By John Finley, Managing Director of CLEVECAP LLC
Entrepreneurs are a different breed: they love the excitement of starting something new and promoting it. But finding cash to grow their business can be very challenging, especially if the entrepreneur doesn’t have extra cash lying around.
Today’s topic is how to identify friends and family that might become investors and how to approach them.
The term “friends and family” starts with the word “friends” for a reason: you can assess a friend rationally, and friends can make rational judgments. “Family” always has an element of emotion on both sides—more so than with friends.
Any investor needs to fit several criteria:
- They must understand the business you are going to be in.
- They must agree with the opportunity for the business.
- They must be able to invest, otherwise they are just curious about your business.
- They must trust your judgment and experience in developing the business.
Criteria 1: In my experience, it is important that investors clearly understand your business. When things go wrong (and they will) you want your investors to be able understand why something went wrong, so that they don’t simply say, “It’s all your fault.” Obviously, someone who has been in a similar business will have the experience to offer useful advice when things go wrong.
Criteria 2: Investors must understand the business opportunity and the likelihood of a successful return on investment for them. When you present to a potential investor, you’ll need to tell them how they will make a return, whether it is by selling your company, licensing your idea to someone else, paying out dividends from your profits or making their ownership tradable to other investors.
Criteria 3: Potential investors must have the ability to invest—they must have sufficient extra cash and the risk tolerance to let their money be tied up in your business for an unspecified amount of time. You do not want to waste time with potential investors who are simply curious! Assessing a potential investor’s ability to invest will be the subject of another blog.
Criteria 4: For an investor to be comfortable—and to make the investment comfortable for you—the investor has to trust your judgment based on your experiences in the past.
The task of finding and qualifying investors is an art, not a science! I’ve developed a few questions that I ask myself when approaching friends and family:
- Your friend (or family member) appears to be financially successful. Did they make money in a similar business or industry? If not, why are they interested? Is their interest just curiosity or actual experience that might be helpful?
- You have told the potential investor that you intend to sell your app to Facebook or Google. Do they have the ability to assess if this exit strategy is reasonable? Can they judge from their own experiences how long it will take to get Facebook or Google to bite?
- Can you guess how much money would be a comfortable investment by your friend or family? Targeting too much is an immediate turn off to the investor, while targeting too little can send you off looking for investors you don’t need!
- Why does the investor trust you? If the trust is based purely friendship, you’ll have a challenge when things deviate from plan.
In one of my businesses, I raised $6 million from about 100 investors (on average, $60,000/investor). All of the investors are friends, except my son who became an investor several years after the company started.
To find these investors I met with 2,000 people individually, and only 100 became investors. That’s 20:1, so finding friend and family investors can take lots of effort. On the positive side—with very few exceptions—they are all reasonable, patient and encouraging. These are qualities you the entrepreneur want in your investors.
CLEVECAP helps business owners, company managers and entrepreneurs grow and sustain their enterprises with experience in finance, marketing, product development and operations. For specific help or a confidential assessment, please call John Finley on (303) 204-5375 or email at firstname.lastname@example.org.