An idea without money to execute it is futile. Sometimes, If you want a homerun type of ROI, you’ve got to take a chance on the next big idea or entrepreneur. That’s basically what early-stage investing is — somebody backing an innovation before it’s profitable.

Let’s look at investing in startup companies, why people choose to invest in them, and what could go right or wrong.

What is Early Stage Investing?

In the simple context of entrepreneurship, early-stage venture capital investing refers to funding rounds that provide funds for the company’s initial start-up and its growth before any valuation or public offering.

Such investments are usually done by venture capitalists and allow entrepreneurs to benefit from the investors’ expertise and thereby help their startups to gain traction in the market.

Before early-stage investors back a start-up, they look for specific characteristics like product/market fit, a solid business plan, uniqueness, Minimum viable product (MVP), and revenue potential.

In return, they provide the startup with funding, advice, and in most cases, the expertise with staff and partners like this one.

Early-stage investors want to know if the target entrepreneurs have experience in business and have clear answers to all questions.

The goal is to figure out if startup entrepreneurs can think outside of the box and have clarity of thinking. They want to know, among other things, ‘What problem are you solving?’

The Benefits of Early Stage Investing

High Profit/Sale Potential – Early investors can achieve high returns on investment at above-market rates by investing in the early stages of the business. A startup company’s value usually increases rapidly compared to existing companies with slower growth rates in mature industries.

As a startup investor, you may receive shares at attractive valuations when the startup is young and still private. This will enable you to realize high returns when the startup is acquired or listed.

Portfolio Diversification Opportunity – Any investor can spread portfolio risk by investing in startups. Unlisted companies often have lower returns than publicly-listed ones, making them less vulnerable to negative market shocks (unsystematic risk).

Furthermore, equity crowdfunding offers a way for investors to diversify holdings across industries, stages, and risks since entry barriers are low, no hidden fees apply, and investment opportunities are plentiful.

A Chance to Be a Part of Something Unique and Revolutionary

Many startups are already attempting to exploit an existing market gap.

The Equidam study, updated in 2019, finds that the typical startup will grow 178% in its first year, 100% in its second year, and 71% in its third year.

The startup space offers investors a window to take advantage of market gaps, attractive market trends, and opportunities. An investor can take advantage of these gaps and a scalable business model.

Additionally, investing in startups is a chance to be a part of something new, exciting, and innovative.

Most early-stage investors offer advice and perspective rather than just taking a passive role.

The Risks of Early Stage Investing

Like any investment, early-stage investing comes with risks. If you invest at the early stages and something goes wrong with the startup, you stand to lose your investment capital.

Another risk you may have to contend with is competitors. The start-up you have invested in may face competition from another start-up with more financial backing. Or, the competition may be offering the same products or services as your startup but at lower prices.

You may also face an unanticipated minimal market acceptance for your products or services due to changing consumer tastes and the adoption of new products/services.

In a nutshell, early-stage investing is high-risk since the startup company’s financial viability is unproven, and there is little information about its product/service and operations. Therefore, you must consider your risk tolerance before investing in a startup company.

Early-stage investing is a balancing act between receiving high returns and investing in companies at early stages that have less potential for success. Investors must carefully evaluate the startup’s business model and financial projections to determine if the company will succeed.