When you get an amazing business idea, it’s normal to get excited. But to get the business off the ground requires sufficient funds if you are ever going to realize your dreams. In the recent years, the funds needed for getting a startup off the ground has increased.
As such, entrepreneurs have a difficulty getting the necessary capital for a business considering that new business owners don’t have sufficient credit scores and collateral to qualify for traditional business funding.
If you can’t access funds from a bank or any other source, it doesn’t mean you should throw in the towel. There a lot of startup owners who have asked their family and friends for startup funds. After all, this option tends to be better than getting the money from banks and private investors because there is an element of trust. In addition, you stand a better chance of getting funded within a short time without being subjected to a painful borrowing process.
Nevertheless, this option is not without its downsides because if the startup doesn’t perform as you had planned, you may have some difficulties when paying the borrowed money. As a result, this puts your relationship with friends or family members at risk. In this article, you’ll find some useful tips to help you navigate this borrowing option and ensure your relationships are not affected.
Be realistic and exact on how much you need for the business
As far as borrowing is concerned, one of the worst mistakes you can do is asking for a higher amount or lower than you need. Instead of guessing a figure, ask for an amount that will help you achieve some critical milestones in your business plan.
To illustrate, if the funds are intended to help you buy some inventories, calculate how much you’ll be spending in a month and ask for an amount that can last for three months. Then, calculate the amount of revenue you expect over the next few months. If you can demonstrate your ability to repay the money quickly, you stand a better chance to get more funds in the future. At the same time, it is important to update your financier about your progress and how you are spending the funds.
Be careful when choosing the financier and demonstrate your passion
When seeking business funds from friends or family, you can’t turn to the first person who comes to your mind. Instead, you should choose someone who has sufficient business skills and understands the risks and perks of business loans. Even when you have laid down great plans for the business, there is still a possibility of failure and if this happens, you won’t have the money to repay the realistic loans which can hurt the relationships. As such, get the money from someone who is understanding and has faith in what you want to build.
Almost everyone has a business idea but very few people have the capacity to demonstrate the viability of the idea. Before you approach anyone for funds, conduct an extensive research about the niche you want to enter and make sure your idea is viable. If you want to appear professional, take your time to prepare a business plan that shows you’ve done the necessary research and you know exactly what you want to achieve.
Plan the pitch and lay out the risks involved
When you are having a conversation about the business with people who are close to you, it is likely that your approach will be casual. But you should remember you are talking about money and this is a serious issue. In your pitch, present solid reasons why you should be funded and also talk about your repayment plan.
If you’ve had success previously, use this to convince them and show exactly how their investment will help get the business going.
Honesty is important when borrowing from relatives. As such, be open and encourage your prospective financier to ask questions regarding how the funds will be spent as well as the progress of your business. While it’s not easy to explain to your financier that your plans are failing, it’s better to be transparent than let them discover that you are hiding information.
Before you take money from family and friends, it’s your duty to make sure they understand all the risks involved in your business. Different businesses have different risks and they are determined by the business industry, the amount borrowed, and the length of time you’ve been in business.
Offer equity and lending options to the prospective financier
Some people will prefer equity in your startup while others just want to lend you money and get it back after some time. If they prefer equity, you have to allocate them a certain share of the business. As such, you will be sharing any profits or losses that your business is making. This also means that you don’t have to repay the funds just in case the startup goes under. The only exception is when investors have a guarantee on their funding.
Generally, most investors eschew risking anything but the funds they have contributed. If you have a sole proprietorship and you invite an investor, the business will automatically become a general partnership. As per the law, general partners bear responsibility for any debts incurred by the business. However, you can use different structures to protect an investor from bearing excessive risk.
If you register the business as a corporation, your investors become shareholders and as long as they don’t participate in business operations, their liability is limited to the investment. In a limited partnership, any partner who isn’t involved in the active business management bears no personal liability. On the other hand, a limited liability company doesn’t hold the innocent members responsible for debts.
Before you offer equity in your business, you need to carefully consider the consequences of such an arrangement with your relatives or close friends. While some people can offer great benefits as business partners, others will bring unnecessary complications in your entrepreneurial journey.
Draft an agreement and address the repayment plan
While you may be on good terms with your friends and family, it is important to remember that you are getting into a serious business transaction. As such, make sure you have a formal agreement that places involved parties in a mutual understanding. This document elaborates the terms of the loan, expenditure, and progress monitoring and repayment plan. Most importantly, it stipulates the roles of involved parties to ensure there is no conflict along the way.
If you’ve offered equity in your startup, the agreement should outline all the risks that come with the investment. This ensures that investors understand exactly what to expect.
Unlike when you are borrowing from traditional or online lenders, funds from family and friends come on friendly terms. Normally, these loans are flexible because you can agree on a custom repayment plan that suits your business finances. In addition, you will be getting a lower interest even when you are not required to present any collateral. As long as you can be diligent when asking family and friends for startup funds, you can get a friendly loan to jumpstart your startup.