The Risks of Investing in StartUps ⚠️ Eurokick Startup Investing

Startup Investing Risks

There has been a dramatic shift in the corporate landscape since the beginning of the century, with many more startups appearing than ever before. The proliferation of them all across the globe has helped uncover answers to even the most trivial human problems. The startup culture has fully slammed the reset button on the established corporate norms. The finer points of investing have also adapted to this new reality.

Like investing in the stock market, funding new businesses is common. It's a tightrope to walk, but it's becoming easier to do every day. If an investor puts money into a business, they should see a healthy return on their money. As only a small percentage of startups are now profitable, it is crucial to exercise caution when investing in them so as to avoid a complete loss of capital.

There are many ways to find an investor. If you are interested, we recommend you to read our article, 6 ways to find investors and raise millions for small business, where we mentioned some of them.

In reality, only a small percentage of new businesses ever reach the point of Initial Public Offering (IPO). Therefore, the stakes are very high since the investor might either become wealthy (with returns of up to a thousand times the initial investment) or suffer a total loss. Some of the risks of funding startups will be discussed in this article.

Let's look at the challenges of investing in startups:

What Are the Risks of Startup Investing?

Investing in new businesses is, without a doubt, a great way to increase one's potential for financial gain. However, there is no guarantee that the investment will provide a positive return.

The following is a list of some of the dangers associated with investing in new businesses:

Unanticipated Complications

The potential for market problems is a significant threat to startup investors. If the concepts are new and the execution is flawless, every startup succeeds and becomes a fully functional firm. However, there is always the potential that reality may defy expectations. The economy is complex and volatile and may provide a wide range of difficulties.

A wise decision on how much capital should go into each investment is essential to avoid the financial pitfalls that might lead an investor down the road to insolvency if they put money into a business. It's wise to have a fallback strategy in place in case your first one doesn't pan out. It will be easier to comprehend the causes of the company's failure if you have a firm grasp of the ins and outs of startups.

A wrong valuation can lead to many problems

When you invest in a startup, you might end up paying too much for your money, which can limit how much you can make in the end. This risk is lessened by the first step of looking at every factor that has affected the startup's value.

In the early stages of a startup, it's impossible to know precisely what the actual value is. However, the more you look into the numbers, the more likely it is that your estimate of the entrepreneur's perceived value is accurate, and the better decision you can make.

Risk of Competition

Every new business has to deal with competition, either directly or indirectly. Some of these competitors may have more money than the new business. One or more of the company's competitors could offer similar services at much lower prices. This would pressure the company to lower the prices it could charge for its services. If the company can't charge the prices it planned to charge for its services, it could greatly impact how well it does business and how much money it has.

Revenue Risks

There is a chance that the company's revenue will be lower than expected since it is still in its beginnings and may have just begun implementing its business strategy. No promises can be made that it will ever turn a profit. It's important to evaluate the chances of profit-making in light of the typical challenges, costs, difficulties, hassles, and setbacks startups face. Because of these unknowns, the corporation may be unable to accomplish its goals.

Personnel Risk

Putting money into a new company is like betting on its founders. The viability and success of a business hinge in large part on the company's ability to put its plan of action into action. Remember that the firm, including the management, will need salary payments from your investment. Any information the corporation provides about how its profits are spent deserves your close attention. The management team's education and track record are other important factors.

Money Flow Problems

The lack of ready cash is another key threat to investors in young companies. If you invest in a new company, your money will be locked up for a long time. You will not be able to easily get out of this investment, even if you come to deeply regret making it.

Lack of ROI assurance

Considering that 90% of businesses fail during the first five years of operation, the risk factor associated with investing in startups is unusually significant. This also implies that investors can't count on a certain rate of return. However, that's not the end of the ROI-related dangers. Liquidity problems might be a threat if they make it take longer than projected to generate a profit. Sometimes, even if there is a profit, there won't be much cash left over after all the bills are paid.

Diluted Shares

If the company needs more money to help it grow, your share could be cut down. Also, as more investors join, you might have less control over the business. This is especially hard for angel investors who want to be involved in the business's direction but don't want to be involved in future investment rounds.

Even though taking on extra capital may not have been planned initially, the most successful investors question the startup's plans for future capital injections and spending. They also plan what they will do if there are more investment rounds.

You can also read our article about angel investing and how to find an angel investor.

Growing teams might produce conflict

Growing businesses can put a lot of stress on business relationships. A team of managers that doesn't work well together won't be successful.

From the first time they meet the startup, potential investors look closely at the management team to see if it has what it takes to succeed. Much attention should be paid to their skills, experience, passion, and ability to be flexible as a group and as individuals. However, relationships and teamwork should always be kept in mind, and everyone should start wanting to achieve the same goal.

Market Demand Risk

Despite the company's optimism about future demand, there can be no guarantee that consumers will well receive its items. In addition, consumers may not receive the company's goods well if other businesses provide similar but more appealing items. In such a case, the company's operations and the financial situation might take a significant hit, and it would be unable to accomplish its objectives.

Underestimating the market impact challenge

Business failure is possible if the company fails to properly assess the difficulty of penetrating its intended market. Alternately, its capital needs may increase as it pursues consumers who prove more elusive than first anticipated.

A smart investor will avoid this danger by studying the startup's strategy in depth before making a financial commitment. Investors want to see proof that the company has the resources, strategies, and offerings to attract the clientele necessary for rapid expansion, intending to ensure that the lifetime value of its clientele far exceeds the cost of acquiring each new client.

Scams

When money is exchanged, dishonesty is always a possibility. Equity investments in new companies are no exception. Startup investments are risky if you don't see any red flags that could indicate wrongdoing for the firm you're investing in.

Conclusion

Investing in a startup is synonymous with taking a chance on a potentially lucrative but risky venture. Numerous variables will determine the venture's success or failure, including the originality of the company's ideas, the quality of the plan's execution, the level of customer happiness, the attainment of goals, the receipt of future funding, etc. Investors may only protect themselves if they investigate the company thoroughly and stay current on its development. Don't put all your money into one business to spread the risk and ensure the investor doesn't lose too much.

If you want to learn more about venture capital, you can read our article on the basics of venture capital.

The entire exercise of startup investment has a far greater impact on society than just the monetary ones, and it can alter the course of a household and perhaps a nation. Therefore, it's essential to do your homework and make wise investments.

Eurokick is a venture capital firm that invests in and consults on high-fidelity, innovative technology startups.

Eurokick's experienced professionals analyze all the risks and invest in globally scalable technology startups.

Are you interested in funding startups? For more detailed information, feel free to contact us!