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Tips for feud-free financing from
friends and family
By Jenny
C. McCune • Bankrate.com
 Small
businesses, and startups in particular, often don't have much choice
when it comes to financing. An entrepreneur without a track record
or assets will generally self-finance through personal savings or
even credit cards.
After exhausting those forms of financing, a
fledgling business owner will often turn those who know him best
-- family members and friends.
"F&F" financing has launched many a business.
The problems that erupt if the fledgling business flops are inevitable,
but there are ways to keep it in the family and keep everyone on
speaking terms. Here are tips on how to tap your nearest and dearest
for startup capital:
- Answer the question: Can they afford to
invest in your company? If you're starting a business, be
aware of the risks involved and be sure to acquaint your potential
backers with the risks. For example, a founder of a dot-com with
a high risk of return and an even higher risk of failure shouldn't
try to borrow his Aunt Mary's retirement nest egg.
- Keep it businesslike. Ernesto Poza,
head of the family business program at the Weatherhead
School of Management at Case
Western Reserve University in Cleveland, worked with an established
family business that set up a venture fund to finance the next
generation's businesses. Though these funds were going to family
members, it was treated as serious business. "They had a review
committee where people seeking funding would have to present,"
Poza says. "Presenters needed to have business plans. Everything
was done just as if they were seeking financing from a regular
venture capital fund."
- Opt for debt rather than equity. Although
Poza's clients gave their family members equity financing; that
is, their venture capital fund received stock in the company in
exchange for its investment, the professors says that most entrepreneurs,
their families and their friends, would be better off if they
focus on loans. That's because a large equity stake may give the
investor a right to oversee the company -- whether he's the CEO's
father or she's his grandmother. "Your leadership task becomes
that much more complicated," Poza says.
- Expect more involvement. The main
reason that your friendly backers will invest in your company
is because they know and respect you. They care how you and your
business will fare. That may well translate into their desire
to help your company by staffing the counter in your retail store
or taking orders over the phone. You may well need the help, but
the point is to expect such offers. If you're uninterested in
tapping your relatives and friends to help run the business, say
so at the beginning to avoid any misunderstanding or unwanted
help down the road.
- Educate the "naive" investors. Your
family will invest in your business because they know you -- not
because they're familiar with investing or your business. Be sure
to take the time to explain the general concept of business investment
and specifically how your deal will work.
- Put it in writing. Sticking to a verbal
agreement is bound to create problems between you and your friendly
investors. That will be true whether the company takes off like
a shot -- and your backers pant for big returns -- or it takes
a nosedive -- leaving your investors to wonder how they'll get
their money back. Put the deal in writing. Include the amount
of the investment, the time period, how the loan will be repaid
and at what interest rate. It will protect you, your family, your
friends and your relationships.
- Keep them informed. You can't change
fate. Either your company will succeed or it won't. While an investor
is never happy when confronted by bad news, it's far better to
keep your friends and families apprised of your company's progress
or problems than for it to be a surprise.
Jenny C. McCune is a contributing
editor based in Montana
To comment on this story, please e-mail the
Bankrate.com editors
-- Posted: July 24, 2000
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