Starting a business is a huge financial responsibleness. When you're just starting upwards, yous'll demand some cash in your pocket to go the ball rolling. And the kickoff people yous might turn to for support are your friends and family. You might have heard of this as the "friends and family circular".

Raising capital means getting funding from others that would aid your business organization grow. You can raise majuscule from friends and family through two main ways – debt or equity. Though information technology might seem simple, there is a right way to raise uppercase from friends and family.

As well oftentimes many startups become this wrong, every bit they think friends and family are an easy first opportunity for some actress $$. But fifty-fifty when you are doing business with friends and family, you demand to treat them with the same level of professionalism as y'all would with any other investor.

In this article, we'll walk you through how to raise capital from friends and family the right way.

Debt Or Equity – Which One Is Right For Me?

Your commencement step is decidinghowyou want to raise that capital.

There are many unlike ways you can get some early greenbacks to get your business running (for a broader understanding on financing your business concern, caput over to our Finance Guide here). But when you reach out to friends or family unit, generally your options are debt majuscule or equity capital.

Debt

When you turn to friends and family for debt capital, this usually ways you're getting aprivate loan.

There are two types of private loans – secured and unsecured. Put simply, a secured loan is when you have personal or valuable assets (such as your house) that the lender takes as "security". An unsecured loan does not have this.

And while information technology might seem similar your friend or relative is lending you money in good faith, they might still have lingering questions. How much is the loan exactly? What'due south the interest rate? When will it be repaid? What happens if the loan isn't repaid?

To make certain you're doing information technology right, and to avoid whatever bad-mannered situations or relationships later, it's improve to set the footing rules and make certain your legals are straight.

The type of contract you lot will demand is chosen a Loan Agreement.

If it is a secured loan, you might need to annals the 'security' on the Personal Property Securities Register (PPSR). You might also need a separateSecurity Agreement.

You can find out more about loans here.

A loan is a great selection if you can afford making repayments and accept friends and family who'd be happy to lend you money. Information technology's specially expert if you desire don't want to give away too much equity too soon.

But, for about startups and minor businesses, this isn't the case. Many founders cannot afford making repayments, and many aren't willing to expose their personal avails as security.

This is when disinterestedness might be a more than attractive option

Equity

Equity raising is when someone invests in your visitor in return for office buying or "shares" (even if you aren't actually making any coin yet!). At that place are also variations of disinterestedness, such as the "Condom Note" introduced by Y Combinator in 2013, or the more traditional "convertible notes" which nosotros wrote almost here.

Equity might sound like a win for startup founders: getting cash in their pockets now without having to pay it back. But, it has its own risks. It means you are giving away office ownership of your business. While giving away 10% of your business organisation might seem like naught now, this ten% could be worth $1 million in a few years. And that's $1 million you could have kept.

This is why equity raising is an attractive opportunity to investors: it might be high risk, merely a potentially large win for them in the long run.

As you lot can run into, equity raising comes with its ain risks and benefits for both startup founders and investors. So if you've decided to go alee with raising equity capital from friends and family, it'south important to do it correct.

And then what's involved in raising equity?

Pace 1: The Pitch

When you first approach friends and family unit for disinterestedness capital, y'all will need to showtime as you lot would with whatever other investor: with a "pitch".

In startup lingo, a "pitch" is when y'all lay out your business idea, what trouble it's solving and where you run into it going in the future. This is how y'all convince them to put their money in the growth of your startup.

And so, before you do your large pitch in forepart of friends and family unit, you'll need three things.

First, you'll demand a "pitch deck" – a presentation of unproblematic, captivating slides that would sum up your pitch and appeal to your friends and family.

Second, it'southward e'er a good thought to prepare a pack of documents, which includes whatsoever financial or industry evidence that would support the viability of your business organization thought. These documents requite your pitch brownie and reassure your potential investors that you aren't over-valuing your startup.

Lastly, you'll need a Term Sheet. The Term Canvas substantially sets out the key terms of the investment. When requesting investment from friends and family, they might be request questions like: how much ownership do I get in return? What relationship will this mean in the long run? How do I know my coin is beingness well spent? A Term Sheet is your opportunity to answer these questions for them.

Having these three documents prepared for helps investors see that you've really thought about this and how information technology would work going forward, making them confident that they're putting their money into a real business relationship.

And, if you desire to be extra cautious, it might exist a good idea to recall about having a Non-Disclosure Agreement (NDA) in identify earlier you start discussions with investors. This helps protect whatever confidential information that you disclose during your meetings (but be careful to only employ an NDA in the right situations!).

Step 2: Getting It Down In Writing

And so you've pitched your business to your friends and family and they're dandy to become on lath equally investors – great!

What'south side by side?

Now, y'all'll demand to think nigh your legals.

To make sure you lot're fulfilling all your legal obligations to your investors, you need three types of legal documents:

  • A Shareholders Agreement
  • A Share Subscription Agreement
  • IP Assignment Deed

Sounds like a mouthful, but don't stress! Nosotros're hither to unpack information technology for you.

Once your friend or relative has come on board with part buying of your company, they are officially a "shareholder".

This is always an exciting opportunity, but y'all want to make certain you're both on the same page with how this new relationship will work:

  • How are decisions fabricated?
  • What happens when a shareholder wants to leave the visitor?
  • What happens if there is a dispute?

Fifty-fifty if you're in business with friends and family unit, having ground rules is e'er salubrious for the relationship and business organization, peculiarly as your concern grows and the stakes become higher.

Which is why you need a Shareholders Agreement.

A Shareholders Agreement is an important contract between business concern owners that covers matters from share ownership to the procedure for issuing new shares, the payment of dividends, and how to resolve disputes.

If at that place is already an existing Shareholders Agreement, it's a proficient idea to check whether the existing Agreement needs to be reworked to the needs of the new shareholders.

Side by side, you will also need a Share Subscription Agreement. This is a dissever contract under which a new shareholder (or the "subscriber") is issued shares. A Share Subscription Agreement outlines the promise made by a potential shareholder to contribute funds in return for equity in your company. Specifically, it will gear up out the number of shares to be issued, whatever vesting conditions, the timing of the share outcome and the price of the shares.

In most cases, it would be fine to provide a Share Subscription Letter (which is all the same legally bounden!). But for more sophisticated investors, they might be after a more than comprehensive Share Subscription Agreement – a longer form contract with extra protections for both sides.

Finally, y'all'll need an IP Consignment Human activity. Often, this tin can exist included in the Shareholders Understanding, simply it works fine as a separate document too. In any business, it's important to protect your intellectual belongings (IP). This includes anything from branding to products and everyday know-hows of your business.

An IP Assignment Human action makes sure that any IP assets are owned by the company and y'all're making sure that value is created in the company. You don't want to later find out that some key IP is individually owned by a shareholder!

What To Take Away…

So we've given you a quick lesson on the 2 types of ways friends and family can help your business go on its feet – debt and disinterestedness. But, it'south important to brand sure these arrangements are put down in the advisable legal documents.

Why?

Fifty-fifty if they are your friends and family, it is ultimately a business relationship then it'south e'er a good idea to make sure you're both on the same page. Having the right contracts in identify will aid avoid any disputes nearly what terms you both agreed to, and can aid avert many awkward situations in the future. This fashion, both you and your investors volition have clarity and confidence in your business relationship.

When your business eventually grows, the last affair you want is a messy situation where you and your shareholders clash because you don't accept whatsoever solid agreements in writing.

Raising majuscule from friends and family the correct way means you have a professional business organisation relationship, both sides are kept happy and you tin can attend those family barbeques without awkward questions.

Nonetheless don't understand what all the dissimilar legal documents mean? Or need help getting your capital investments down in writing?

We're here to assistance! Our friendly squad can set you up with a consultation with one of our corporate lawyers to suggest you on your next steps, or we tin get started correct away on your legal documents.

You lot can reach our friendly team at 1800 730 617 or driblet us a line at team@sprintlaw.com.au for a gratuitous, no-obligations conversation.

Regie Anne Gardoce

Regie is a lawyer at Sprintlaw, with a law degree from UNSW. Regie has previous feel working beyond law firms and tech startups, and has brought these passions together in her piece of work at Sprintlaw.

Tomoyuki Hachigo

Tomo is the co-founder of Sprintlaw and a commercial lawyer with a broad range of legal experience. Before starting Sprintlaw, he was an One thousand&A lawyer at a top-tier law firm advising businesses of all sizes from large corporates to startups.

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