Mar 14, 2019
It is a familiar story. A friend with a ‘game changing idea’. A family member with a ‘perfect’ business plan. And they’re asking you to invest.
Or, you’re might be seeing the big valuations of tech startups and stories of Silicon Valley investors making it big. Why should you miss out?
Investing in a startup might seem like a great idea. But the unfortunate reality is that most startups fail and many well intentioned investors have been left out of pocket.
So before you think about investing in a startup, there’s a few things you should consider.
Have an honest conversation with yourself. Why do you really want to invest in a startup?
Is it because the business case stacks up and you can see the opportunity? Or, if you’re honest, is it an ego issue, are you following the crowd or trying to keep a friend happy?
Asking yourself why is key – beyond the hype, find out if this really the best investment for you.
Think about the reasoning and goals behind your interest in investing in the startup. Consider the size of the commitment behind the investment (time, energy, knowledge) before making your decision. Ask yourself what the clear long and short term goals are when you want to see a return.
You should never invest in a startup just because everyone else is doing it. It is a common misconception that by following the crowd is a ‘safe bet’.
Do the founders have a solid track record?
When investing in a startup, without an established business model and track record, you’re really investing in the founders.
How well do you know the founders? What is their business history? Have they had prior business success, do they have the industry knowledge and experience, do they have the resilience and the commitment to tough it out when business gets hard?
Do your homework.
The best due diligence you can do is get to know the team you are potentially investing in. Talent is important, sure, but running a startup is tough and you’ll want to know that the founders are committed to stewarding your investment wisely. The founding team could be the most important variable to look at when investing in a startup.
Do you understand the business and the market?
Do you really understand the idea, the opportunity and the industry? If you don’t know the space this business is in, the investment becomes even riskier.
It is recommended to invest in what you know, and if you don’t, you should read up and understand the industry before you put any money down.
It is critical to know about the market opportunity, the industry landscape and competition. Then you’ll really know if there’s a market need for the startup, and what the potential upside is.
Do you have the risk appetite?
As we’ve said, startups are risky. Are you comfortable with that? Or would more conservative investment (e.g. shares or property) suit you better?
Startup investors must not only be excited by their potential return, but must also be able to deal with the inevitable risk of losing what they’ve put in.
Don’t over invest, ever. If you’re tipping in money that will stretch you, or you’re eating into your nest egg, you could be gambling your livelihood.
Invest only what you can afford to lose. Make sure that you are in a financially strong position. Make sure you are diversifying your investment portfolio, to offset any potential losses.
Don’t invest in a startup without advice
Before making a commitment, talk to your financial adviser. Your adviser will be able to tell you whether your in a position to afford making the investment.
Your adviser will also be able to help you through the due diligence process and identify any potential risks that you may have overlooked.
Written by Ben Calder, Private Client Adviser at Calder Wealth Management.
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