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How To Raise Friends & Family Financing In 6 Steps: Complete Guide

Friends & family is one of the most common source of financing for many startups: 38% of all startups raise friends & family money. So if your startup to raise pre-seed and/or seed money, friends & family might be for you. How to raise friends & family? What are the different instruments available? How to structure a friends & family deal?

Note: this article follows our article on friends & family financing: Should You Raise Friends & Family Funding For Your Startup? which explains what it is, its pros and cons, and whether it’s for you. So if you haven’t read it yet, make sure to do so.

In this article below we’ll go through 6 steps you must follow if you want to raise friends & family financing for your startup. From the amount, the financial instrument you should use and the percentage ownership you might have to give away, we’ll tell you everything you should know about structuring your friends & family round.

1. Assess How Much You (Actually) Need

Entrepreneurs sometimes overlook this important point as they wrongly think raising more is always better. It isn’t.

This is very important as it demonstrates investors you have done the work in preparing your financial projections. As such, you are a clear idea of where you want to go, and how much you will need to get there. You also understand what is your runway, breakevencash burn and all these sorts of things investors will ask for.

For more information on how to assess much you should actually raise (and why more is not always better) check out our article here.

2. Choose The Right Instrument

The second step is to choose the right instrument you will use to raise friends & family financing.

As discussed in our article here, friends and family are the most flexible type of investment you can get as a startup.

Therefore, there are plenty of choices to choose from. First, you should ask yourself: are you looking to raise debt or equity? Both come with pros and cons that you need to be aware of.

Whilst debt will ensure you keep control of your business, it also means you’ll need to repay the loan at some point in the future. As you know, startups are often cash poor in their early days, therefore it may be a deal breaker for you as a founder.

With equity, in comparison, no need to repay the investment. Instead, you agree with investors on your business’ valuation to determine the percentage ownership you will have to sell as part of the round.

Fortunately, there’s a third option: convertible debt. It has become a very attractive form of financing for early-stage startups over the past few years. Indeed, convertible notes combine advantages from both equity and debt. See more about the different types of convertible debt that exist (+ templates) in our articles on SAFE and KISS notes.

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3. Determine A Valuation

Unless you’re raising standard debt, you’ll need to prepare a valuation for your business.

  • If you raise equity, you will need a valuation to know how much you need to give away to the investor(s) coming in
  • If you raise convertible note, you won’t need to agree on a valuation with your friends & family investor(s) today. Yet, as a founder you will need to get a clear idea of valuation to set a valuation cap that makes sense in your convertible note term sheet. For more information on what caps are and how to set up a cap that’s best for you, read our article here

How to value a startup?

There’s a number of methods you can use to assess a fair valuation for your startup. All methods will require you to build financial projections for your business.

Whilst we won’t discuss how to value startups as part of this article, make sure to check our free resources below:

4. Prepare A Term Sheet

When structuring your friends & family round, choosing the right type of instrument you need isn’t enough. You must also include legal clauses in your legal agreement that define the terms of the investment and what should be done in case some scenarios occur.

The agreement content and structure will depend on the type of instrument you would have chosen. For example, convertible notes can be as short as 2 pages.

To know what you should include in your legal agreement, use financial terms and clauses that are typically included in term sheets by experienced investors. See our article on term sheets (+ 2 free templates).

We strongly recommend you include clauses that will protect you as a founder in case things don’t go as planned. Governance, control, exit and liquidation clauses are some examples of terms you want to define upfront, whatever amount you’re raising.

Setting up in a contract what should happen in hypothetical situations (such as the sale of the company or even bankruptcy) will ensure there is no misunderstanding if these events happen.

This will not only save your relationship with your friend or family member, but also avoid potential future investors to back away from the deal. Indeed, angels and VC funds are very reluctant to invest in startups where previous investors’ terms have been loosely defined, or worse, haven’t been defined at all.

5. Prepare Your Pitch Deck

Before you actually reach out to your inner circle, you will need to prepare your startup’s pitch deck and financial projections. Of course, some of your connections will not require a lot as the investment might be only subject to trust.

Yet, preparing a solid pitch deck will give a edge to convince the people who otherwise might have not agreed to invest first.

Create Your Pitch Deck

There are countless companies, now worth billions of dollars, that raised Series A in the 2000’s and early 2010’s with unstructured and/or poorly designed pitch decks. Unfortunately for you, this doesn’t happen anymore.

Indeed, over the years, VCs have become more and more stringent when it comes to pitch deck.

Make sure your pitch deck looks concise, structured and visually impeccable. If you need help to build a pitch deck for your startup, have a look at our articles below:

Need a Pitch Deck?

Build Your Financial Projections

Your pitch deck will need to include your financial forecasts. Generally, 3 years of financial forecasts are enough for most seed investors, but you can opt for 5 years as well.

Founders sometimes overlook the importance of their financial projections. Be careful: they aren’t a mere tick-the-box requirement. Also, the fact you’re early stage and the future is by nature very difficult to predict isn’t an excuse not to have rock-solid financial forecasts for your startup.

Read our articles below for more information on financial projections and how to build yours:

Need a financial model?

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6. Get A Lawyer

Once you have agreed on a term sheet with your investor(s) – and again, friends & family investment terms can be on case-by-case basis – you will need to make sure your legal agreement is in good shape and there are no blind spots.

Unless you’re a lawyer yourself, we strongly recommend you hire a lawyer to either advise, write and/or review the final document.

It done correctly, if shouldn’t take a lawyer more than 2-3 hours to go over your existing cap table, and the proposed term sheet for your friends & family deal.

A lawyer will be able to advise you on potential red flags but, more importantly for friends and family rounds, a lawyer will make sure you have included all the necessary clauses that will govern what to do in cases things don’t go as planned.