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One of the most exciting ways to invest is to focus on startups and get a chance to get in on the ground floor. If you choose a business that will make it big later, you could turn a modest investment into big profits.
However, initial investment opportunities can be few and far between. In recent years, legislation has made it possible to get involved with a startup investment, but it’s still complicated. Here’s what you need to know about investing in startups.
How to invest in startups
When people think of early stage investment opportunities, they often think of venture capital. Venture capitalists (VCs) invest a lot of money in startups in the hope that they will succeed or even go public. The VCs hope that they can eventually sell their stake for much more than they bid for.
In some cases, VCs also expect to have a say in how the company operates or take a leadership position in order to successfully earn good compensation.
However, a start-up business investment is not just about venture capital. In fact, many “regular people” do not have the millions of dollars typically required to participate as venture capitalists. Instead, you can find other ways to learn how to invest in startups:
1. Buy during an IPO
One way to invest in a startup is to buy shares during the initial public offering (IPO). With an IPO, the company goes public with its shares on a stock exchange and anyone can buy shares. You may not have gotten in on the ground floor, but if you buy a stock the first day it’s available, you could have an opportunity for future growth. This can be a way to see a return over time without needing a lot of money.
Some online brokers support IPOs, so you can open an online account and start trading relatively easily. Some of our suggested brokers for investing in startups include:
2. Investment crowdfunding
In recent years, Congress has expanded the ability of investors to access startups by allowing investment crowdfunding. With this approach, you can find a startup on a crowdfunding website and buy ownership of the company for much less than it would take for venture or angel capital. With investment crowdfunding, you put in a small amount and if the business is successful, you get a share of the success.
Two popular startup crowdfunding websites are OurCrowd and SeedInvest, and there are several other popular options on the market. OurCrowd is for accredited investors, while SeedInvest is also open to non-accredited investors. Finally, you can use platforms like Yieldstreet to invest in individual private equity deals as well as funds.
3. Borrow money instead of buying stock
Although we often think of investing in a company as just buying shares, we sometimes forget that we can actually invest and receive a return by offering to lend money to a new company. If you know someone who is starting a business, you can offer a loan instead of buying stock.
With a loan, you collect interest and the company makes regular payments. You don’t have to wait until the company goes public or sees huge success to receive a return on your investment. Instead, you receive interest payments every month. However, you still run the risk of losing money. And the gains likely won’t be that spectacular.
4. Use your IRA
Interestingly, there are funds that offer access to the initial investment. However, it is important to note that some of these funds may not be widely available to the public.
You may need to look for an IRA custodian who specializes in alternative investments or other types of assets. However, if you can access these funds, it can be a way to add tax-advantaged growth to your retirement portfolio through access to startups.
Self-directed IRA providers like Rocket Dollar are a great place to start, as they work with numerous startup and venture capital investment platforms.
5. Go to your network
A final way to potentially participate in seed investment is to tap into your own network. Sometimes companies have a “friends and family” round before taking a bigger raise with outside investors and VCs.
Of course, you need to have the contacts to know about these more secret rounds. And just because an idea comes from friends or family doesn’t mean it’s a good idea to invest in.
How to find startups to invest in
When researching how to invest in startups, it’s important to pay attention to where you get your information. There are different places to look for startups. If you have a lot of money, it’s possible to talk to a boutique advisory firm to help you identify different startups to invest in.
However, many regular investors are more likely to have to take other steps to find early investment opportunities. Some possibilities include:
- Investment crowdfunding platforms
- Your local Chamber of Commerce to find local startups
- Innovation hubs in various cities showcasing different start-ups
- Startup aggregators that use AI to help sort through different options
- Incubators (like Y Combinator) that help nurture and guide company founders
If you look at companies in these areas and use some networking skills, you may be able to identify startups that you can invest in. The easiest way for many investors is to focus on investment crowdfunding platforms that allow you to invest money, in a similar way. to buy shares through a stockbroker.
Advice on how to invest in emerging companies
If you decide you want to use seed business investing as part of your investment strategy, there are a few things you can do to increase your chances of success. Here are some things you can do while figuring out how to invest in startups:
1. Run the numbers
Take a look at the numbers the startup has to offer. Are they raising money by selling products and services? If so, that’s a good indication that they could be on their way to success.
You should also figure out how many shares your investment will actually buy. It’s hard to know for sure what a startup is worth because valuations are so hard to figure out. However, you can run some numbers to find out how much stock you’re getting for your investment. Later, more shares could mean more wealth.
2. Look at management
One of the things that venture capitalists do is look at the team. For some venture capitalists, the team might be more important than the product. What skills do the founders and managers of the company bring to the table? Do you think they will provide good leadership? Are they flexible enough to pivot if needed?
Understanding the background before moving forward can make a big difference later on.
Just as you would with regular investments, consider diversification. If you have money to invest in multiple startups, think about how to expose yourself to different opportunities. Putting everything in one basket or betting on one company, making it big, could lead to disaster. A relatively small percentage of startups make it big, and if you want to increase your chances of success, you need to consider several options.
4. Consider the rest of your portfolio
Remember that your initial business investment is only one part of your portfolio. And this investment should fit with the rest of your portfolio. Don’t empty your long-term retirement savings to put it all into a single company. Look at your overall goals and figure out where the startup fits.
When deciding how to invest in startups, Make sure it’s part of your overall portfolio, rather than something that doesn’t make sense with your overall direction and strategy.
Pros and cons of the initial investment
- The initial investment has the potential to greatly outperform the market
- Crowdfunding makes investment in startups much more accessible
- Many online brokers also support IPO investing
- An exciting way to diversify your portfolio
- Startups have a very high failure rate
- Investments can be very illiquid unless a company goes through an IPO and you can eventually sell shares
- Startups don’t usually pay dividends, so you can’t generate income and have to rely on the stock appreciating.
- There is a lot of time spent on due diligence and researching startups to invest in
- Some opportunities are only open to accredited investors
Investing in startups is not an easy process
Investing in startups can be a way to add some growth to your portfolio and give you a chance to see solid success. However, learning how to invest in startups requires patience. You have to be careful what you add to your wallet. It may be a good idea to consult with a financial advisor.
Take some time to research the options and do your due diligence. And as always when investing, avoid putting in money you can’t afford to lose.