Friends and Family Round: Pros and Cons You Should Know

While purchasing an existing business allows you to skip some of the legwork associated with a startup, it does not exempt you from one of the major hurdles in starting or buying a business – funding! One common yet controversial place that many entrepreneurs turn to is those closest to them. Before you ask family members to support your business venture, find out friends and family round pros and cons to determine if it makes sense for you.

Is Friends and Family Funding Right for You?

Most new and growing businesses need money. And, when you find yourself in need of cash to buy a company or provide working capital, it’s natural to consider turning to those closest to you. While there are pros and cons to every option for financing your business, there are some unique (and personal) implications with friends and family members funding your venture.

Benefits of a Friends and Family Round

In terms of your funding options, reaching out to those closest to you offers a pretty low barrier to entry. If the business you’re starting or buying doesn’t have a great financial record, these rounds can be easier to achieve than a traditional SBA or bank loan. There are several benefits for both you as the business owner and your investors.

1. Smaller Amounts = Smaller Risks

A company in the early stages can be too risky for a bank or angel investor to get involved. But, the limit of your funds from bootstrapping exists. Friends and family who want to see you succeed often invest a smaller amount than the big fish. They see an opportunity to get in on the ground floor, and because the amount is lower, there tends to be less risk for them as well.

2. Less Complex Vetting Process

On that note, it’s also often less about your business plan and more about your leaning into your relationships. Your in-laws, college roommates, siblings, and friends are more likely to consider your character, their trust in you, and whether or not they believe that you can succeed at this new venture. This means less convincing than you may need to do with more professional investors.

3. Potential for No Debt

Depending on how you structure your funding, there may be less risk for you as the business owner. Entrepreneurs can handle repayment in several ways. You may decide on an agreed interest rate, offer an equity stake in the company, or agree on another form of return.

4. A Healthy Support Network

In addition to cash, a funding round from your personal network often puts those closest to you closer to your business. As we mentioned above, they’re usually involved because they care about you and believe in what you’re doing. This makes them likely to be powerful advocates for your small business.

Cons of Friends and Family Fundraising

Like every funding option, there are cons to consider. Many of the challenges of choosing friends and family round of financing are the flipside of the benefits outlined above.

1. Risks to Your Friends and Family

Unlike money from an angel investment, crowdfunding, or a business loan, there is personal entanglement when accepting money from those you know and care about. Family investors may not be as savvy as the professionals and may not realize the reality of the risks they’re taking on. Even if the amount of money per investor is less, it doesn’t necessarily mean that their risk is smaller.

Stay aware of who and where the money is coming from. What are their motivations for getting involved? Are they in a comfortable position to offer you that amount of money? If your venture fails and the money is lost, will it cause your investors harm? These are all important things to think about with this type of funding.

2. Relationship Issues

On that note, money can cause serious arguments between those closest to us. Miscommunication, failure to meet expectations, and bad blood can sour even the closest bond.

3. Close Critics

Your network can also include some of your harshest critics. Your family investors have some skin in the game with an equity investment. They may feel it’s their place (or even duty) to help with decision-making and running your business. This can create some delicate and potentially sticky situations.

4. Potential for Legal Issues

Family rounds tend to be more informal arrangements than other funding options. Still, it’s essential to follow the formalities you would use with other lenders. Contracts, promissory notes, and negotiated term sheets will keep you, your business, and your investors protected.

Friends and family investors offer one of the easiest ways to get cash quickly, but it’s not without risk. As you get closer to purchasing a business, you’ll want to ensure your financial situation is taken into account and your funding options are in order. The professionals at Sunbelt Business Brokers can help you prepare. Contact your local Sunbelt office to get more information on the pros and cons of different funding setups!