Look Before Leaping: Consider this before investing in a startup
Northern Utah is developing a reputation nationally as the next Silicon Valley. From Q3 2015 to Q3 2016, more than $627 million was invested in startup companies in Utah, according to data published by PricewaterhouseCoopers, LLC. This amount is still small compared to California, but we were No. 7 in the nation in 2014 for the total number of dollars spent in funding new tech companies.
Angel List, a website for investors, startup companies and job seekers, listed 145 new startup companies for 2016 in Salt Lake City alone. Our highly educated workforce and the neighbor-like atmosphere of our business community help draw the latest ideas and innovators in the tech industry to the state. In other words, a financial and communal support system is here, and entrepreneurs are taking advantage of it. And based on the pace of this growth, there’s little indication that the startup growth trend in Utah will change anytime in the near future.
Evaluate your own situation
Startup companies typically need investors to get going for those first initial years. Many of the investors in Utah’s new enterprises are locals who seek new business opportunities. Some are motivated to support the local economy, some to support endeavors about which they are passionate, and still others are encouraged by the success stories covered by the media. This final group often contains individuals who hope to capitalize on the tech industry; they take the time to research the startup before they make the decision to invest.
I agree it’s important for investors to develop metrics to measure business growth before they put their money forward for investing. However, the decision to invest needs to go much further than having the capital on hand to make a meaningful investment. Performance metrics are often opaque, and the investment carries significant risk. Investors need to evaluate their financial situation as thoroughly as they review the background of the startup they wish to potentially fund. I recommend they ensure their own financial responsibilities and well-being are properly cared for first.
This “look before you leap” scenario includes being farsighted in terms of personal and family finances and accepting the risk that investing in a startup can bring. Investors should take a holistic view of their long-term wealth planning as an insulating buffer against any potential negative fallout from the investment. This personal finance approach should be no different than the approach an investor would take for a potential business venture. Investing in their personal financials first can help to cover the bases for their future personal financial success, and then they can look to investing in the next, hopefully successful, startup company.
The reason I make this point is because while investments in startup companies provide their own set of risks, they can also result in impressive returns, and may do so in a relatively short amount of time. Overall, investors pay for these returns in greatly reduced liquidity. It’s hard for an investor to do anything with the company values that essentially live on paper. In fact, until the investor cashes in his or her stake, or the company goes public, the monetary value of the company—and the investor’s return—is technically hypothetical. Those hopeful returns may be tied up for longer than expected, and may not be available for funding other personal financial expenses such as retirement savings, life insurance or educational funding. By undergoing long-term wealth planning for their personal finances, investors can plan to have liquid cash assets available for those personal financial expenses.
With their personal financial planning complete, investors are essentially prepared for risks that occur when investing, especially in a startup. Should the startup succeed, the investor’s financial situation may be enhanced. And if it doesn’t, your thoughtful planning can help ensure your home life can still be covered!
Mike Poulter is the Salt Lake City market leader for The Private Client reserve. He is responsible for delivering investment management, private banking, trust and estate services, and financial planning to clients.
Investment Products and Services are: Not a Deposit; Not FDIC Insured; May Lose Value; Not Bank Guaranteed; Not Insured by Any Federal Government Agency
Investments in start-ups are illiquid by nature, typically represent a long-term binding commitment, and are not readily marketable. The valuation procedures for start-ups can often be subjective in nature.