Interested in Investing in Startups? What to Know

A businessman holds out his hand, and the digital image of an angel and a dollar sign float above it.

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Investing in startups offers various avenues, including direct participation, equity crowdfunding platforms like StartEngine and syndicates. These platforms allow Americans to invest small amounts, starting from $10,000, into startups.

While such investments in startups can be highly profitable, they also carry significant risks. Statistics show that 9 out of 10 startups fail. Regrettably, there's no guarantee that startup projects seeking funding will succeed. If you're serious about startup investing and aim to maximize your chances of profitability, it's an art that requires learning and understanding the landscape thoroughly.

I am a business angel based in Kazakhstan, with nine years of experience investing in startups. My portfolio comprises 52 technology projects spanning the USA, Northern Europe, Africa and Asia. Last year, I successfully exited five projects, selling my shares for $7.2 million, while also facing losses of $250,000. I am eager to share my insights and offer guidance to aspiring business angels and those considering angel investments.

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Should you consider becoming a business angel?

When people inquire about becoming a business angel to earn substantial profits, I typically advise against it. If monetary gain is your sole motivation, the likelihood of losing rather than gaining is high. So, why engage in angel investing? For individuals like myself, there are numerous intrinsic benefits. As a serial entrepreneur with three decades in the technology sector, I have a genuine passion for technology and innovation. Being financially secure allows me to focus on fostering development and supporting promising startups.

Let me emphasize the advantages of angel investment:

It provides an opportunity to witness technology development from within. The pace of technological advancement today is rapid, and staying updated can be challenging. Angel investing offers a chance not only to catch up but to sit in the driver's seat and even wield the spotlight, illuminating the path for the technology journey.
Investors remain competent and in-demand experts. Many investors are individuals aged 45-50 who prioritize ongoing professional growth. I review about 250 startup pitches annually, and each one serves as a comprehensive lecture for me. This enables me to delve deeply into various business types, industries and markets. Moreover, I witness firsthand the functionality of diverse business models, which enhances my expertise. When startups seek my advice, it holds more value to me than mere monetary gain.
Extensive networking opportunities with young, talented individuals. The startup ecosystem is renowned for its inclusiveness. Whether in a venture club or startup community on any continent, connecting and exchanging ideas with industry peers is effortless. I derive immense satisfaction from engaging with educated individuals from diverse cultures and nationalities who share a common passion for technology.
Earning potential. Investing in startups can yield substantial returns. In my portfolio, I've had 12 exits, with only two resulting in losses. On average, I’ve earned four times my initial investment. However, I am happy even when I simply recoup my initial investment. I often humorously refer to making money as a byproduct of angel investing.

Here's why angel investing isn't the optimal strategy for wealth accumulation: Generating income in our realm is, without a doubt, challenging. According to a recent study of accredited angel investors, 52% of investments resulted in losses, and 39% of angels lost part of their initial investment. Angels typically realize returns about 3½ years after investing. There is a chance that successful exits can offset previous losses.

Therefore, the two primary drawbacks of startup investments are:

High risks. I'll explore strategies to mitigate these risks below.
Long-term planning horizon. The startup lifecycle typically spans seven to 10 years. To maintain motivation from the outset, I advise novice investors to discuss an early exit strategy with the founder. For instance: "I'm willing to take a risk and invest in your product, but in two to three years, when things start picking up, you'll help me exit."

How a business angel can minimize risks

I follow the principle that, akin to a samurai preparing for battle, an investor should mentally prepare to lose their money before making any deals.

Nevertheless, there are strategies to mitigate investment risks, even for beginners.

1. Initially, it's better to invest alongside experienced co-investors.

This way, you can back projects that have undergone thorough screening by seasoned professionals. My own investment journey began as a limited partner (LP) in a venture capital fund, where a skilled team curated projects and managed our investments. However, a drawback for novices is that venture funds typically require minimum investments ranging from $300,000 to $500,000.

If you're looking to invest smaller amounts, I recommend starting with online syndicates like AngelList or angel clubs. These platforms often have lead investors who conduct initial project evaluations.

Even if you decide to venture independently, always seek feedback from more experienced peers before making investment decisions. I've encountered instances where former partners from venture funds persuaded me against funding projects I was initially inclined toward.

2. Invest in industries where you have expertise.

While trusting colleagues' advice can be helpful, it's crucial to invest in areas you understand well. For instance, if you have a background in banking, focus on fintech projects; if in health care, consider medtech. Without this knowledge, assessing a startup's potential becomes challenging. Take AI projects, for example — they're popular now, but only a few will succeed amid the market growth. Understanding these nuances is essential for accurate startup analysis.

3. Build a diversified portfolio.

Initially, spread your investments across at least 10 startups. For instance, with $100,000, allocate $10,000 to each of 10 projects. While some may fail, others could return your investment or yield profits. Conversely, concentrating $100,000 in just one to two projects risks losing everything permanently. Diversification minimizes risk and enhances potential returns in angel investing.

4. It's essential to examine a startup's key metrics thoroughly.

The problem it addresses must be genuine, and its solution should resonate with users. Effective customer development can validate the problem's existence, while traction confirms the solution's viability. One critical metric I emphasize is retention rate. If users abandon the product after a month, it indicates either the problem isn't adequately addressed or the solution isn't effective. Projects with poor retention rates are not worth pursuing.

Tips for solo investors

As you gain experience through syndicates or clubs, focus on expanding your network and sharing your insights with startups. This effort helps in building your investor brand and establishing credibility in the market. Eventually, you'll reach a point where you feel confident making investments independently. Personally, I felt like an experienced investor after four years of active involvement.

However, don't be misled if an intriguing startup approaches you directly in the beginning. Often, such startups have already been rejected by more seasoned investors, which can be a red flag indicating potential issues. This might be a bad sign, and such a project is not worth investing in.

Here's how you should act to become a notable figure on the market and eventually be the first to receive quality leads.

1. Define your investor profile.

An investor is a product in itself, defined by specific attributes. Determine your preferred investment criteria: industries, stages, due diligence benchmarks. Ensure your LinkedIn presence reflects your preferences and expertise.

2. Establish a sales funnel.

Successful projects often circulate through personal connections. Attend conferences, engage as a mentor and immerse yourself in the venture community. Over time, opportunities will arise where someone will reach out, saying, "Here's a promising project where your expertise could add value." The conversion rate for leads originating from your network can reach up to 50%.

3. Avoid being a toxic investor.

Refrain from imposing unconventional conditions on startups that are not industry standard. For instance, avoid clauses demanding repayment if the project fails to succeed. Such terms do not mitigate risks, but rather, tarnish your reputation. Similarly, avoid demanding an equity stake greater than 10% in the early stages of a startup.

Investing in startups as an investment in the future

The topic of angel investing extends far beyond the theses that can fit into a single publication. I've discussed the motivations of business angels and shared essential tips aimed at helping beginners take their initial steps. Despite its inherent risks and potential for variability in returns, angel investing remains exceptionally intriguing and rewarding.

By supporting visionary entrepreneurs, we accelerate progress and pave the way for a technological future that was once imaginable only in science fiction. The rapid advancements in AI serve as a testament to the profound impact of such investments on shaping our future.

Disclaimer

This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.

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In my 30-plus years in the tech business, I have been fortunate to build dozens of successful projects. In my decades’ worth of experience as a Venture Investor, I have made investments in 52 innovative startups, which are represented in the markets of Central Asia, Europe and the USA. In total, I invested about $25 million in startups and have had over 10 successful exits. In 2024, I created a structured system for managing and scaling investments and launched MA7 Ventures, a comprehensive framework encompassing MA7 Self-funded Rolling Fund, MA7 Angels Club and MA7 Community.