What Should You Know About Investing in a Startup?

Written by Posted On Monday, 14 May 2018 06:19

The stock market is somewhat up and down right now, and while investors might have money still parked there, they might also be looking for other ways to invest simultaneously.

One option is to invest in startups. Investing in a company directly for the first time can be exciting, and it can be a thrill in many ways, but it’s also something that can cause you to lose a lot of money pretty quickly.

If you’re thinking about investing in a business, what should you know to lower the potential that you’ll lose all the money you put in? How do you even get started if this is the first time you’re thinking about making this kind of investment?

The following are some of the initial things to know if you’re considering making an investment in a startup.

What Is Their Infrastructure Like?

When you’re looking at businesses, yes it’s about the idea, but it’s also about how ideas are put into place and how the operational structure of the business appears to be set up for future success. For example, what does the team at the helm look like regarding their ability to grow the business?

Is the business invested in using the best technology to streamline management, such as expense report software or CRM software? Is the business as focused on organization and creating a strong foundation as they are to the bigger concepts and ideas?

When a business, even a very new one, has a strong foundation they’re more prepared for growth which is what investors are looking for.

Business Structure

Along with the overall foundation for success that a business has in place, investors should look closely at the business structure as well. Investors have to be careful, particularly if they’re investing in something they hear about through friends, family or general word of mouth.

If the business does fail, in some cases an investor could be liable for certain bills.

Individuals should always ensure they’re investing in at least a limited liability corporation or an LLC. This can protect stakeholders from being personally responsible for liabilities.

While you’re looking into the general business structure, you should also make sure you go over all the legal documents. A lot of startups don’t have their corporate documents in order, and it can be problematic. You want to make sure that the company is legally able to issue shares, and that they’re doing so properly.

Your Returns Probably Aren’t Going to Come Overnight

If you’re looking for an investment that’s going to start showing quick returns, you’re probably better off looking outside of small business investing because almost always it’s going to take years to see returns.

Even if you invest in a profitable business, it’s still going to take time. A startup needs money and as much of it as they can get. Earnings from most startups are going to go right back into the business. It can take three to five years to see a return, and sometimes longer.

Be Prepared To Make an Exit

When you’re investing in the stock market, you don’t necessarily have to worry about making an exit. Even when things go down, history shows us they’re likely to go back up. Not the case when you’re investing in a startup or business.

Before you ever invest, you need to discuss what an exit strategy would look like with the operators of the business. Otherwise, if you do decide it’s time to get out, you may find that it’s not very easy to do so. You should have a plan for how you’ll sell your stake in the business, and how you’ll get your money out if that becomes the right decision.

Finally, you can’t just rely on the operators of the business to tell you what you need to know. You need to research the people who are going to be managing this business day-to-day. You also need to go over the business plan but do your own independent research into the industry and the marketplace. It’s easy to be swayed by what the managers of the business are saying, and they likely do believe everything they say, but that doesn’t necessarily mean it’s going to be reality.  

Be prepared with your own independent research so you can make a smart investment decision that goes beyond what the company managers are telling you. 

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