Are you’re looking to invest in a startup? It’s all in the timing…
There are 5 stages of business development: idea, pre-seed, seed, emerging, or performing.
The Idea stage…
The idea stage is too risky because there is essentially nothing tangible to invest in a startup and there is no foundation to build upon. The idea stage is when the founder(s), family, and friends are putting up their cash — it’s the riskiest time and returns are very questionable. At this stage there is no hook for the rational investor to grab onto and move forward.
The Pre-Seed stage is the perfect stage to invest in a startup
The pre-seed stage is where an angel investor wants to be. Angels get the best deals at pre-seed because the supply of capital is low but the demand is high. Also, smaller angel investors can find better deals pre-seed because there is less competition for those deals. Particularly, from venture capitalists and institutional investors who compete for deals at later stages.
To minimize risk, angel investors require a high degree of diversification with many small investments. Diversified investment portfolios are easier to build at the pre-seed stage because founders are happy to receive say, $10,000 in investment increments on say, a first-time $200,000 round. Those same companies are not going to entertain small-dollar increments when they reach the emerging stage and are looking for $10 million.
Another big problem is avoiding non-business oriented entrepreneurs. This avoidance is much easier at the pre-seed stage as the business is somewhat already proven to have validity and you should be able to size-up the founder(s)’ acumen.