If you want to know a lot about early stage investing, this article is really going to help.
It reveals a lot of helpful information and tips to help you understand it all.
What Is Early Stage Investing?
Early-stage investing is giving money, advice, and resources to promising companies in the first few years of their development in exchange for ownership in the company.
This stage of investing is critical to promoting new technology and economic growth.
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New companies that succeed often receive sufficient funding to conduct market research, prepare business plans, produce prototypes, and open their facilities.
Why Start Early-Stage Investing?
Early-stage investors can be individuals, venture capital firms, or other investment vehicles.
People use venture capital firms to band together on an early-stage investment.
Early-stage investing is a high-risk, high-reward form of investing.
Some early-stage investors have made millions or even billions of dollars off of their investments.
Others have lost everything. Early-stage investing requires large sums of money, so the risk is exceptional.
Early-stage investing is critical to the development of new businesses.
Some of the best new businesses over the last few decades would not have succeeded without early-stage investments.
Another reason you should consider early-stage investing is that many find it as addictive as high-stakes gambling.
It requires extensive research and knowledge about the industry to predict whether a company will succeed.
Many successful early-stage investors take pride in their sixth sense ability to sniff out the best startups.
The Different Stages of Funding
There are many stages of funding.
Early-stage investing consists of the following stages:
- Pre-seed funding
- Seed funding
- Series A funding
- Series B funding (sometimes)
This occurs at the initial creation of a business.
Usually, the business founders provide most of the pre-seed funding, although they sometimes find friends and family to chip in.
It may fund the initial business plan, legal formation of the business, and other first steps.
This occurs once the founders are ready to start the business.
It is used for market research and a more comprehensive business plan.
Investors usually expect business owners to have a detailed business strategy and to begin implementing it fairly quickly once they have the funds.
Series A Funding
At the point of Series A funding, companies should have a proven track record with revenues and successful execution of the business plan.
The company should be ready to progress to the next stage, whether that is increasing production, implementing new ideas, or otherwise advancing the business.
Investors with a majority ownership interest in the company expect to have a say in the next steps.
Series B Funding
This comes at different times depending on the company.
Some may still be early in their development with multiple steps needed to fully mature the business.
Others may be leveling off and just expanding the business.
Early-stage investors look for companies that still have a lot of growth left, so they may not invest in companies that do not plan to add significantly more to the business.
Ideal Investors for Early-Stage Investing
Early-stage investors tend to be exceptionally wealthy.
Most have at least $1 million available for investment.
Moreover, early-stage investors often have expertise in the industry in which they invest.
Otherwise, they may be duped into investing in a mere wisp of a dream that is impossible to execute, like the Theranos investors.
Finally, early-stage investors should have extensive business and legal knowledge.
Or, at the least, they should have trusted advisors who can inform them of potential issues with the investment.
Benefits of Early-Stage Investing
The greatest benefit to investors of early-stage investing is the potential for huge gains.
They often receive a percentage of ownership in the company when they provide early-stage investments.
As a result, they receive an equivalent percentage of profits from the company.
Many technology companies, like DuckDuckGo, have gone from relatively small net worth to be worth billions in just a matter of years.
Another benefit of early-stage investing is the thrill of being on the ground floor of the next greatest thing. You never know when the business you help fund could be the next revolution.
Private Equity Investing
Private equity investing usually means buying a majority ownership interest in a private company.
Startups usually do not accept private equity ownership because it means they will not have control of the business anymore.
Moreover, early-stage investors usually do not want to engage in private equity investing unless they are competitors or also experts in the business and prepared to continue to grow the business.
Early-stage investors use growth metrics to identify promising young businesses for investment.
Some of these metrics are:
- revenues and earnings
- price-to-earnings ratio
- return on equity
- comparison to competitors
- gut instinct
At the pre-seed stage of investment, many of these metrics are unavailable.
But by the time you are considering a Series A investment, you should look at each of these metrics carefully, perhaps with the assistance of an expert advisor.
Gut instinct is the riskiest growth metric to use when considering an investment.
Crunching hard-core numbers are much more reliable because they are verifiable and supported by facts.
Angel investors are individuals who do early-stage investing.
These are usually the earliest investors in startups.
Angel investors are extremely wealthy.
They must be able to invest perhaps tens of millions in new businesses.
Angel investors usually have many advisors for their investing.
Ultimately, though, they usually want to be involved with early-stage investing.
Industries With Startups
Some industries are more prevalent for early-stage development than others.
These industries have the most startups:
- Artificial Intelligence
These industries are the most valuable for early-stage investment.
Many are headquartered in Silicon Valley, but other cities are increasingly popular for startups because they are more affordable and there is less competition for talent.
10 Tips to Help Early-Stage Investing
1. Due Diligence: Researching Companies and Technologies
When you consider early-stage investing, you must perform due diligence to prevent losing a lot of money.
As many as 90% of startups fail, so conducting research into a startup before investing is essential.
Due diligence starts with growth metrics analysis.
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You should also familiarize yourself with the industry and seek expert advice.
It is easy to get caught up in the excitement of early-stage investing and experience FOMO (fear of missing out.)
But you must take the time to perform due diligence.
2. Work With an Early-Stage Angel Investment Group
There are matchmaking companies that match early-stage investors with companies that need early investment.
For example, Angel Investment Network lets you search for a startup location, industry, and investment size.
These networks allow you to connect with entrepreneurs and get to know their businesses before investing.
This makes early-stage investing feasible even for individuals.
3. Plan to Invest a Significant Sum
Most early-stage investments total at least $25,000
. Many go well beyond that.
Early-stage investing is usually taken on by people already well-versed in investing.
So, if you suddenly come into a large sum, you may want to consider another form of investment.
Moreover, if you plan to invest as a venture capitalist, the firm you use may have exceptionally high requirements, perhaps as much as $1 million or more.
4. Diversify With Other Investments
You probably will not receive a return on early-stage investments for several years.
Moreover, there is a high probability of never seeing a profit from an early-stage investment.
If you diversify your investments, you minimize your risks.
Having safer investments will protect your ability to continue to do early-stage investing.
5. Investing With Venture Capitalist Firm
Venture capitalists join together as a firm to perform early-stage investing.
They do the due diligence and specialize in recognizing startups that are more likely to succeed.
The benefit of working with a venture capitalist firm is that you can pool your funds with others to accomplish bigger deals.
Also, the firm provides you with advice and focused attention on the companies they invest in.
Some companies facilitate crowdfunding for early-stage investing where a lot of people come together to reach the minimum required investment.
This is a great way to get started in early-stage investing.
You often receive a convertible note or preferred equity in exchange for your investment.
This is later redeemed for equity in the company.
If the company fails, convertible noteholders will be paid a percentage of the liquidation of the company after secured lenders are paid.
MicroVentures is one of those websites where you can find crowdfunding opportunities.
Instead of thousands of dollars, you can choose to invest much less, sometimes less than $50 even.
MicroVentures also has an accredited investors section that requires you to be qualified with a much higher amount to invest.
Even some big-name companies have been funded through MicroVentures.
For example, Pinterest, Uber, and Spotify raised funds on the website.
8. Choosing Convertible Notes Vs. Preferred Equity
Sometimes you have a choice between a convertible note and preferred equity.
Preferred equity means you will be paid dividends from the company and receive more than regular equity holders if the company liquidates.
Convertible notes could be worth more if you wait to redeem them and the company increases in value.
The conversion ratio, or how much equity you receive, might increase.
This is called capital appreciation and is not present with preferred equity.
9. Super Angels or Micro-VCs
Super angels are a group of angel investors who join together to make extremely large investments in startups.
They are often considered sophisticated and successful at early-stage investment.
Super angels sometimes for micro-venture capitalist funds.
They invest less than a traditional venture capitalist firm, but more than angels invest alone.
10. Invest in Acquisition Targets
As stated earlier, many startups fail.
If they are floundering, they may be open as acquisition targets.
Competitors often watch for acquisition targets in the early stages of startups.
They then buy the business as a whole and either end the business or incorporate it into their business.
Industries That Need Early-stage Investing
Some industries have more startups and therefore more of a need for early-stage investing.
Healthcare is one of the strongest industries for early-stage investing.
Silicon Valley Bank reports that healthcare investing doubled in the first half of 2021 compared to the first half of 2020.
Another popular industry for early-stage investing in educational technology, or EdTech.
Reach Capital reports that $3.2 billion was invested in EdTech during the first half of 2021.
Direct Investing Vs. Indirect Investing
Direct or angel investing is providing early-stage investment to a startup without working with others.
It is usually done on a personal basis.
Many family members who help startups at their earliest stages would be considered direct investors.
Indirect or fund investments are usually managed by a venture capital firm and pool investors’ money to invest in a few companies.
Venture capital funds raise funds from wealthy individuals and then choose one or more startups to invest in.
- Click here to read of the Top Venture Capital Firms
- Click for how to find Foreign Venture Capital Investors
- Click here to read more about a Venture Company
- Click here to read more about Venture Financing
- Click here to read more about Pre-Seed Funding
Early Stage Investing FAQs
What Is a Startup Company?
Startups are initially small ventures focused on solving a single problem with innovation.
Everyone from students to industry leaders found startups.
In recent years, startups have grown to be the leading source of innovation, especially in technology.
Startups frequently begin with very little funding but must receive early-stage investment to succeed because they are rarely backed by a large corporation.
Although, sometimes, the early-stage investment comes from large corporations with an interest in the outcome of the startup.
What Is Early-stage Investing?
Early-stage investing usually only covers pre-seed and seed capital for startups and small businesses.
Some investors consider Series A or even Series B as an early-stage investment.
It depends on how rapidly the startup grows.
Most early-stage investors want companies that are on the verge of success but are not there yet.
This is the ideal point for early-stage investment because there are strong indicators the startup will succeed but the investor has not missed on much potential profit.
An early-stage investment is not just cash.
It is also advice, resources, and other things that contribute to the success of the company.
An early-stage investment is an investment into startups and small businesses on the cusp of success.
It can be very rewarding, but also risky.
This article provided several tips on how to increase your odds of succeeding with early-stage investment.
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