Over the years I have funded startups and have loaned money out to people. Sometimes I made a lot of money but sometimes I got burned. These are my rules I put together after my Experiences. Like all business you can’t get emotional about this, even if your best friend has a great idea that’s going to make millions. Just like in real estate stick to the rules and be logical about it.
- Who is on your Board of Directors
Don’t be the most sophisticated investor in this business. Make sure the board members have experience in this type of business or in similar ventures. A plus is that they have skin in the game as well. They invested their capital in this and are seeing it through. You really don’t want a rag tag group of investors that think this is their big shot at getting rich, and this is their only chance. Make sure these are professional people with track records or that add something to the business. Legal advice, sales skills, etc.
2. Who is your Lawyer
If they plan on having any kind of sizable operation that scales they are going to need to be using a lawyer. Contracts, patents, and general legal advice will be needed throughout the growth of the business. If they don’t have one or don’t need one it’s probably going to be too small of an operation.
3. Who is your CPA
Same as the lawyer. They will need tax advice throughout the operation to bring it to scale. There are so many tax strategies you can use depending on the business. From plant property and equipment, to tax harvesting gains vs losses for the year, depreciation, and so much more. If you have questions about the business call their accountant or lawyer. They should actually have one of each on their board.
4. Just look at them
Take it all in, look at them very seriously. Do they look away when they talk to you? Or do they maintain eye contact. How is their posture? Do they bite their nails? What kind of clothes are they wearing? The watch their wearing. These are all tells. If they’re hurting for money and are shy or desperate do not give them money.
Or do they look like a person who has their life together. Do they speak properly, stand up straight, clean shaven, confident, straight forward when speaking, and knowledgeable. Intuition is usually right or gut feeling as it’s called. If you just don’t feel it, then pass. No matter whose feelings get hurt.
5. Do they have a day job they hate
This is a very good one. I was pitched a business by someone that I knew hated their job, and was miserable there. Everyone wants to get out of their day job and live their dream. But don’t let them do it with your money! I knew if I gave this guy my money it would go right to his bills and not to the struggling business. Don’t bail them out of their day job.
6. Are they Poor
Money doesn’t matter but it’s the only thing people keep track of.
If you’re so good in this field why are you poor or struggling? They will say they put all their time and money into starting this business. But you need to make sure they have somewhat success in their life, and aren’t spending their money on unnecessary things and can actually manage their money properly.
7. Experience background track record
What has he done in his past career? Go over the milestones with him. Drill down and ask details of his career. Look hard to see what he is hiding. Get him to open up about his long-distinguished career. This is to make sure he is credible in everything that he says. If you’re drilling this person about his experience and he’s not looking you in the eye, stuttering, or nervous, this is probably an indicator that you shouldn’t invest.
8. Who are the other investors
Who else is investing in this project? Same as the people on the board. You don’t want to be the most sophisticated investor. If the other investors aren’t credible it takes away credibility from the project. Are the investors uneducated in business, do they have jobs they hate, and are looking for a quick buck. If the investors think this is their golden ticket to a better life this is a good indicator of how the business is going to be materialized going forward. Call them ask them their background ask them why they invested. You should get a good feel for the project based on the conversations from the other investors. They should have very good sound reasons to be investing in the project.
9. Is the Founder Willing to Sacrifice his Lifestyle to make this Business Successful?
What is he willing to sacrifice to make this business successful? Will he eat bread and rice and make the lifestyle sacrifice to achieve this goal. Is he used to a certain lifestyle that he can’t change, or is he able to tell his wife to stop taking yoga classes? Will he downgrade? This is why so many founders are young. They aren’t accustomed to a nice life style that comes with 20 years of work. They can sacrifice. If the founder can’t sacrifice and has a large family to support; that might be a good indicator that there’s too much risk in this venture. This is a personal experience that I personally got burned on. The founder used the money to support himself and didn’t put it in the business.
Ask them how bad they want it. Will they sell their house with a large mortgage on it and move into a cheap apartment? Ask them the tough questions.
10. Is it a biz or an idea
Are you being asked to invest in an actual cash flowing business? Or is this a pipe dream that somebody has. What are the plans to grow, what is the client conversation rate, how are they going to market, advertise, what is the cost to acquire a client? Ask them what their unfair advantage in the marketplace is. Ask them what’s the level of demand. If they don’t have anything started or know their numbers yet, it’s probably just an idea; an idea that will never get off the ground, or they need your money to get the first ball rolling. Don’t test his idea with your money.
11. Personal tax return
If it comes down to it ask them for their personal tax return. If you’re investing in them you need to know everything about them. Find out if they owe the government back taxes, find out if their business is making money. See how they make their money and their debt. Look into how they’ve been doing the past few years. This is especially useful when investing direct with an individual. Don’t leave any stone unturned. Look into everything.
12. Why can’ t you go to a bank VC
There’re basically two reasons besides they don’t know how to contact a VC or how to approach a lender. Which is a horrible excuse not to try. Either 1. Their credit is shit and they can’t get a loan or 2. The company is too small with not enough revenue. When you approach a large VC firm or lending institution you have to have your pitch down perfect, have to know your numbers, and able to prove proof of scale. Now when a professional investor is interested they are going to want a large part of the business which can be a turn off for small start ups. But generally, if they can’t get financing for this there just isn’t enough revenue or a large probability to scale.
13. Hire a Private Investigator
This one is extreme but it doesn’t matter. Do what you have to, to get the info you need. Is the founder going to his office every day? Or is he just enjoying your money. Is he who he says he is. When money is involved everything is fair play. Make sure you know exactly who you are giving your money to. Remember, they are asking you for money, you make the rules, and do anything you can to protect your investment. Including legally spying the founder.
14. Loan a smaller amount to be able to use small claims court
In most states if the amount is <10k you easily go to small claims court.
This is a cheaper and quicker way to take legal action than to sue somebody.
Plus, if you’re loaning out a small amount, it’s going to affect you less if it’s never paid back or the venture never succeeds. But a least you have the option to go to small claims. When you write the check or sign the agreement on a small loan, make sure he is help personally responsible for it. When you invest in an LLC they can just dissolve the company and open a new on in 20 minutes. You need to make sure the founder has skin in the game as well and you can go after him legally if needed.
To go to small claims court, its usually around a couple hundred bucks. However, to sue somebody it can cost thousands depending on your state and county.
When investing in a startup, it’s really going to take on average 10 times to hit a big exit. Don’t let it get you down, this is the nature of the business. Use these points as a guideline before investing in anybody’s business. Think critically about the venture and don’t let emotions and excitement take over.