BackThe friendship test
Getting friends to be investors in your business, or investing in your friend's business, can often lead to a queasy dynamic that leaves the relationship in knots
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A friend of mine is an extremely successful light fittings manufacturer. Over the past decade, his export volumes have risen exponentially. The world’s best brands buy from him. The good run has helped him build substantially healthy savings. His extended circle of friends and family knows that. He’s often asked to invest in their start-up ventures and new business ideas. A couple of years ago, he bit the bullet on one idea. E-commerce was “hot" and a close childhood friend had put together a convincing business plan for a fashion website.
The friend’s website, still very much around, managed some early buzz, but in the dog-eat-dog world of high-stakes e-commerce battles, has found it tough to keep its balance sheet in order. My friend says some bad decisions were made and although he was mostly hands-off in the first two years, he began to take a more active interest about six months ago. As a substantial investor, he thought he was within his rights to do so. But the “interference" didn’t go down well with his friend.
Today, their relationship is strained. There have been a few unpleasant conversations, and although they continue to meet socially, trust has taken a beating.
If the company goes under, as my friend fears it might, there will be a loss of capital as well. It’s a double whammy, he says, to lose both money and a decades-old friendship.
His story of friend-turned-investor isn’t rare in the entrepreneurship frenzy we find ourselves in. It’s said that family, friends and fools are often a start-up’s first investors. But getting friends to be investors in your business, or investing in your friend’s business, can often lead to a queasy dynamic that leaves the relationship in knots. Much like a triple-fried, rancid snack that can sit heavy in your stomach for days, having friends morph into investors can hang heavy over a relationship for years.
Money, in any case, can rupture the most robust of personal relationships. The cauldron of uncertainty and risk that entrepreneurship brings, and the many nuances of being a “friendly investor", add to the chances of things going wrong.
The problem begins with how people perceive the “investment", says an entrepreneur, who, when he began his company in his early 40s, had four friends eager to come on board as investors. They were confident that somebody as successful as this professional had been would be able to build a high-growth business. Unfortunately, things haven’t gone as planned. The company has managed to survive by being prudent and wise about its cash flow, but there are certainly no fairy-tale exits in place—yet.
The friends who had invested have become testy about the delay, and the growing possibility that they might never see their money. Sadly, of the four friends that had invested in his company, relationships with two have become so strained that he believes it is unlikely he will stay engaged with them after the business association ends.
With one of them in particular, things have got complicated because he is going through a financial crunch himself and wants his money back. One of the problems with friends becoming investors is that even when people invest in a venture in exchange for equity, they end up treating it as a loan. If the business doesn’t do well, there is an expectation that at least their friend will return the capital. This isn’t how investments work, though.
Often, friends, especially if they are salaried professionals, come in as investors because they perceive this as a low-risk, vicarious way to experience the thrill of entrepreneurship. But their innate risk-averse mindset makes it tough for them to handle the anxieties, or deal with loss, this entrepreneur told me. In that sense, it is important for founders to be careful about whom they let in as investors, though if they are looking for early-stage investments, the urgency often trumps careful consideration.
Friends who have been on the other side of the dynamic—that is, they were investors in the start-ups their friends founded—say they invested because they had faith in their friend, though they also believed it was a good idea. The starting point of the investment was trust, not a calculated business proposition. That might be true of close friendships, but when it comes to investors who come from within the wider social circle, entrepreneurs say nobody invests in a bad idea.
There are other tough balancing acts to get right as well. Disclosure and updates can become difficult to manage. How often can you demand updates from friends whose companies you have invested in? Is it legitimate to ask for company balance sheets, sit in on interviews, or be a part of strategy meetings, as a “real" investor might? And, if a friend demands that, would the founder construe it as an intrusion, indicative of a loss of trust? Is it possible that at the heart of the friend-investor dynamic is an identity crisis—you are neither fully a friend nor an investor?
Another entrepreneur, who had invested “a few lakhs" in her friend’s education business, and lost all of it when the company went bust, confesses that sometimes it isn’t only about losing the money. It is possible to eventually come to terms with that loss, but the friendship can alter, or disintegrate, because entrepreneurship reveals personality traits that otherwise wouldn’t have come up. In her case, her respect for her friend as a professional has vanished completely. And friendships can’t flourish in the absence of respect.
Surviving Start-ups focuses on the stories of the people (parents, siblings, spouses and friends) who make up an entrepreneur’s world.
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