What to Consider Before Investing in Private BusinessesMarch 24, 2021
There is a lot to know before investing, especially in private businesses. Investing in private companies is a complex and long-term commitment. Here is a list of things to consider before investing in private companies:
Listen to the Boss
It is important to know who you are investing your money in, as investing in private companies is a long-term commitment. One of the best ways to facilitate conversations with the company executives is through conference calls and online forums. Now more than ever, companies are focused on their online platforms to better communicate with investors and employees.
In order to truly understand the company vision and values, nothing is as valuable as a conversation with the CEO. You will also be able to learn about how they plan to run the company within the market and get an idea about the future. The CEO can also inform you of the risks involved with executing the company plan, as well as their overall ability to be successful.
Diversify your Portfolio
To reduce risk, it is important to diversify your investment portfolio. It is suggested by The Angel Investment Performance Project to invest in over seven private companies. When considering diversification, have a set amount you want to allocate over your investments. In order to be successful, it is important to decrease your risk in the market.
Meet with an expert
You need to understand a lot of information when you choose to invest in private companies. Finding and organizing the right information may be difficult. Talking to an expert in the industry who you align with is the best way to get the information you want. The best people in the industry to talk to are professional investors and investment bankers that focus on these types of investments every day. If you do not have a person in mind, start by reaching out on LinkedIn and other professional platforms, like GLO, to find the advice you need.
Understand the Consumer Experience
Part of understanding the position and future of the company is understanding consumer behavior. The customers are the best indicator of product performance and future growth. As market trends change, it is important to keep up with customer consumption changes and feelings. Talking to customers will also give you insight into the competition.
When talking to customers, it is important to differentiate what type of customer they are for the company. Forbes mentions that there are three types of customers: promoters, passives, and detractors.
- Promoters are loyal customers that fuel growth by recommending the product online to friends.
- Passive customers are important when it comes to competition because they are indifferent and can be easily swayed when purchasing a product.
- Detractors are dissatisfied customers who will actively criticize the product and can have a negative influence on passive customers.
Know the Growth Opportunities
The growth of the company is the way you make money on your investment. Sales growth within a single store is way more valuable than acquiring distribution. This is considered organic growth. You as an investor can better understand growth through the financial statements and market analyses.
Be Familiar with the Exit Strategy
An exit strategy is vital when choosing to invest in a private company. What is necessary for the company to go public? If an IPO is not a viable option in the future, who will be able to buy it at an ideal point? IPOs may be more common in certain industries over others, like tech and retail. Each industry should be treated as such.
Consult your Lawyer
Legal concerns and processes when investing in a private company are more complex than public companies. Having a discussion with your lawyer is important to make sure everything is correctly documented. Your lawyer may also give you feedback about your risks and monetary decisions.
Understand the Business
When investing in a business, think like a customer! Try the products for yourself to get a better understanding of the business and its positioning. Understanding the business and products builds confidence in your decision-making. Invest in what you know.
Calculate the Margins
Understanding the financials and economics within a company is necessary to see if there is a real opportunity to make money. Details such as per unit margins can tell a lot about the company. If the revenue is lower than the costs, including marketing and distribution costs, you will lose money as an investment.
Valuate the Company
You should know the valuation of the company in comparison to competitors before investing. Valuation is based on multiple factors such as revenue, risk, capital structure, and net income. If the valuation is too high, it may be a risky decision to invest, even if it is a good company.
Do your due diligence and gain as much information as possible before investing. Online platforms like GLO will provide you with the networking and resources you need before choosing to invest.
Madeline Pernecky is a Dallas based writer for Global Leaders Organization. She is also an undergraduate student at Southern Methodist University, working towards a bachelor's degree in Business Marketing as well as minors in Advertising and Spanish.