By Andrew Gordon on April 8, 2015 Dear Early Investor,
A founder whose company I have been checking out called me the other day.
I had asked him to lower his investment minimum for our members from $10K to $5K.
He said he wanted to discuss my request.
He told me he doubted he had time to carry on a relationship with more than a handful of investors. "I just don't have the bandwidth to be answering questions from dozens of small investors," he said. "But I really want to give your members a chance to invest."
I understood. This wasn't the first time a founder had brought up this issue. Fortunately, we were able to work out an arrangement. He lowered his investment minimum for my Startup Investor members. And I promised to keep our members up to date on his company's progress.
Playing the Numbers
There's been plenty written on how founders should think about a few versus many investors.
But how about from your perspective as an investor?
What's better? Should you invest in 10 companies with a $10K stake in each? Or 20 at $5K each?
How about 100 companies at $1K each?
There's not much hard data on this. But enough is trickling in that we can now draw some solid conclusions about portfolio size.
A 180 and Rising Batting Average
When investing in startups, you're hoping for one of two outcomes. That the startup will launch an IPO. Or that it will be acquired at a nice price.
Either "liquidity event" would allow you to cash out your shares.
It's likely that either "liquidity event" will bring a sizeable profit to investors.
The chart below follows startups that first raised funds in 2009. Six years later, 18% - 32 out of a total of 174 companies - achieved a successful exit.
These results also conform to an analysis conducted by CB Insights on its 2009 companies. Other data I've examined from CB shows that 2009 was not an outlier year.
And that 18% success rate should inch higher over the next few years.
As you see, 13 of the companies did a sixth fundraiser and five did a seventh. Not only were those fundraisers fairly recent, but they also suggest continued strong VC interest.
So it's entirely possible that several more companies beyond these 18 will also result in a liquidity event.
It's also possible that still more liquidity events will come from the 21 startups that did a fifth fundraiser - and from companies in earlier rounds.
That 18% rate should go well above 20%.  No Lost Cause
Nor should you write off the remaining 80%. While those companies may have stopped short of an IPO, that doesn't mean they haven't grown into a self-sustaining or even profitable business - ones worth a lot more today than they were a few years back.
The problem isn't one of worth. It's that you're stuck in an illiquid market.
You simply can't sell these shares.
It's one of the most frustrating aspects of buying private shares so early.
On the other hand, I believe this problem is only temporary.
A secondary market where private shares of startup companies are bought and sold is already up and running. It's small and not easily navigated, but that will change.
Sites such as MicroVentures, SharesPost and SecondMarket are already offering these secondary shares to an increasing number of investors.
Yet another reason not to dismiss that 80%.
That said, the bulk of your profits would still come from the 20%-plus liquid events.
So with this in mind, let's see if we can determine how many companies you should hold in your startup portfolio to maximize gains. |
| The Ideal Portfolio Size
We've already seen that 174 startups beginning to raise funds in 2009 yielded 32 winners so far. Let's start cutting that number in half...
If you select 87 companies from the 174, you should get 16 winners.
Cut those startups in half again - to 44 companies - and you should end up with about eight winners. But, remember, your universe of companies is shrinking. And the smaller it gets, the more that luck plays a factor.
Moving on...
Eleven companies should give you two winners. Five: one winner.
But be careful here. At such low numbers, you're tempting fate.
Whatever the ideal number is, it needs to be higher than 11 or five.
Entrepreneur and investor Simeon Simeonov agrees. He took an initial stab at this question and came up with this chart...  Just as I thought, a five-company or 10-company portfolio fails to give optimum returns.
But investing in 25 to 100 companies does, generating just over 4X returns.
What happens past 100 holdings? I don't know.
Entrepreneur Dave McClure's company (he used the above slide in a presentation) 500 Startups has made 774 startup investments in 628 companies. He presumably thinks the more holdings, the better.
But even McClure can't know for sure.
My advice to you? Try to build a portfolio of at least 25 companies.
If the sum you've set aside for startups isn't enough, then I strongly suggest investing in startup funds. Most accept a minimum as low as $10K.
They'll get you to your desired portfolio size cheaply and quickly, and you don't have to compromise on quality.
At Startup Investor, we're offering such funds to our members and we're doing significant due diligence to make sure that only top-tier startups are selected.
Either way, the ideal-sized startup portfolio should be within reach of many everyday early investors.
All it takes is a little planning. That and knowing how to select the right fund manager.
Watch for more on this important topic in future articles.
Good investing,
Andy Gordon
Founder, Early Investing
P.S. We are excited to announce that membership to Startup Investor is now open for a limited time. We're recommending a special fund with up-and-coming companies poised for explosive gains. Click here to read more about this exclusive opportunity.    
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