A Guide to Investing in a New Business

In the Hollywood movie “Hitch,” Allegra Cole talks about her interest in investing money in her friend’s business. Although this is a fictional story, the idea strikes the hearts of many throughout the country. Hopping on board has the potential to have incredible payback rewards and can end up being a great way to make money fast. It also has the potential of failing and flushing your money down the drain. How do you know whether or not you should invest?

Conservative: Shark Tank

If you’ve ever watched the popular TV show “Shark Tank,” then you’ve seen that these high-income investors are worried about two things and two things only. First, they want to know how unique the product is. Can someone else make it, or is someone else making it. If the business just makes soap similar to Dove, than why care about it? This isn’t something that will necessarily take off (because it has no unique value). Second, they want to know how much success you’ve already had with the product. The ones scooped up and fought over are the ones that have already successfully moved product and seen drastic growth. They simply need a little money to truly kick start their idea into the clouds.

Shark Tank

So from a conservative standpoint, you would want to ensure that the company has (1) a unique idea, and (2) has had success and is seeing growth. These “sharks” have seen unparalleled success in the business world and this is why. They don’t usually invest in something that doesn’t have an overwhelming chance of taking off.

Trusting: Believing in a Dream

These investing decisions are often made before the business gets off the ground. People that choose to take this side often believe in the person or the dream before it becomes a reality. They’re money is at the most risk, but they usually have designated that cash as disposable income. It is meant to help a dream, not necessarily turn a profit.

Consequently, many of these investments are burned off in the engine of entrepreneurship. Some never pay back. Some do. The people who make these investments are more interested in helping someone achieve a goal rather than turn a profit. Investors that decide to do this need to see it from the real possibility of losing an investment. If they don’t, they could regret the decision for the rest of their lives, or lose a real friend.

Somewhere Between: You?

Sometimes you find yourself unsure where you stand. Maybe you want to invest in a dream, but at the same time you don’t want your money to go to waste. If the money is going to go to waste, why don’t you just use it on something else (like the new 45” HD TV you’ve been looking at). You’re investing because you expect the project to work. Maybe you have one of the following worries though.

How’s the money going to be used?

The idea is good; you just don’t trust the person using the money. Perhaps you really believe in the product, but want to keep an eye on how finances are spent to make sure they’re going to good things.

You can solve this concern by only giving money when he comes asking for it. Tell him you want to invest X-amount of dollars, but you need him to create a proposal for the expenditures he needs. You would then approve, or reject proposals accordingly.

You can help determine if it’s worthwhile by asking the following questions

  1. Does it add value to the business? If it doesn’t, is it worth buying?
  2. Does it make processes more efficient? Purchasing a program that reduces the time you spend working on mundane tasks can save you time and money. These can be well worth the buy.
  3. Does the expense pay itself off? Purchasing your own equipment to do things in house could very well pay itself off in years to come.

These are helpful criteria to begin with, but do not have to be hard rules to follow. Adjust them according to special circumstances.

A word of warning to those that pursue this route though: entrepreneurship reaches its ultimate potential when the entrepreneur is allowed to make some of the decisions that everyone thinks is crazy. Often, those “crazy” ideas have translated into massive success before. If you limit your investee’s ability to pay for these crazy ideas, than you could limit the businesses’ ability to actually succeed. Agreeing to pay for certain things is a great way to make sure your money isn’t being wasted, but the best way to do it is with an open mind.

What if it’s a scam?

You’ve heard too many horror stories about financial scams that come from people asking you to take a chance on them. They happen enough to be scared. Recent articles have warned against “Help hurricane Sandy” fundraising scams. Not everyone is honestly trying to help the people there. Some would rather steal. There are two things you can do to help you determine if you should invest or not.

First, invest only in people you trust. How likely is a family member going to scam you and get away with it? How often is your best friend going to risk your friendship for a couple thousand dollars? If you can’t answer that question with an affirmative, are they the best friend for you? When people you really trust come knocking for money, you can consider investing in them.

Second, do real research into their product and see the processes happening. Ask them to see their business license and qualifications. Watch their business and see what you can find in public records to confirm the company’s existence. Make sure you know beyond a doubt that they are (1) a legitimate business, and (2) doing what they say they are doing.

Once you’ve inspected the business, determined how you would want to invest your money, and decided to actually invest, there are a number of things you’ll want to set up.

Keep a record of every penny you invest

If money is leaving your pocket and going to another business, keep a record of who it went to, when, and for how much. The government will not recognize your contribution otherwise and you will be taxed for it.

When you itemize your taxes, you can report the amount of money you invested. The IRS will then be able to make a fair assessment of your actual financial situation. A fair assessment will help ensure that you aren’t paying too much in taxes.

Keeping a careful record will also help you follow up with your investee and prove that money was given.

Create a flow of communication

Now that you’re investing in the business, you’ll want to upkeep a healthy chain of communication with the owner. A periodic flow of communication will help you understand what’s going on. It will reduce the number of anxious nights when you wonder what’s going on. You will always know about what’s going on.

Create a schedule of times you plan on following up. Call her on those days and ask how things are going. The best approach is to be friendly, encouraging, and interested. Then let her begin to tell you how things are going. Write down plans that she intends to pursue and follow up on them in the weeks to come. Ask what’s working and what’s not.

Be interested in her ideas, progress, and work. Support and encourage her. Be excited about the things she is excited about—even if you don’t always understand them. Find out what she’s doing and ask how you can help. A helpful investor is one that she doesn’t fear being completely honest with.

Communicate your plan to follow up to your investee so there are no surprises. She’ll appreciate knowing when she can expect your call. She’ll also be able to plan progress around your calls. Planning to report progress makes her set and work toward goals. They don’t want to disappoint so they’ll push themselves to work better.

A flow of conversation will help build the business and keep you at ease throughout the process.

Believe in your investee

If you’ve decided to entrust money to your investee, it’s time to start believing in them. You’ve evaluated their need, how much you’re willing to spend, and believe in their product. Now it’s time to go forward with your plans and trust your investee to go about this the right way.

A true entrepreneur believes in this dream much more than you do. It would crush him to fail more than you. That’s enough pressure to help them make smart decisions. They could use someone’s faith, and there is no one whose faith they can trust more than the person helping pay a portion of the bills. Once the decision has been made, believe in the person you invested in.

Investing is a great way to give support to an entrepreneur. Your money and encouragement could be the one thing that person needs to really take off. The task can be terrifying though. Go about it the right way and you will be best set to give them the support they need.

 

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