selection of promising startups, with minimum buy-ins starting as low as $100. That’s right, you can get started with just a hundred bucks.
SeedInvest requires a slightly higher minimum investment of $500, but that’s still a pretty low bar for getting in on the ground floor of an exciting new business.
If you’re a more seasoned investor and meet the criteria, you might want to check out AngelList. While it’s only open to accredited investors with higher incomes or net worth, it offers a wider range of startups and requires a minimum investment of $1,000.
2. Invest in a friend’s startup
Investing in a friend’s startup can be an exciting and fulfilling way to support their entrepreneurial journey while potentially reaping significant returns on your investment.
To get started, it’s essential to tap into your network and ask around to see if anyone you know is looking for funding for their startup. This could include close friends, former colleagues, or even acquaintances who are passionate about their business idea.
Once you’ve identified a potential investment opportunity, it’s crucial to conduct thorough research on the startup before committing any funds. This means reviewing their business plan, financial projections, and team background to ensure that the startup is a viable and worthwhile investment.
3. Become an angel investor
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As an angel investor, you’ll have the opportunity to invest your own money in early-stage companies and help them grow.
While it’s true that angel investing comes with risks, the potential rewards can be substantial. Not only do you get to be part of an exciting and dynamic industry, but you also have the chance to make a significant impact on the success of a new business.
To become an angel investor, you’ll need to have the financial means to do so. But it’s not just about having money – you also need to have a passion for entrepreneurship and a willingness to take calculated risks. After all, investing in startups is not for the faint of heart.
To find the best opportunities, you’ll need to tap into your network and stay abreast of new developments in the startup world. You can also work with incubators and other organizations that specialize in helping startups get off the ground. By doing so, you’ll have access to a steady stream of promising new ventures that are looking for investment.
4. Invest in the company when it goes public
During an IPO, a company takes its shares public on a stock exchange, which means anyone can buy them. This is a great opportunity to get in on the action and invest in a company’s future success.
Sure, you might not see the same returns as someone who invested in the earliest stages, but that doesn’t mean you can’t still make a profit. In fact, if the company’s stock immediately takes off, you could see substantial returns on your investment.
So how do you invest in a company’s IPO? It’s actually pretty straightforward. First, keep an eye out for news about upcoming IPOs. You can usually find this information on financial news websites or by following the company’s social media accounts.
Once you’ve identified an IPO you want to invest in, you’ll need to set up a brokerage account. This will allow you to buy and sell stocks on the stock exchange. Then, when the IPO goes live, you can place an order to buy shares of the company.
Of course, investing in an IPO isn’t without its downsides. You might end up paying a premium for the shares, especially if the company is in high demand. And there’s always the chance that the stock could dip in the short term.
How much can you invest in startups?
According to SEC guidelines, non-accredited investors should be mindful of the maximum amount they can invest in crowdfunding ventures during any 12-month period.
But just because there’s a limit, doesn’t mean you should hold back from investing.
- If your annual income or net worth is less than $107,000, you can invest up to the greater of $2,200 or 5% of the lesser of your annual income or net worth.
- If your annual income and net worth are equal to or more than $107,000, you can invest up to 10% of annual income or net worth, whichever is less, but not exceeding $107,000.
However, before you go all-in, experts recommend making several small investments in different startups instead of one big investment in one startup. This strategy offers diversification and helps protect your money in case some of the startups fail. So, it’s wise to invest in multiple startups to spread the risk and increase your chances of success.
Pros of investing in a startup
Investing in a startup is not for everyone, but if you’re looking for a thrilling investment opportunity, there are plenty of reasons why you might want to consider it.
1. The Potential for Exponential Growth
While large-cap stocks in the S&P 500 are generally less risky, they may not provide the same potential for exponential growth as startups. A successful startup has the potential to grow exponentially, with an enormous multiplier effect that can be huge. As an investor, you could be buying into this potential and reaping the rewards.
2. Support Something You Believe In
Investing in a startup can be a chance to support something that you believe in. Whether it’s more sustainability or a really cool sneaker company, you can invest in what you want to see in the world. This is a unique opportunity to support a cause you’re passionate about and watch it grow.
3. Invest in People You Know
Many investors choose to invest in startups because they know the founders or entrepreneurs behind the idea. Whether it’s a friend, family member, or neighbor, if you believe in their idea, you can help finance their project and support their vision. It’s an opportunity to be supportive of those you know and help them achieve their dreams.
4. The Thrill of the Startup Experience
Investing in a startup can be an exhilarating experience. You get to be part of something new, watch it grow, and learn about different industries. It’s a chance to get in on the ground floor of something exciting and be a part of its journey. For some investors, this feeling of excitement and involvement is reason enough to invest in a startup.
Cons of investing in a startup
While investing in a startup may seem exciting and promising, it’s not without its downsides. Here are some problems to keep in mind when investing in a startup.
1. High Risk, High Loss
Startups are known for their high risk, high reward potential. However, with about 90% of startups failing, there’s a high possibility for total loss.
As an investor, you need to be prepared to lose 100% of what you’re staking, making startups only a good investment if you can afford to take on such a high risk.
The vast majority of your investing dollars should ideally be in more reliable investments like index funds, exchange-traded funds (ETFs), or even just individual stocks.
When you invest in a startup, your money will likely be tied up for at least three to five years, if not more. Unlike stocks, which can be sold easily, startups are highly illiquid, and you should expect that your investment will be inaccessible for years.
While there is the possibility of liquidation through secondaries, it’s not a guarantee, and you’ll likely need to wait for years before you see any return on your investment.
3. Patience Required
Even if a startup succeeds, it can take years before you see any result from your investment. You need to be patient and have holding power in order to give your portfolio companies time to grow.
Unlike stocks, which can provide quick returns, startups require a long-term investment approach. If you’re looking for short-term gains, investing in a startup may not be the best choice for you.
What to look for in a startup investment?
Being a startup investor can be both thrilling and exciting. However, you must keep certain factors in mind before investing your money. Here are some tips to guide you through the world of startup investments:
Understand the Startup: Before investing, make sure you’re familiar with the field, industry, or product of the startup. It’s crucial to invest in areas you understand to make well-informed decisions.
Passion Matters: Look for a team that’s passionate about their idea. A dedicated and enthusiastic team is more likely to overcome challenges and drive the startup to success. Passion is a vital ingredient for any successful entrepreneur.
Domain Expertise is Key: The startup should have a solid understanding of the industry they’re operating in. Be cautious of first-time founders who may be learning the basics while competitors gain an advantage with faster execution.
Consider the Market Size: A large and growing market is essential for startups to thrive. Avoid investing in companies targeting a niche market that, even if they outperform their competition, cannot grow into a sizable company due to limited market potential.
Evaluate Timing and Uniqueness: Consider whether this idea has been attempted before and why it might have failed previously. Identify what makes the startup uniquely capable of achieving success. Is it the team’s expertise or cutting-edge technology? Reflect on why this startup should exist now and why it hasn’t been successful in the past.
By following these tips, you can identify the most promising startup investments and make smarter decisions.