Why and How to Invest in Startups
Startup investing is an alternative investment class within private equity. This type of investing refers to the investment in privately-held companies not listed on a public stock exchange.
These private companies range from early-stage, seed investments to late-stage, Series C investments. (Find more details about startup funding journey and stages below).
While 97% of all companies are privately held, private equity and startup investing have primarily only been available to institutional investors and ultra-high net worth individuals, who invest either directly or via experts (e.g. venture capital or growth equity funds).
These sorts of investors can dedicate substantial sums of money (millions) over an extended investment period.
However, the democratization of access to private equity and startup investing has taken off — making it a great time for you to start considering why and how to start investing in startups.
To kickstart your startup investing journey, we will break down:
- Why invest in startups
- How to invest in startups
- Angel investing
- Crowd equity
- Venture Capital fund
- Venture Capital fund of funds
- How to stop betting and start investing in startups
- Investing in startups versus investing in the public market
- General financial risks of investing in startups
Always feel free to reach out if you have any questions!
Why invest in startups
As a startup investor, you buy a piece of a privately-held company with your investment.
Your capital is exchanged for equity — a portion of ownership in a company and rights to its potential future profits.
If the company turns a profit, you make returns proportionate to your amount of equity in the startup; if the company is sold, you get the corresponding share of that selling price; and if the startup fails, you can lose the money you’ve invested.
But why would someone want to invest in an asset with a high risk of failure and long holding periods for the companies that do make it?
Well, privately-held companies have the potential to grow fast, meaning that a winner could make you a 10x return. Plus, it is well documented that more and more companies are staying private for longer.
According to FundersClub, if one waits to invest in a startup once it’s public, they might be missing out on 95% of the gains.*
Massive global players like Google, Apple and Microsoft all started as startups. Can you imagine how much money early investors made from those tech giants above? (We explore Google below)
On top of the returns, true impact and innovation investing happen at startups.
We detail 4 reasons why one should consider investing in startups:
Note: Regardless of how you invest, many startups fail and the successful ones can take 10 or more years to grow to a point where an investor makes a rewarding exit.
1: Innovation and value creation
When you invest in startups, you are investing in innovation.
Startups are mostly successful if they address an unmet need or a gap in the market. The technological innovations and creative solutions of startups challenge our status quo and can act as catalysts for societal change, economic recovery and responsible growth.
In the context of climate startups, the first half of global greenhouse gas (GHG) emissions can be mitigated with mature technologies (e.g. solar panels).
To mitigate the rest of our GHG emissions, it requires innovative startups with technologies, proven at most in the lab, to reach commercial scale for us to reach net-zero.
Plus, at nearly $3 trillion, the value creation of the global startup economy is on par with the GDP of a G7 economy.*
2: Investor impact
The impact of capital allocation for startups is critical — they depend 100% on the capital they raise from investors to fund their growth and product development. By investing in startups, investors can directly provide working capital to emerging leaders and innovations not yet scaled.
For how to maximize your impact as an investor, we wrote a full guide here.
Diversification in your portfolio is a powerful way to improve your financial performance and mitigate your investment risks.
One example of this in startup investing: there’s often less correlation between the performance of early-stage startups and the behavior of macro-level shifts in the overall market.*
Plus, you can invest in startups that fit your personal and diversification values since startups across industries and emerging markets are all looking for (require) funding.
4: Return potential
Startup investing is a high-risk, high-reward asset class — the big risk of investing in an early-stage company can be rewarded with returns much higher than public companies.
Let’s look at Google.
Launched in 1997 as Alphabet with $1 million in seed funding, by 1999 it was growing rapidly and raised $25 million in venture capital (VC) funding for 10% equity. Google went public in 2004 with an IPO of over $1.2 billion, making almost $500 million for its original investors.
That’s a return of almost 1,700%!
While the past performance of startups does not guarantee future success, with the right due diligence, you may find a diamond in the rough with huge returns.
Sounds like something you want to be a part of, right?
Cool! Let’s dive into the different ways of how you can start investing in startups.
How to invest in startups
Each pathway to investing in startups comes with its set of advantages, requirements, difficulties and risks. Below, we break down four common ways you can invest in startups.
Funding stages for privately-held companies
Seed (early stage): Seed funding is the first time a company officially raises equity funding. This helps a startup ‘plant its seed’ by financing its first steps.
Series A (early stage): Series A generally happens once a startup progresses its business model and demonstrates its potential for growth and revenue. This will usually be the first venture capital funding for a startup.
Series B (growth stage): Having proven to investors that it is prepared for success on a larger scale, Series B funding is used to fuel growth so that a company can meet its levels of demand.
Series C and beyond (late stage): Series C funding is about scale. The capital is often used to develop new products, expand into new markets or acquire other companies — whichever fits best to further its growth and success.
Angel, or “seed” investors, are wealthy individuals who invest their own capital into startup companies during the early stages of development, receiving an ownership stake in return. On top of the financial requirements (at least $10K, sometimes $1 million in liquid assets), typically angel investors possess a strong network and direct personal relationships with the founders of a startup to get a foot in the door. The most successful startups can typically choose who they partner with, which means it’s important to ‘bring something to the table’ in order to be allowed to invest in these companies. Angel investors will generally invest in seed-stage startups, giving these companies the much-needed cash flow to get to the last stage of technical development and market entry. More than just capital, angel investors often can provide valuable technical skills, market insights and a network to help a startup to grow and accelerate.
Advantages of angel investing
- You gain direct access to the company and its founders, meaning you potentially can play a strong advisory role in a startup’s growth. You could even become part of the advisory board.
- Generally, investing very early in a startup (seed round) means higher returns (paired with higher risk).
Disadvantages of angel investing
- It’s a highly risky endeavor — investing in startups is risky in itself, investing in only one of them makes it even riskier.
- It requires an investment of time, not just money.
- Not only time to do due diligence but time to meet founders, meet other investors and create a well-diversified portfolio of angel investments.
Crowd equity / equity crowdfunding / crowd investing
Crowd equity involves investing ‘smaller’ sums of money together with a larger number of investors (the ‘crowd’) — in exchange for shares in that startup.
This method of investing happens on online platforms where businesses create profiles that include their pitches, financial statements and other information.
This approach differs from trying to attract sizable investments from angel investors or venture capital (VC) funds (described below).
Crowd equity investors may be able to get involved for as little as $100 depending on the platform. The startups available to invest in tend to be early-stage, seed startups. That said, more and more established brands are using it as a co-funding tool together with raising capital from VCs.
Cowboy, a Brussels-based e-bike startup, recently raised a €71 million Series C funding round while also raising €2.7 million in crowdfunding — a unique way to further engage its community of fans and riders.
Advantages of crowd equity
- Since crowd equity is done online, it’s relatively easy and hassle-free to get started.
- The low ticket entry of crowd equity platforms allows more people to invest in early-stage companies or startups.
- Crowd equity investors make the decision on which companies they want to invest their money in.
Disadvantages of crowd equity
- You need to do all of the homework and make your investment decision(s) by looking through the marketing material of a company.
- You are in charge of building the portfolio yourself to be well-diversified. This research and portfolio management can be a burden.
- Risk is especially high if you only invest in one or a handful of startups.
- While quality crowd equity opportunities have increased recently, it’s still not where founders look first to raise capital.
Venture capital fund
A venture capital (VC) fund raises money from various sources to invest in startups and scaleups. These funds are managed by investment teams of experts in the field. Generally, those who were able to invest in venture capital funds are family offices, institutional investors (pension funds, university endowment funds, etc), and high net worth individuals (with assets over $1 million). VC funds make investments according to their specific investment mandate, which normally is structured around:
- Industry (fintech, consumer, health, climate technology, etc.)
- Stage (seed investments, early-stage, late-stage, growth equity, etc)
- Geography (continent, country or regional)
- Impact (positive impact on the planet, societal impact, etc.)
This mandate is put into practice by the fund managers who are responsible for sourcing investments, the investment decisions and determining the amount of capital given to each startup. These fund managers also have the capability and responsibility to maximize the returns of these startups. They do so by providing them with additional resources like industry knowledge and connections, helping a startup scale with speed. A typical VC fund raises between €50 million – €500 million and invests in 10-30 startups over an investment period of three to four years.
Advantages of a venture capital fund
- Let the experts within an industry (niche) navigate the ecosystem to diligence and surface the best investment opportunities.
- Highly-qualified investment teams do the negotiations to ensure you pay a fair price for your ownership of the company.
- Good teams don’t just bring capital to the table. They work throughout the full length of the investment to provide expertise, network and reputation to help companies grow.
- 10-30 startups with one fund investment are better for your risk diversification.
Disadvantages of a venture capital fund
- Typically, you need between EUR 5-10 mln to participate in a top venture capital or private equity fund.
- To get into top funds at all, you usually need a strong network or a direct personal relationship with the VC fund.
- You don’t get direct access to the company and its founders, meaning you won’t play a direct advisory role for the underlying companies.
Venture capital fund of funds (FoF)
A fund of funds is an investment vehicle where one investment goes into multiple VC funds (described above). A typical FoF selects between 5 to 10 underlying funds. So while one VC fund spreads your investment across 10-30 companies, a fund of funds spreads it across more than a hundred companies.
Advantages of Fund of Funds
- Let the fund selection experts within an industry navigate the ecosystem to diligence and surface the best VC fund opportunities.
- Fund of Funds offer great diversification by investing in multiple funds with slightly different investment strategies, across stages, industries, etc.
- Highly-qualified investment teams do the negotiations to ensure you are properly aligned with the VC fund managers.
- Building a portfolio of 5+ funds requires a lot of time and active management. Fund of Funds managers handle all of these logistics for you.
Disadvantages of Fund of Funds
- Typically, you need a couple of million to participate in a top Fund of Funds
- You don’t get direct access to the company, its founders or the fund manager, meaning you won’t play an advisory role for the underlying companies.
- Fees for FOFs are typically higher than an individual fund because it includes both the management fees of the FOF and the underlying funds
Stop betting, start investing in startups
There is no denying it — startup investing is very risky and hard to get right.
This is why not too long ago, investing in startups was virtually inaccessible to most households.
Now, with platforms like ours, you can become a startup investor yourself. Invest alongside climate and investment experts of top-tier venture capital funds without the high capital requirements and needed network.
They do the due diligence, investing and managing of the startups for you, so you can sit back and watch your climate companies grow. Gain a diversified investment with exposure to up to 100+ companies, mitigating the big risks of early stage investing.
Start investing alongside the world’s best investment teams today!
Investing in startups vs. investing in the public market
Timelines: Public market investors can potentially see a return within a few days or weeks. Generally, it takes 7-10 years for a major liquidity event to happen for early-stage startups.
Liquidity: Selling startup shares before the IPO is hard, especially because these shares are often issued with certain refusal provisions and restrictions on secondary sales. Investors in the public market can sell their stocks at any time.
Returns: IPOs have become less common over the last few years. Tech companies especially are deferring IPOs until after much of their value has been accrued — meaning it’s more lucrative to invest in early-stage companies while they are still private.
General financial risks of investing in startups
- Investing in a startup puts the entire amount of your investment at risk, meaning you can lose your full investment.
- Startup investing is not a quick way to make money. Most startups take at least five to seven years to generate an investment return, if at all.
- It may be difficult to sell your position. Startup investments are privately held companies meaning your equity is generally illiquid.
Please be aware - Capital at risk. Information on this page is by no means investment advice or should be used as investment advice.