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Obtaining initial funding beyond the 3 Fs: Friends, Family and Fools

Alternative financing can be key to obtaining initial funding to get a project off the ground

Raising initial funding is among the most important challenges facing real-economy companies and start-ups. Having sources of financing is crucial to meet expenses and to undertake investments without upsetting the economic accounts.

Suppose financing is relevant throughout the entire life cycle of a company. In that case, it is even more important when it takes its first steps and, therefore, still needs to generate profits to finance itself.

Everyone who has ever started a business knows how complex it is to access financing when preparing a business plan, launching the project and starting to market the goods or services developed by the company or professional.

In this initial scenario, the 3 Fs are key: Friends, Family and Fools. That is friends, family and some investors who dare to bet on a project that has yet to prove its economic viability or ability to gain a foothold in the market.

However, entrepreneurs cannot entrust all their initial funding to Friends, Family and Fools but must be able to obtain resources through other channels. Beyond the classic financial sector entities, alternative financing platforms emerge as very interesting sources of funding for the early stages of the life of a new business or professional project.

Crowdfunding, crowdequity, crowdfactoring… the various forms of online alternative financing help multiple investors to bet on developing projects and allow entrepreneurs to obtain initial funding beyond the effort that Friends, Family and Fools can make.

1. The 3 Fs: Friends, Family and Fools

As noted above, the concept of Friends, Family and Fools encompasses the sources of initial funding that many entrepreneurs who want to start a business turn to. However, unlike other sources of financing in which the key lies in objective issues, such as obtaining a return in exchange for investing in Friends, Family and Fools, subjective factors come into play: affection, respect, and trust…

These subjective issues can help Friends, Family and Fools decide to invest in the fledgling business, but they also carry personal dangers. Moreover, they are limited in scope. So most entrepreneurs can only get some of the start-up financings they need through Friends, Family and Fools alone.

1.1. Reaching out to your loved ones

When an entrepreneur wants to get an idea he has had off the ground, the first thing he does is invest his own money in it. And the second thing? Some entrepreneurs knock on the doors closest to them: those of their family and friends.

Loved ones are a source of initial funding that has obvious advantages:

  • They must evaluate the project’s viability and the entrepreneur’s solvency to decide whether to invest.
  • Investments are not usually accompanied by repayment terms or interest.
  • Entrepreneur does not depend on banks or third-party investors, nor do they have to cede shares in the company’s ownership. However, this independence can be undermined by a worse kind of dependence: loved ones who want to be involved in the decision-making process of the business.

1.2. Fools have nothing to be fooling about

Investors who can bet on new projects are not as crazy as the noun fool suggests. Rather, they are people who have the financial resources to make investments and may decide to bet on a project, either because it sounds interesting, because they believe there is a demand in the market or because they know its founder.

Like friends and family, fools may offer more advantageous economic conditions to an entrepreneur and may place less emphasis on risk or return on investment. However, they may also wish to intervene in the decision-making process, and their investment may be volatile, jeopardizing the company’s viability if they decide to withdraw it.

1.3. Disadvantages of financing through Friends, Family and Fools

As soon as we scratch the surface of the Friends, Family and Fools initial funding channel, we can see that in addition to the advantages it brings with it, it also involves disadvantages that go beyond the mere business sphere:

  • The scope of the investment. The amount of money our loved ones can invest in a business we want to start is limited. We do not have family and friends willing to invest infinite amounts of money, and their capacity to allocate money to this action is not either. If the business project is not ambitious, start by resorting only to Friends, Family and Fools investments. But as soon as it is necessary to invest in technology, to fit out spaces or to hire personnel, more investments will be needed.
  • Personal tensions. If a loved one invests in our company, they may consider that they have a say in the business decisions to be made. In addition, if the project does not come to fruition, problems may go beyond the purely economic. It is popularly said that “business should not be mixed with pleasure”. Mixing family or friends in developing business projects that still need to generate profits may also be inadvisable.
  • Lack of experience and objective criteria. Some forms of financing, such as Business Angels, typical of start-ups, bring with them the experience of the people who invest them in addition to economic resources. Whereas, in other sources of financing, from banks to crowdlending or crowdfactoring platforms, objective criteria come into play to evaluate the project. Although this evaluation is designed to help investors decide which projects they wish to invest their money in, it also offers entrepreneurs an external view of their business, its viability and the risk of it not succeeding.
Getting initial funding can't depend on loved ones alone

2. Initial financing and alternative financing

In light of the limitations of initial funding through Friends, Family and Fools that we have just pointed out, it is clear that entrepreneurs need help to turn to these sources of financing.

In addition to traditional financing mechanisms, such as borrowing from a bank, there are alternative online financing methods that allow entrepreneurs to present their projects to thousands of investors and raise funds to turn their idea into profitable companies.

2.1. Crowdfunding

Some entrepreneurs resort to crowdfunding to materialize their projects. For example, a person wants to launch a rock music festival on a beach. So he uploads #RockPlayaFest on a crowdfunding platform and asks investors to contribute money to launch the festival. In return, he offers a range of rewards, from a ticket to the festival to a personal meeting with one of the bands.

Crowdfunding has many advantages as a source of initial funding but also disadvantages. The main one is that investors do not get a direct return for their money, but altruism comes into play. That is, investors believe in the project not because of its viability but because of their interest. In our example, a rock fan would probably want to support this idea, but perhaps a film lover would not feel challenged.

Precisely because of this issue, crowdfunding works better with cultural projects, and, on the other hand, it is less operative for business projects far from the creative sectors.

In other words, if what you want to start up is a bakery specializing in making gluten-free products, you may have to resort to another alternative form of financing to get the initial funding you need.

2.2. Crowdequity

Unlike crowdfunding, investors in crowdequity platforms obtain a direct economic benefit for their investment: participation in the capital of the project they finance.

Thus, entrepreneurs obtain liquidity, increasing the capital of their business and giving investors access to it.

This alternative financing modality is very interesting for business projects in their early stages. Therefore, it needs solid initial funding since it allows the necessary resources to acquire the necessary infrastructure.

If we return to the previous example, through crowdequity, the bakery could acquire all the necessary machinery to open and attract customers.

2.3. Crowdlending

Another alternative to initial funding through Friends, Family and Fools is crowdlending platforms.

Through these alternative financing marketplaces, entrepreneurs can obtain loans from multiple investors.

In this way, they acquire the necessary money to make an initial investment in their business and get it up and running. Or, if the company is already operating, to acquire technology, hire personnel or strengthen its commercial strategy.

2.4. Crowdfactoring

Before the company started its economic activities and already had customers, crowdfactoring platforms were not a way of initial financing for entrepreneurship. But later, they are.

On marketplaces such as Inversa Invoice Market, entrepreneurs can finance the invoices of other companies that are their customers and have yet to be able to collect payment.

Let’s take the example of the bakery that makes gluten-free products. This business is already open and operating. And in addition to selling directly to the public, it has agreements with other food stores that purchase its products to sell in their stores.

Let’s imagine that the gluten-free bakery has issued an invoice at the end of the month for all the products it has sold to a retailer and is 90 days past due.

However, the bakery needs liquidity to be able to advertise in the media, hire a salesperson to visit food distributors, and, in addition, employ an additional baker. Crowdfactoring allows it to obtain this liquidity by financing the invoice and advancing its collection.

So instead of waiting three months to collect the amount, you can get the money in a few days. This makes it easier to obtain initial financing during the first months of a company’s life.

In short, the different modalities of alternative online financing are very interesting alternatives to the initial funding through Friends, Family and Fools when starting a business and making it grow and become a prosperous and viable company.

Diversifying a project’s initial funding channels has always been challenging. However, the crowd revolution is driving entrepreneurship.

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