How Does Investing in a Startup Work?
How does investing in a startup work? Investing in a startup can be a simple process when you have the right knowledge and tools.3 min read
How does investing in a startup work? Investing in a startup can be a simple process when you have the right knowledge and tools. Finding a good fit for you and your money and knowing how to invest carefully can lead to a strong portfolio and profits.
How to Fund a Startup
There are seven basic stages of funding a startup. Depending on the entrepreneur's experience, a startup may begin in any of these stages or hit these different stages at different times.
First, there are founders of startups who simply raise the money they need to meet their needs as they develop and begin their businesses. Some business owners will do what's called "bootstrapping" where they don't use any help from investors, but start their business on their own. Most businesses get off the ground with the help of investors, and they even continue to thrive as investors help support the business throughout its lifespan.
Second, some business owners will find investors in the people around them. Family members and friends are a great resource when a modest startup is looking for some initial venture capital to get going.
Angel investors are the third stage, and they are available to startups with a lot of clear potential. These investor types are wealthy individuals who work with anywhere from $200,000 to one million dollars annually with accreditation to offer seed money for jump-starting a venture.
Another option is the use of a business incubator. These companies work with startups to get them up and running. They offer financial help, assistance with management and infrastructure, sales and marketing support, and more. Business incubators can get involved in a startup at the very beginning or further down the road when they're stable, yet looking to grow. Capital investors can still be brought it at this stage as well.
Sometimes, hiring employees is a type of investment in a startup. The first people hired to work for a startup will likely take a lower salary but gain stock in the business. These employees are essentially investing in the business like others are.
Investment bankers can complete the necessary IPO (initial public offering) paperwork for a business and manage stock sales. They will take a percentage of the IPO as a sort of payment for their work.
Once the IPO is out, other investors may come on board throughout the life of your company. This ongoing stage is the seventh and final stage of startup funding.
Golden Rules to Startup Investing
Being ready for risk is the most important rule for startup investing. Business ventures and investments are risky by nature. They have the potential to succeed and the potential to fail. Be careful not to fall into the trap of putting everything you have into a business venture that you believe in without making sure you have something to fall back on. Even the best ideas can fail, so never invest too much. Be sure that you can afford to lose what you put into a startup.
Some of the best ways to ensure that you keep smart investments is by:
- Investing in startups that a pre-vetted.
- Investing in more than one deal by creating a portfolio.
- Set aside money to invest in follow-on offering rounds.
- Be sure to only invest in ventures that you understand.
How Should You Invest?
Finding the right startups for your investments is a big part of creating a successful and exciting portfolio. There are many events throughout the country that work to connect investors and startups. These events offer investors a chance to check out vetted startups and stay in-the-know. You can find organizations that offer membership to venture capitalists and angel investors as a sort of investment club. Joining such an organization can take care of a lot of the legwork of finding solid startups.
You also want to make sure that you diversify your investments. This means investing in startups throughout different industries and interests. All industries fluctuate, so diversification can offer a chance for stability in your portfolio. Be careful as you diversify, however. Do your research and don't just invest in a venture because it's different.
If you need help with understanding how investing in a startup works, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.