The Numbers Game

NEVER AGAIN: CEO Michael Fuori borrowed from his father to start a bar. Now he frowns on family funds.

Back in 1985, when he was 23, Michael Fuori, CEO of Lindin Consulting (#338), borrowed $25,000 from his father to open a bar in Levittown, N.Y., on Long Island. Twelve months later Fuori sold the bar and paid back his father, but his year with a liquor license was one he won't forget. He says that even though the bar broke even, his relationship with his father changed. Simple family conversations about how his day had gone grew touchy. If Fuori lodged the slightest complaint about his venture, his father was quick to say, "Twenty-five thousand is a lot of money," or, "You wanted into this business, not me."

Things bottomed out one Friday night when Fuori noticed two bouncer-sized men sitting at the bar, drinking nothing but water. Whenever Fuori moved to another part of the joint, the two men followed him. Finally, he asked them what they were doing. "We've been sent by your father to make sure nothing happens to you," was their answer, he recalls. A few months later Fuori got out of the business. "Believe me," he says, "that was the last time I ever borrowed from relatives."

To prevent family capital from interfering with family caring, Hutcheson recommends that entrepreneurs approach their relatives only after they have secured investments or loans from unbiased outside sources. "Go and get matching funds," he says. "If you need $25,000, then first get $12,500 from others before asking your family for the rest. If you can't do it that way -- and if you don't have your own skin in the game -- then you need to think twice about why you're asking someone you love to give you money. I believe you should get others to back the idea as well, so a parent or relative doesn't feel as though the money is a gift but rather a worthwhile investment. It puts a higher level of accountability into the entire process."

"Think twice about why you're asking someone you love to give you money."

7. Should I think twice before signing on with VCs or angels?

Yes, especially if you can get money somewhere else. Raphael Amit, professor of entrepreneurship and management at Wharton, describes the current investing climate as an "onerous" one for entrepreneurs. "Today you have to realize that venture capital is the most expensive financing you can get," he says. These days, notes the professor, venture capitalists aren't content to give cash for equity. To offset the increasing risks of today's market, many VCs are structuring their investments as a mix of debt and equity.

Of course, you might be in a start-up situation where you need funding from VCs or angels to survive. If that's the case, then Amit advises you to perform as much due diligence on the investors as they'll perform on you. "What will their attitudes be when your company hiccups? What will they do if you don't meet your forecasts, sales slow down, or you're out of cash? Talk to the other companies in their portfolios and ask, 'Did they work with you, help you, or fight you?' "

Then there's the valuation problem. Chances are, you and your prospective investors will have different ideas about just how much your company is worth. What accounts for those differences? Self-interest and subjectivity, to be sure. Another factor, according to Amit, is that entrepreneurs and investors disagree on how a valuation should be calculated. "With private companies, there's no correct method that everyone uses," he says.

19 ^% of the Inc 500 CEOs surveyed tapped family or friends for seed capital.

How can entrepreneurs make the best of things, in the absence of an objective valuation technique? Amit suggests that you avoid relying on a single investor. "Attempt to get multiple offers," he says. "Competition keeps people honest." By learning what several investors think of your company, you'll obtain a range of valuations -- and learn which valuation methods put your company in the most positive light.

You should also consider your own personality before signing on with VCs or angels. Could you tolerate reporting to anyone, let alone a group of investors with great expectations?

Brent Habig can't -- at least not now. The CEO of Tigris Consulting (#221) doesn't rule out the prospect of equity financing down the road. But for now Habig is sticking with his bank. "When you deal with the bank, it takes maybe several hours a month. I can do that," he says. But he turns up his nose at the idea of interminable meetings with investors. "I don't want that level of distraction for me or my management."

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