6 ways to invest in startups for private investors
There are a variety of ways to invest in startups. Many investors are familiar with the traditional equity method of investing, but other alternative methods can be used, each with its unique advantages and disadvantages. For those looking to get involved in the startup world, here is an overview of the different ways you can invest in them.
Equity investment is the familiar way of investment known by investors. This investment in startups is accessible to individuals, often called angel investors or business angels. It involves buying ownership in a company, usually in the form of stocks or shares, in exchange for providing funding to the company. The investment gives the investor an equity stake in the company; becomes shareholder in the startup and has a vested interest in its success.
Private investors can invest in startups directly or through investment vehicles such as venture capital funds, angel investment networks, or crowdfunding platforms.
As the startup grows and becomes more valuable, the value of the investor's equity stake can also increase, potentially resulting in a high return on investment if the startup is successful. The value of the investment can also decrease if the company performs poorly. Investors are usually interested in entrepreneurs and startups with strong growth potential like those in high-tech domain.
Crowdfunding is an equity financing method that involves raising capital from a large group of individuals, often through an online platform. Rewards-based, equity-based, and debt-based crowdfunding are the three most common types of crowdfunding. In rewards-based crowdfunding, investors receive non-financial rewards, such as products or services, in exchange for their investment. In equity crowdfunding, investors receive an ownership stake in the company in exchange for their investment. In debt crowdfunding, investors provide a loan to the company, which is repaid with interest over time.
Entrepreneurs and small businesses may find crowdfunding to be a valuable tool for raising capital, as it can provide access to a large pool of potential investors and can help to validate a business idea. For investors, crowdfunding offers several potential benefits, including the potential for good returns on equity investments, lower investment minimums, and the opportunity to support social causes and projects that align with their values and beliefs.
Some examples of successful crowdfunding campaigns:
- In 2012, Oculus Rift raised more than $2.4 million to develop a virtual reality headset. Oculus Rift was later acquired by Facebook for $2 billion.
- In 2015, Flow Hive launched a crowdfunding campaign to raise $70,000 to develop a beehive that allowed beekeepers to extract honey without disturbing the bees and raised more than $12 million for on of the most successful campaign.
- The highest ticket in crowdfunding is considered being the campaign launched by the blockchain platform EOS in 2018. The company raised $4.1 billion in its initial coin offering (ICO), which is a form of crowdfunding that uses cryptocurrencies. ICOs are different from traditional crowdfunding campaigns, as they involve the sale of cryptocurrencies instead of equity or rewards.
Convertible note is a type of loan that a startup can receive, which can later be converted into equity based on certain conditions or milestones, such as reaching a certain funding goal or valuation. Typically, startups issue convertible notes to attract investors without setting a valuation on the company. The convertible note includes an interest rate, a maturity date, and a conversion discount or valuation cap that specifies the price at which the note will convert into equity once the predetermined event takes place.
For investors, convertible notes can potentially offer a higher return on investment if the startup is successful and the note converts into equity at a lower price than the shares would be worth at a later date.
Some examples: Dropbox in 2008, for $1.2 million ; Reddit, in 2014, for $50 million; Uber, in 2011 for $1.25 million.
Asset-based financing - also known as asset-based lending - involves using assets such as inventory, accounts receivable, real estate, or equipment as collateral against an investment loan made by an investor or lender. This type of financing works well for companies that have tangible assets already in place and do not need immediate cash flow since it allows them to use their assets instead of selling them off to raise money quickly.
These assets can include both liquid and illiquid assets from the borrower's balance sheet, such as properties, machinery, and outstanding invoices (also known as accounts receivables).
The specifics of the loan are determined by the type and value of the assets used as collateral. Lenders typically prefer highly liquid assets, such as securities, that can be easily converted to cash in the event that the borrower defaults on the loan payments.
Peer-to-peer lending, also known as P2P lending, is a method of lending money to businesses directly through a specific platform that connects borrowers with investors who are willing to lend money for a specific interest rate.
P2P lending allows businesses to borrow money without going through traditional financial institutions, such as banks. Borrowers are typically required to provide information about their creditworthiness and financial situation, which is used by the P2P lending platform to determine their credit risk and assign an interest rate. Investors can then choose to lend money to borrowers based on their risk tolerance and investment objectives.
P2P lending can offer investors potentially good returns compared to traditional investments, such as savings accounts, and can be a way for investors to diversify their portfolio by adding a new asset class with investment accessible with smaller amounts of capital.
Revenue-based financing involves buying the future revenues of a company with recurring revenue at a discount. This type of investment works well for businesses that generate consistent revenue over time, such as software companies or subscription services, as it provides investors with steady income instead of relying on one-time profits from sales or investments.
It is a non-dilutive form of financing, which means that the company's management retains complete independence and control, as there is no equity investment or impact on the company's shareholding.
Levenue is the first revenue-based financing company that opened its platform to private investors and connect them to recurring-revenue businesses looking for financing, making it a new asset class with high returns for investors. Investors can buy (through Levenue) the future revenues of high-growth tech companies at a discount for 12-month non-dilutive investment. Entrepreneurs gain access to relatively low-cost capital without having to dilute their shareholding. Neither is it necessary for founders and directors to put forward personal collateral against the loan, making it a less risky option than traditional debt financing.
Investing in startups can be an exciting yet daunting prospect which is why at Levenue we are pleased to offer investors an easy way to invest in start-ups through revenue-based financing.
If you want to know more, contact our team and ask any question here.