What to do When Dealing with Informal Investors



informal investors

Raising funding from formal investors isn’t always an option for every startup.

Particularly for young or unproven entrepreneurs, informal investors can seem like much more attractive options. And these more informal options can certainly give your startup the boost it needs. But just because they’re informal investors doesn’t mean you should overlook some of the more formal parts of the investment process.

You need to protect yourself and your company. So when it comes to those informal investors, whether they’re angel investors or members of your extended family, it helps to set very specific terms.

Dianna Labrien recently wrote about setting terms with informal investors in a Tech.Co post. She cautioned entrepreneurs against automatically agreeing to give all investors pro-rata rights, or the right to maintain ownership through future investment rounds. This could lead to your startup having too many different investors involved.

While on the surface “having too many investors” doesn’t sound like a problem, it can mean lots of extra work for you. And all of that work means time spent away from actually growing your business. Labrien wrote:

“Having too many people involved means you’ll be spending your time on unproductive things instead of focusing on further development. If you are not careful enough, you may find yourself in an uncomfortable position, spending time on collecting signatures from your shareholders to make future financing decisions or implement new management decisions. Mainly, this happens when you’ve given these rights to your first investor and the follow-on investors happen to request them as well.”

Informal investors can be incredibly helpful, if not essential, when getting your business off the ground. But it is still your business. You need to control how you spend your time. And investors can have a big impact on that part of your operations. You have to find the right balance between attracting the right investors and giving them too many rights to your business.

Labrien’s post also includes a few more tips for dealing with informal investors, such as restricting the number of shares offered and avoiding limits placed on management compensation.


Piggy Bank Photo via Shutterstock

8 Comments ▼

Annie Pilon Annie Pilon is a Senior Staff Writer for Small Business Trends, covering entrepreneur profiles, interviews, feature stories, community news and in-depth, expert-based guides. When she’s not writing she can be found on her personal blog Wattlebird, and exploring all that her home state of Michigan has to offer.

8 Reactions
  1. The best way for a startup to raise money today is through crowdfunding.

    • I think that depends on the type of business and what specifically they’re raising money for, but it can absolutely be a great option, particularly for new entrepreneurs and non-traditional businesses/products.

  2. I have tried getting in this informal investing thing and I have to say that it is also not as secure for the investor as it is for the business owner. Besides, it takes some explanation to get them to take out their money for you.

    • Since it’s a newer concept, it seems like there’s still some work to do to make it secure and fair for everyone involved. I know some have been able to make it work though!

  3. “The best way for a startup to raise money today is through crowdfunding.”

    Hi Marc,

    I believe, it depends completely on the type of business that you do.

  4. Crowd funding is great; good avenue to maintain control of your business that you worked so hard to make. Maintaining control is a very important aspect; just look at what happened to CISCO.

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