Investing in start-ups, early stage and established businesses
It's fair to say that we are advocates of investing in unlisted businesses (start ups, early stage and established companies). We like the idea of supporting entrepreneurs. Whether it's a young tech start up with a disruptive business model or a more established business with a tried and tested business model. We also like the fact that investing in a portfolio of unlisted companies can potentially offer excellent returns.
But what about the risks?
Investing in unlisted businesses is a high risk / high reward investment strategy, particularly if investments are purely in start-up businesses. It's really important that we point this out and that investors understand this. Investors should only invest in unlisted businesses as part of a diversified investment portfolio. To learn more about the risk/reward strategy, download our Investors ebook - an introduction to equity crowdfunding and online angel investing.
Can the risk be managed?
The GrowthFunders investment platform doesn't just list start-up businesses. We also list early stage and more established companies who are seeking investment. There is a reason for this: we want to offer investors the opportunity to invest in different businesses, from different sectors at different stages of growth and maturity. The common theme is that all businesses are vetted for growth potential and most are Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme (SEIS) eligible. Whilst this doesn't guarantee success, it does offer investors the ability to diversify, manage downside risk and receive some very interesting tax relief, particularly when investing into young businesses that are SEIS eligible. For more information on SEIS and EIS relief, click here.
Is equity crowdfunding similar to angel investing?
The equity crowd funding industry is an extension of traditional early stage investment; a space traditionally occupied by angel investors, angel networks and early stage VCs. There are similarities, for example in general terms all invest capital in return for a share of equity in an unlisted company with a view to the business working towards a successful exit and generating a reasonable return for both the entrepreneurs and investors. There are lots of different mechanisms employed by Angels and VCs. Investment strategies and target returns will differ, as will the level of support offered by potential investors.
What are the potential returns from angel investing and equity crowdfunding?
What returns do angels and VCs target? Again that really depends. Some experienced angels we work with invest in 6 businesses at any one time. They invest in sectors they understand and in a geographical location where they can visit the investee companies regularly and take very hands-on approach. With this strategy, they are hoping that at least three of the businesses will succeed and accept that three may fail or just trickle along. Overall, the target return is an IRR in excess of 20%. Essentially, they are looking to double their investment in 3-4 years.
Other angels invest smaller amounts of capital in 10 or more companies and take a more hands-off approach. They expect one business to fly, two or three to do okay and accept that six or seven may fail. It sounds scary, doesn't it? But the returns generated by the successful businesses have the potential to far outweigh the losses on the seven failed businesses, particularly if those successful businesses are SEIS compliant, as investors can claim additional tax relief on losses. Remember, as pointed out previously, this is a high risk / high reward investment strategy and equity crowdfunding has many similarities to this particular strategy. The same rules apply. Only invest what you can afford to lose and DIVERSIFY!
So what about VCs?
Again, target returns and investment strategies differ for all sorts of reasons. Depending on the type and size of VC, investments can range from £100k to £10M+ with target returns anywhere from 6x to as much as 100x cash on cash return! Massive difference I know, but on average most VCs would target a 10x return. The reason that VCs target high returns is that they have running costs to cover and they too have investments that fail. After all, this is risk capital and not all businesses will succeed.
What about the potential returns from equity crowdfunding?
Back to equity crowdfunding and what's in it for investors. Well, the industry is still relatively young and bearing in mind successful exits can take anywhere from 3 to 10 years, there just isn't enough data to analyse. But, as mentioned earlier, there are similarities between equity crowdfunding and traditional angel investing. Essentially, equity crowdfunding platforms open up the early stage investment market to a wider audience of 'latent' angel investors and parallels can be drawn. Investors identify businesses that resonate, invest capital in exchange for equity and hopefully receive a great return on investment when the business exits.
It's worth taking a look at the report below - 'Siding with the Angels', produced by Nesta and the British Business Angel Association. It's a really informative read. Click the image to download...
The summary points are as follows;
56% of businesses fail return capital.
44% generate positive returns that are larger than the initial investment.
9% actually generate in excess of ten times the capital invested.
What does this mean overall?
Well, the report suggests that given a holding period of just under 4 years the overall return is approximately a 22 per cent gross Internal Rate of Return. A pretty impressive return on investment!
It is important to point out that this level of return is not guaranteed. Previous returns don’t always indicate future performance. As mentioned earlier, when investing in start-ups, experienced angel investors will always diversify and make a number of investments to ensure they spread the risk.
We recommend investing in a portfolio of at least 10 investments and consider businesses at different stages of maturity (start-ups, early stage and established businesses).
Diversification is an essential part of investing...whether your investing in listed or unlisted companies the same rules apply – DIVERSIFY!
Are you ready to build your investment portfolio? Why don't you head over to our pitch pages and take a look at our selection of tax efficient investment opportunities all with high growth potential.