Compared to investing in publicly traded companies, investing in privately held companies can be somewhat trickier. This is because there are far fewer options available to investors to invest in companies that have not yet gone public.
Investing in private companies has traditionally required you to put your money in private equity and venture capital funds. These funds often do exceptionally well, investing in some of the financial market’s best performing assets.
Private equity funds pool investors money to purchase later stage companies. Private Equity is a booming business worth over $4.5 trillion! Although private equity investors typically buy companies with cash, sometimes they’ll engage in a leveraged buyout (LBO) and buy companies with a significant amount of debt.
While technically speaking a subset of private equity, venture capital has significant differences from private equity. Venture capital funds tend to invest in young, innovative, and fast-growing companies. Venture capital is a much smaller industry than private equity with only about $400 billion in assets under management.
Unfortunately it is probably impossible for you to invest in either private equity or venture capital funds, which don’t even market themselves to the public. This is because investing in such funds used only to be available to accredited investors - those who have a net worth of at least $1,000,000 or an income of at least $200,000 for the last 2 years.
These rules were in place because the SEC wanted to protect the average investor from investing more money than they could afford to lose in high-risk companies. The SEC has reason to be somewhat cautious. Early-stage startup investing is very high risk. The majority of startup companies do not manage to survive their first year.
Before equity crowdfunding crowdfunding, retail investors didn't have the chance to benefit from the upside potential of early-stage startups. In 2007, the Great Recession hit, and many businesses struggled to secure financing. With the Jumpstart our Businesses (JOBs) Act, the SEC endeavored to help businesses recover from the recession - and one of those ways to do so was by loosening fundraising restrictions on financial institutions.
Under Reg CF of the JOBs Act, the average investor can now finally invest in private companies before they IPO and have the opportunity to invest early in the next unicorn (billion-dollar startup). The SEC still places limits on how much of your money you can invest in startups - usually up to 10% - so even if you invest you probably won’t end up investing more than you can afford to lose.
It's exciting that these equity crowdfunding platforms have sprung up to let you allocate your capital into companies before they even go public. A balanced portfolio does not only contain promising startups. It requires investments in both high-risk, high-return assets and low-risk, low-return assets such as Real Estate. The best of this new crop of crowdfunding platforms make a range of assets - both illiquid and liquid - available.
Points of Consideration
Now that you’re allowed to invest in companies, you can be like a venture capitalist. While platforms like Republic already do some of the due diligence on companies for you, you should also do your own research and decide for yourself whether a company is a good investment. Angel investors usually use 4 Ts when deciding whether to invest in a company.
Team: A startup’s founding team is critical to the success of the startup. Be sure to look at a team’s ability to execute on an idea.
Tech: Are these startups leveraging new technology? Does the startup have a product that gives it a leg up on competition?
Traction: An engaged and dedicated user base is a solid indicator that a startup has legs. The startup should have begun making some revenue.
Terms: Central to evaluating terms is understanding which instrument you’re using to invest, the company’s valuation, and how your investment—or equity ownership—could make you a cash in the near future.
Startup investing doesn’t come without risks. This is why the SEC only allowed a select subset of investors to invest in startups for so long. Before investing, you should understand the risks associated with startup investing. These risks show that its important to diversify your startup portfolio. They include:
Product risk: The risk that a startup may fail to realize customer expectations.
Market risk: The possibility that an investor will face losses due to performance of the general financial markets with which he is involved.
Financial risk: The risk a startup won't be able to meet its financial obligations and pay back its debts.
Team risk: This is the risk that a team lacks the experience needed to deal with challenges that may arise.
Today you have many options when it comes to investing in private companies. A whole crop of crowdfunding platforms facilitate investing in private companies, including Republic.
Some of these platforms don’t only offer investment opportunities in startups. For example, on Republic, Fundrise, and Crowd Street, you can also invest in private real estate deals. On Republic you can also invest in video games via Fig.co, a gaming investment platform it acquired. Republic also Autopilot - a unique feature that lets you automatically build a diversified startup portfolio. We also allow investment from IRA accounts, which can have certain tax advantages.
Republic currently focuses on startups, video games, crypto-assets, and real estate, but in the future will likely expand to loans and other alternative private assets. New areas are opening up all the time.
Fine art, wine, classic cars and more are just a few of the assets in the pipeline. By providing a range of investment opportunities in alternative assets, Republic can help you build a well-balanced portfolio of private assets.
Republic is building a modern private investing platform. We aim to help millions of people invest in private assets. Take a look at our current offerings, and see if anything catches your eye.
This educational article is provided by Republic to help its users understand this area of the market, it should not be construed as investment advice as it is impersonal, disinterested and was produced by Republic for Republic’s users, without remuneration received or expected.