Funding a Business from Friends and Family 3

If I could make a point with budding entrepreneurs, it would be that you should know what money you need and understand that it is at risk. Don’t bet money you can’t afford to lose. I’ll always remember a talk I had with a man who had spent 15 years trying to make his sailboat manufacturing business work, achieving not much more than aging and more debt. “If I can tell you only one thing,” he said, “it is that you should never take money from friends and family. If you do, then you can never get out. Businesses sometimes fail, and you need to be able to close it down and walk away. I wasn’t able to do that.”

The story points out why the U.S. government securities laws discourage getting business investments from people who aren’t wealthy, sophisticated investors. They don’t fully understand how much risk there is. Although you don’t want to rule out starting your company with investments from friends and family, don’t ignore some of the disadvantages. If your parents, siblings, good friends, cousins, and in-laws will invest in your business, they have paid you an enormous compliment. In that case, make sure that you understand how easily this money can be lost, and that you make them understand as well. Go into this relationship with your eyes wide open.

Words of warning
Don’t take private placement, angels, friends and family as good sources of investment capital just because they are described here or taken seriously in some other source of information. Some investors are a good source of capital, and some aren’t. These less established sources of investment should be handled with extreme caution.

Never, NEVER spend somebody else’s money without first doing the legal work properly. Have the papers done by professionals, and make sure they’re signed.

Never, NEVER spend money that has been promised but not delivered. Often companies get investment commitments and contract for expenses, and then the investment falls through. Avoid turning to friends and family for investment, especially in desperation or in moments of crisis. The worst possible time to not have the support of friends and family is when your business is in trouble. You risk losing friends, family, and your business at the same time.

About the Author Tim Berry is the founder and chairman of Palo Alto Software and Bplans.com. Follow him on Twitter @Timberry. Follow Tim on Google+ Read more »

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