The general tone of everything related to start-ups has traditional been : “only sophisticated and accredited investors should be investing on a large scale due to the risk associated with investing in early stage companies”. I definitely do not disagree with this statement. Start-ups and early stage companies have not yet proven themselves and represent a fair amount of risk. However, with the impending legislation there are steps that should be taken in order to safeguard and educate investors who have not traditionally been involved in this field. Here are a few things that investors in start-ups should always know and keep in mind.
1. Chances are the start-up you are investing in will not be the next Facebook: There are many companies that are successful and are acquired or have great exit strategies. However, there is a large percentage of companies that are not as successful or even outright fail. When start-ups companies do succeed they often exhibit outsized returns which will mean $$$ for investors!
2. Investing in start-ups is similar to investing in anything else: Think about what you would do without that money. While responsible investing is key, also as with anything else, do not lock up more capital than you can afford to. Don’t use money that was supposed to be for something your family needs on a big investment for a start-up. Make smart and responsible investments.
3. Perform Adequate Due Diligence: Due diligence is the process of going through available information and making your questions are answered. Whatever risks you can think of try to have them addressed to a commercially reasonable extent. Sometimes there will be questions that start-ups will just not have a satisfactory answer for, but you will have to use your judgement to see if it is really feasible for you to expect a thorough response to some questions.
4. Don’t exclusively rely on herd mentality: While herd mentality, especially with crowdfunding, may be a reasonable metric to utilize in determining the reasonableness of an investment. Don’t rely exclusively on that. Make sure that you have done our own outside in research in the field, as it is very easy to enter a state of elation when everyone else is doing it!
Equity crowdfunding for startups will unleash a flood gate of investors that have never seen this type of investment before or any type of investment for that matter. It is important that education become a critical component of hits new and enabling legislation.