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Why Startups Should Be in Every Portfolio

Why Startups Should Be in Every Portfolio
By Adam Sharp
Date December 3, 2019

If you’re a regular Early Investing reader, you know that I believe we’re heading into another recession in the next few years.

It’s been a decade since the last recession. And frankly, nothing has been fixed since that one. The Fed just loosened up monetary conditions and kept interest rates near zero for a decade. It papered over the problems with more debt.

Global debt has soared to $255 trillion (including corporate, household and government debt). That’s more than $32,000 in debt for every person on the planet.

So it’s a great time to invest in startups.

I believe software-driven startups are going to pull us out of this mess. As many of the overly indebted incumbent companies start to falter, opportunities will open up in countless industries.

Software-driven startups will capitalize on these new opportunities. The startups that succeed will grow at incredible rates and gobble up huge chunks of market share in valuable industries. They will conduct business far more efficiently than their predecessors. They won’t set up untenable pension systems. They’ll have excellent software capabilities. And they will be very lean when necessary.

Of course, when the recession does come (and it will), things will likely get ugly for a while, even for outperforming startups. Valuations may fall temporarily, and money may become hard to access.

This is why I’m a strong believer that a significant portion of your investments should be in “bootstrapped” companies. These efficient founders have shown that they can successfully grow a business without raising much, if any, capital.

Great bootstrapped opportunities don’t come along too often. But there’s a spectrum of lean startups. We should seek out and invest in the leaner, more capital-efficient startups.

Right now it’s still fashionable to invest in big-spending, fast-growing startups. But this trend has already begun to change. Startups that raised billions and went all-in for growth, like Uber and WeWork, are starting to realize this may not have been the best long-term strategy. Now they’re stuck with large companies that don’t have a lean bone in their corporate bodies. They’re losing billions of dollars, with no clear path to profitability.

But leaner, more efficient startups aren’t going away. And if we are headed for a major recession, they will undoubtedly do better than the average big-spending startup.

I’m not saying you should never invest in big-spending startups. If a startup is growing quickly enough, it will always be able to get funding. So sometimes the growth rate is so fast that it’s worth taking a shot on. Just make sure that there’s a real path toward profitability in the future.

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