That Friends and Family Round of funding… we’ve all heard we need it, or that that’s where founders start; but are so many really raising money from family? Let’s cut to the chase, overwhelmingly most founders can’t look to family for financial help and so how should we really think of drawing capital from loved ones?
Why You Should Not Raise Money from Family
90% of all businesses fail. Period. The odds that you’re an exception are so outside any other gamble that you’re insane if you think you’ll succeed. Please appreciate that. Entrepreneurs and founders KNOW they will fail. We’re in the business of failing again and again and again, putting money to work, to uncover the few NEW things that will create opportunities and jobs.
Starting a business is NOT a stable career path for ANYONE who isn’t able to handle the failure and loss of capital.
Do not let the success stories, encouragement, and wealth created mislead you… those are the pop culture stories that we want to celebrate, highlighted from among the countless of others that are struggling, failing, and losing money, because they’re inspiring.
Why should you NOT raise money for a business from family?
Because money into new businesses, particularly startups, is more accurately R&D or investment in education/experience.
It is NOT investing in Wall Street or a Rental Property.
If your family is ready to SPEND the money, lose it, so that you can try, learn, and get some experience. GREAT! If they want their money back or you believe you’ll be able to get it back to them, STOP. FULL STOP.
Now, don’t get me wrong… Why should you raise money for a business from among family?
Because that’s still what overwhelmingly most do. Sort of.
The odds of your getting money from anyone else to start something, are so infinitesimally small that society is really misleading people by promoting so much the idea of fundraising.
You will not get funding.
No, granted, not literally, “You won’t get funding, ever.” You might, some day. I’ve raised money. People do raise money. People get grants, bank loans, and investors for business.
The thing to appreciate it that it is NOT common; it’s in fact very rare. And almost NO ONE gets funding from anyone to start out. Heck, I’ve had some success but I doubt I could just get funding to start something new… Elon Musk could, most of us can’t.
You should raise money from your family because that’s how it’s done. Mostly.
What people aren’t really taught about starting a business is that your sources of capital actually look like this, in order of how likely and when you get them…
- Your pocket.
- Your job. Start while working a job and that job pays for everything. Most do this… the idea that people have to quit or focus 100% on a new business is b.s. perpetuated by inspirational speakers and coaches who want to get paid for their advice. Almost everyone starts something while working.
- Your credit cards. No, you shouldn’t go into debt but it is what people do and from where early cash comes.
- Family. Having gotten going, we get help from family.
- Customers. Known as bootstrapping, most businesses get going because people pay them. Notice, we’ve still not “raised money” (have you done all this yet?). Everyone bootstraps. The other misleading advice in today’s society is that “bootstrapping is better” or some such. EVERYONE bootstraps. We ALL are bootstrapping, until some aren’t. No one gets money to start meaning we all bootstrap until some are able to do otherwise.
- More formal debt… bank loans or second mortgages. Absolutely don’t do this until you’re making some money. Good chance you shouldn’t do it at all but here’s where it fits in the spectrum.
- Business partners. NOT Angel Investors. NOT business investors. You first get some other capital from others by making them partners/co-founders so that you’re not footing all the costs yourself. (Notice, we’ve STILL not raised money).
- Angel Investors OR Business Investors depending on what you’re doing. Most likely in the form of a note first (convertible debt) rather than an investment. These two investors are NOT the same.
- An Angel refers to the person who knows your industry, wants to pay it forward, and is investing in ownership of something new (startup). They know they’re likely to lose their money.
- A Business investors refers to the personal also at this stage but that person who behaves differently. They want to see revenues, customers, and cash flow. They want more security and assurance that they’re investing in a “Business” not a “startup.”
- That distinction is important to make with people because way too many people with money will say they are startup/angel investors when they’re really just business investors who say they’re angels because you’re early and it sounds cool. Make sure they (or you) distinguish between them!
- Venture Capital. My answer is already long and you’re not here yet so we’ll leave the bullet points at this so you can explore this stage and more when appropriate and desired.
Why should or shouldn’t someone raise money for a business among family?
- You should because that’s what most do and you really don’t have any other sources other than yourself when you’re starting out
- You shouldn’t because they’ll lose the money. Slim chance they won’t but odds are they will.
Make sure everyone involved is involved for the right reasons and fully aware of what’s likely. Your family is there to help, that’s part of what “family” means. If they’re investing in your business to make money, do the right thing and say, “No thanks.”
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Really good answer. Thorough and correct, with proper respect for the realities and tradeoffs. I was asked to answer, but this is perfect.
What that man said. Any more and I would f*ck it up. Great answer!!!!!!
I really dislike this question. It’s like asking, “should I marry my girlfriend?” to a bunch of strangers. Sure, we can give guidelines, but there antipatterns all over the place.
Every situation is different and those differences matter for making good decisions. Family member finances, risk awareness, relationship dynamics, precedent & history, idea viability, relevant education, founder guilt upon failure, etc. A wealthy ex-CFO relative giving <1% of net worth to help a founder buy yarn for an etsy store is very different than your middle class aunt Sallie taking out a 2nd mortgage on her home because she thinks your cordless-drill-taped-to-a-skateboard-wheel is going to make you the next Elon Musk.
However, there's a more important point for entrepreneurs who go to family as a _consequence_ of not being able to raise in traditional markets, and a reason I'm bullish on raising from professional investors (or at least getting an offer to then turn down) as early as makes sense: *Getting a check from a credible investor is passing a litmus test on you, your idea and your plan.*
If the only place you can raise money is through family, who are generally 1/ inexperienced in vetting 2/biased in your favor 3/ have poor risk awareness in the business domain, then you need to root cause that objectively before you move forward. Investors are typically far better than your Aunt Sallie at predicting whether the $25k they give you is ever coming back, let alone if they're going to get the $2.5M+ EV that makes the effort viable. If they keep walking away, you have perceived (or real) gaps in your idea, skillset, or execution plan. Until those gaps are identified and addressed you will have continued troubles building your business.
In fact love your thoughts and generally agree. Dislike the question existing but that doesn’t negate that it’s a pretty FAQ among founders and people starting businesses.
It’s your second paragraph I like best because it reinforces (and I’m bullish on raising capital as well), that it’s not just capital, it’s validation (and a more experienced and meaningful partner).
Where I’d shade my complete agreement with you though is that overwhelmingly most, right or wrong, good or bad, businesses and ventures don’t get investors. A lot of entrepreneurs don’t get that capital from family out of necessity but rather because “funding” from investors just isn’t appropriate to what they’re doing (or appropriate to their stage of starting).
You and I tend to, perhaps, look at such questions and the answers from the startup-that-could/should-raise capital point of view but the question tends to come from the 90% of businesses that aren’t in that bucket, because most businesses don’t get acquired or go public and deliver that kind of return.
Should that change? Could it change? Probably. Is it right? not necessarily. We’re not going to wake up tomorrow and have investment capital available to most that need the capital resource so until it changes, that “Friends and Family” round remains predominant for most.
Paul O’Brien This is a fair point, and after reading your comment I’ll admit I have a bias to assume these founders’ companies will all require capital markets to succeed as that’s the puddle I splash around in. Thanks for sharing your perspective.
Good point Paul O’Brien. This is the way it works today. And I believe that it includes a lot of inefficiencies that we might be able to solve in order to make the process easier, transparent and more integrated to all stakeholders that participate to that process. Startuppers usually get stuck with funding. I believe funding should become the easiest aspect of the startup process for startups that has the right to exist. Happy to jump on a call in case
Yeah I always like the idea, and want to do more with the notion, that you should be thinking of investors like customers… you want to get to the point that they seek you out cash in hand.
They’re not a resource to get you going, they’re a resource to accelerate what you’re doing.
Paul O’Brien I see things all together and investors are one aspect of the full pic. It arrives one moment where they want to invest. An example: no one wants to invest. Then I get on board Tom Cruise and I bet no one wants to stay out. What really changed in the startup? It depends on the agreement… Might be nothing.
But there is another big issue that no one speaks about: how can startuppers identity investors that operates with ethics?