Friends And Family Investment Round

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Going Public With Rule 506 The Friends And Family Round

Close Your First Startup Funding-Friends and Family Step by Step

Seed Capital and the Friends and Family Round

Many small companies seeking to raise funds for their business raise initial seed capital from friends and family. Even when raising funds in a friends and family round, federal securities laws are applicable.

Do the Securities Laws Apply to the Friends and Family Round?

Generally, under federal securities laws in order to raise capital from investors even in a friends and family round, you must register the securities with the U.S. Securities & Exchange Commission . There are several forms of SEC registration statements available to public or private companies, with the most common being Form S-1 for domestic issuers and Form F-1 for foreign private issuers. Because the SEC registration statement can be time consuming and burdensome, many companies seek to rely upon an exemption from SEC registration to raise their seed capital.

Rule 506 of Regulation D

The Rule 506 Safe Harbor

Under Rule 506, a company can broadly solicit and generally advertise the offering and still be deemed to be in compliance with the exemptions requirements if:

  • The investors in the offering are all accredited investors and
  • The company takes reasonable steps to verify that the investors are accredited investors, which could include reviewing documentation, such as W-2s, tax returns, bank and brokerage statements, credit reports and the like.

The Rule 506 Safe Harbor

How Do You Know When To Buy Out Toxic Investors

If you feel that your relationship with your friend or family member is suffering or your business because of their involvement/ investment then it is a good idea to buy them out. It is good to be aware that this possibility exists no matter who it may be. It is wise to already think how you might do this and have something in writing as well that everyone agrees to ahead of time so if the time comes you already have an agreed upon course of action.

Friends And Family Round Vs Angel Round

Many entrepreneurs setting out to found a business believe they should begin by focusing on venture capital. That, however, is a misconception: in reality, venture capital comprises only a small percentage of startup financing. For startups, there are two common sources of early-stage financing.

This article briefly describes the differences between two common sources of early-stage financing for startups.

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What To Be Aware Of In The Friends And Family Round Of Financing

by Jarom Bergeson | Oct 16, 2018 | Business planning |

Youre starting a new business or growing an existing one, and you need money most new or growing businesses do. In that situation, its only natural to turn to the people you know the best and trust the most your friends and family. Spend a few minutes on any startup finance website, and a term you will run across almost immediately is the Friends and Family Round. As the name implies, this is when the business owner hits the Family and Class Reunion circuits looking for blood relatives, in-laws, and old roommates with money to burn er I mean with a burning desire to get in on the ground floor of an exciting business opportunity!

Given how important the Friends and Family Round is, lets take a few minutes and discuss the Friends and Family Securities Exemption.

When you raise capital from friends and family, and those folks arent either:

1) Participating in the business in a material way or

2) Giving you an adequately secured or collateralized loan

Then you are selling them a security . As such, in order to stay off the enforcement radar of the Securities and Exchange Commission and state securities regulators , you will either need to register those securities with the SEC , or find and qualify for an exemption from the requirement that you register such securities before you sell them.

Lets take a quick look the most common of these exemptions:

Different Types Of Friends & Family Instruments

How this startup leveraged friends and family investment for an ...

Friends & family investments can be structured either as debt, convertible debt, or equity investments. Each have their own pros and cons. For more details on what these are, read our articles below:

Remember that raising equity at the outset will require you to agree on a valuation to know how much ownership you will have to give away. Before you agree to anything, youll have to understand how cap tables work. And to avoid suffering from excessive equity dilution, read our article here.

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Determine The Right Friends And Family To Reach Out To For Investments

As much as you may dearly love your family and friends, you want to be careful about who you accept funding from.

Firstly, you want to be positive that the person youre borrowing money from can stand to lose that amount of money, and is comfortable taking on risk by investing in you. It wouldnt be fair to you or them to take money that they need.

Second, it might be a good idea to choose family and friends who have some business acumen already. Theyll be able to judge whether they think your business can make it, and provide advice that perhaps youll find valuable. If they take an ownership stake in your business, that can also benefit your business in the long run because of their experience.

Finally, you want to be sure that the people you reach out to for capital are people who you trust will be able to separate the business from the personal. Money can make things a bit complicated for relationships, so you should be sure that whoever you raise money from can emotionally handle it as well. This is why its so important to get a third-party or some kind of formal and/or legal agreement involved to mitigate the financial side of things.

Strategies For A Friends And Family Funding Round

There are different strategies you can use to pull off one of these rounds. A personal chat with some of your friends and family is probably the most usual one. It tends to get them involved in the process. But there are other ways around this, too.

For example, think of sending out mass emails. Or get people together for an event in which you present your startup. Use social media platforms wisely, too. And there’s much more.

Be creative when you come up with your own ways of calling on your own. The most beneficial aspect of this kind of audience is that you know these people better than most.

To help brainstorm, you can show friends and family that you value their contribution in different ways. Get them personally involved in the company. Ask them for advice.

When you treat these connections right, they might come back to provide more funding in the future.

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Funding Your Business The Friends And Family Investment Round

Its exciting to find ways to fund your business. Heres how you can do it the right way and not get in big trouble with the Feds.

If you cant get a bank loan for your business, or dont want to, there may be other options you have not considered. For many small businesses that are just getting started, friends and family or angel investors are the best source of funding. However, anytime a business seeks to raise money by promising a return, then federal and state securities laws apply. For example, if you offered an ownership interest or signed a promissory note then the SEC regulations apply. Those security laws require a startup to:

  • either register the offering with the SEC and the state or
  • find an exemption that allows the startup to complete the offering without violating the law or undertaking a great deal of regulatory compliance work
  • How do businesses raise money? The answer is that they find and take advantage of common exemptions to the SEC regulations!

    TEN OR LESS OHIO INVESTORS

    This is the most common exemption, and really convenient and simple. The recipe for this secret sauce is exactly this:

    • The business is an Ohio business
    • The investors live in Ohio
    • The investors are purchasing for investment in other words, they are not trying to resell their investment

    If the above is not your situation, there are other ways to deal with investors and securities compliance.

    TAKING INVESTMENTS UNDER 506 and 506 EXEMPTIONS

    How To Ask Friends And Family For An Investment

    How to value your startup

    You might be one of those people who are uncomfortable asking the people in your inner circle for money. Asking that initial âdo you want to invest?â question is daunting.

    You might feel that you are putting people in an awkward position if they say no. It is absolutely normal to experience these feelings, but it can be necessary for the early-seed money.

    When approaching your inner circle with your startup, be confident in your delivery and show them how much of an opportunity it is. Let them know that you are not soliciting for charity.

    You need investment to get your hard-earned business off the ground. You must not take it personally if they say no. Not everyone has the same vision as you, and they might not want to be involved at all.

    Mixing business with family is sometimes an impossible situation, and other times it is the best thing that could happen to you. You should do everything possible to make this seamless for you and them.

    Most importantly, you should know how to navigate a friends and family funding round. Here are some tips when asking loved ones for investments:

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    Soliciting: The Friends And Family Investment Round Of Funding

    Can I Solicit in a Friends and Family Investment Round of Funding?

    A rising tide lifts all boats. This is a common theme that is instilled into children in my extended family. When the sister who worked harder and smarter than her other siblings gets older she wont forget her family and where she came from. These values instilled at a young age create reflexes later on in life that one doesnt even question. When someone creates an idea or opportunity they automatically turn to their family to help foster and invest in that idea without a second thought.

    One would think to themselves, If I have an opportunity to make my investors money on this idea or business opportunity, then why shouldnt those investors be my family? After all, a rising tide lifts all boats. So what can and should you do when you have an investment opportunity but you want to also comply with the securities laws?

    Do you show up at your Aunt Janices Sunday dinner, with your business plan in your back pocket, and inform her about this amazing opportunity? After all, you are her favorite nephew!

    Do you log into Facebook and message your entire family?

    The answer to both of these questions is no. The following will explain why.

    Family members should be eliminated from consideration as investors in theory. A Private Placement Memorandum is often the best way to get around this restriction. A PPM allows a company to give its investors as much information as a company that is going public.

    Why Is Friends & Family So Attractive For Founders

    For founders, friends & family is a very attractive source of capital. Indeed, because it is mostly based on trust between friend relationships and loved ones, it is often very flexible and inexpensive.

    Indeed, it isnt uncommon to see startups get no-interest business loans from friends & family.

    Yet, because friends & family isnt a standardized form of financing with clear legal documentation, its often misunderstood and can also lead to significant problems down the road.

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    Seed Financings: The First Round From Experienced Startup Investors

    The definition of a seed investment will vary somewhat depending on whom you ask. It would not be unusual for someone to refer to a larger friends and family financing as a seed financing. However, the term seed financing usually denotes a companys first round of financing from third party investors who regularly invest in startup companies. These investors are typically individual angel investors, formal angel organizations or even venture capital funds. Seed investments are usually made through a mix of equity and loans, or sometimes convertible loan notes Convertible Note Cap), simplified series seed financing documents or full Series A style investment documents . The structure selected for the investment will depend on investor preference and the availability of tax incentives, and will be influenced by the amount raised. As a general matter it is fair to say that the larger the amount raised, the more likely that the investors will use more formal and detailed investment documents.

    In such cases, it is not unusual to still refer to the securities issued as Series Seed Preferred Stock/Shares simply because the company and/or the investor want to preserve the lettered rounds for subsequent financings to signal that the company still is in its early stages of development. A common goal of a seed financing is to delay the need for the Series A financing until such time as the company can attain a significantly higher valuation.

    What Are The Advantages Of Friends And Family Funding

    A Complete Guide to Startup Venture Capital

    Friends and family funding often takes place on a much less formal basis than bank business loans, angel investments or even peer-to-peer lending from strangers.

    It’s a way to raise money at a very early stage in your business. You might not yet have a complete business plan or any proof of value, such as initial orders for stock.

    Most friends and family investors will be willing to put their trust in you to deliver on your business plan, no matter how concrete or vague it may currently be.

    Investing with friends in this way can allow you to keep full control of your business, and it can also be exciting as you embark on your new project with your loved ones along for the ride.

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    How To Make The Ask In An Indirect Way

    Avoid coming across in a way as if you were asking for a favor, but rather that you want to offer them an opportunity to gain access to an idea that has great potential for success. They will realize themselves the added benefit that they are also helping you make your company a reality.

    If you want to take yourself out of the equation to start, its best to utilize other platforms that can tell your story and reach more people in an indirect way. This could help ease any uncomfortable confrontations that might come from a direct no.

    One option is to use a crowdfunding platform, which also allows you to have the opportunity to find other people who are interested outside of your network, so youre casting a wider net when looking for those first investors.

    Use the herd effect to help rally others to back your idea after you have your first initial investors on board. People are often motivated and prompted into action when they see that others around them are already taking part. Think of ways that you can showcase this on either a landing page, shoutout on social media, or mention in the opening text of wherever you might be directing people.

    Determine How Much You Need

    Its easy to shoot for the moon when youre riding high and just getting started on building your new dream companybut one of the purposes behind a Friends and Family round is that its really meant to be just a kick-start. Rather than estimating the maximum amount of funding you can pull in, think strategically and logically instead. Build a four or six-month plan, and determine how much cash it will cost to buy all the needed inventory and assets, plus any financing you need for early-stage employees. By being very logical with your initial ask, you are in a better position to request additional dollars if the business is still going according to the plan in a few months.

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    Preparing For A Friends And Family Round

    If youre considering raising money from friends and family, there are a few things you should do to prepare:

    First, understand the various funding types. There are three common types of funding: loans, gifts, and equity. Loans are the simplest form of funding the investor gives you money and you agree to pay it back with interest. Gifts are just that gifts with no expectation of repayment. Equity investors become part-owners of your company and receive a percentage of ownership in exchange for their investment.

    Second, know how much money you need and what it will be used for. This will help you determine what type of funding to seek and what terms to offer.

    You also want to get your finances in order before creating your business plan so you can show your excellent business leadership through the numbers.

    Next, create the business plan. As mentioned earlier, this will help you communicate your vision to potential investors and make them feel confident in your ability to execute. You can find business plan templates online to get started.

    Finally, consider hiring a lawyer. This is especially important if youre raising money from friends and family because youll want the legal documents in order.

    Draw Up Terms Sheets And A Repayment Schedule

    Startup Funding Explained: Everything You Need to Know

    We alluded to this before, but term sheets and repayment schedules are formal, written agreements that you make with investors which show the conditions of the investment and how you plan to repay them back.

    You can find templates for term sheets online, but the basic components of one are who you are, what kinds of notes or stocks youre issuing, the rights that the investors have, how much theyre planning to offer you, and your valuation.

    A repayment schedule is essentially how you plan to break up the process of paying back a loan, if you go that route. You basically break down how long you plan to take to repay the principal plus interest, and how much of a monthly payment youre able to pay back.

    Having these documents ready to go will keep both you and your investors accountable, making them an important part of the friends and family round.

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