We’ve all heard the success stories of investing in a start-up company. Indeed, some of the biggest companies listed on the major exchanges today were once backed by venture capital – an investment firm that specializes in financing early-stage companies. However, it’s important to remember that a lot of these examples you hear about are best-case scenarios. The bottom line: past performance is no guarantee of future returns.
So, what can you actually expect to happen when you invest in a company?
In short, when you invest in a company, you become one of the owners of that organization; you are a stockholder. What you can make or lose on a stock is known as the return on investment, and this is very much dictated by how successful the organization is.
Although there are no guarantees on how successful a company will be, there are two main ways you can make money by investing in an early-stage company. These include:
1. Dividends – Depending on the company, some may pay dividends. This is when the organization chooses to distribute a percentage of its profits back to shareholders. A dividend is a fixed dollar amount per company share. And the more shares you own, the more money you will receive. Dividends can be paid to you in cash, or you may be able to reinvest them to buy more shares in the company.
2. Capital Gains - The value of a company is never stagnant. And this rule applies not only to public companies, but private firms too. For example, once a company has grown past being a start-up, it could become attractive enough that outside investors want to own it. There is also the possibility that the start-up you invested in eventually has an Initial Public Offering (IPO). In both scenarios, if you sell your shares at a higher price than what you initially paid, you will make a capital gain. At the other end, if you sell your shares at a lower price than what you initially paid, you will have incurred a capital loss.
It’s important to note that there are many external factors that can influence your return on investment. Ultimately, financial markets are affected by what’s going on in the wider economy and public policy in Washington, D.C.
Other factors, such as political uncertainty at home and abroad, energy, and weather problems can also influence market performance. In turn, they may impact your equity investments. Always pursue due diligence and be aware of wider market conditions, as that will help you make a better judgement on what to expect in the future.
*Nothing in this article should be considered legal or investment advice. Startup investments are always inherently risky and following the advice in this article will not necessarily reduce that risk.