Some families have thought about providing venture capital or “seed” money to family members who have an entrepreneurial dream. Families that have considered offering such capital often see it as a way to support family members and build on a legacy of entrepreneurship.
Like many good intentions, the challenge is usually in the details. When the family, or family office, begins to develop a plan for providing venture capital several questions must be answered. Perhaps first and foremost is the question of how to establish a policy that will be consistent and can provide equal opportunity within the family’s means.
Other questions that will need to be addressed include the following.
- What are the criteria for approval or rejection of a venture request?
- How should expectations be set for the investments? What are realistic expectations?
- What about non-profit ventures? How should expectations differ for profit and for community based non-profit ventures?
- What about accountability? What happens if the expectations are not met?
- Should the investment be administered within the family or family office? Or should the function be managed outside the family with some family governance?
- What role will the family investment vehicle play in the governance and/or management of the venture being financed?
- In the event of a failed investment, what can (should) be done to make sure the unsuccessful entrepreneur remains a welcome contributor to the family?
Certainly determining fair and objective criteria for consideration is key. Most will require the submission of an acceptable business plan accompanied by realistic financial projections, including cash flow “burn rate” and break-even to profitability projections. Normally, these would be on a worse case, best case, and most probable case basis. The plan should also address the repayment of venture financing and expected return on investment to the venture capital provider. Another consideration for approval might include the extent to which the prospective entrepreneur would be wiling to support his/her own venture from both a financial and time commitment perspective.
The review and approval process is paramount in maintaining fairness in a venture capital environment. Some families have considered engaging outside advisors such as investment or banking sources to assist in establishing approval criteria – though these should not be advisors who are currently active in managing family assets or providing services to the family. An outside independent venture capital board might provide a welcome resource for policy development as well as for the process of managing the family venture investments.
A source of venture capital within the family can be a most rewarding addition to an already rich tradition of participation in the free enterprise system. It can also be a major contributor to the family’s efforts in active philanthropy that may enable numerous family members to realize their dreams of active involvement in making a difference in their communities. While all these intentions are good, make sure you take the time to think through the tough choices and set up clear processes before supporting the first ‘deal.’