Using Investment Capital to Repay A Founder's Contributions


A question recently came up regarding whether a founder can re-pay themselves for some of their initial investments in their business once an outside investment is achieved.

In general, this is not a good idea, nor is it a good idea even to ask for repayment. In most cases, investors want to see a level of dedication and belief by the founders in the business. The founder is expected to make reasonable sacrifices to make the business work. This demonstrates some degree of "risk sharing" which appeals to an outsider putting his money into the idea. Due diligence can only go so far, so investors look for other signals regarding the quality of the idea and how strongly the founding team believes in their own chances.

If a founder wants to be immediately repaid for past loans, quickly draws an exorbitant salary, or wants cash bonuses in the short-term, it is a red flag that will turn off investors. The founder should want to retain as much of the business as possible rather than "selling" that extra amount (the amount of the desired repayment) of equity to outsiders.

In fact, it is a big positive when it is stressed in business plans that founders have their own money at risk in the venture. It is probably the most important and best way to demonstrate managerial "credentials" and commitment to the enterprise.

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Paul Freet says

I have seen cases where founders are stretched nearly to the breaking point before outside investors come in. They may have a second mortgage, credit card debt at high interest or worse. I don't think investors want a founder who is in a very difficult financial situation. When this happens, there should be some room for repayment.

Posted at 2:45 pm
A-Rob says

I agree. It makes investors think that the founder has lost confidence in the business and wants to get what he or she can while they can.

Posted at 3:28 pm
Kendall Kunz says

I agree that founders should leave some capital in the company. However, founders often don't really know the difference between Common and Preferred shares and their investment is in simply common shares. Investors should allow those dollars a founder put in to be part of Preferred shares.

A dollar risked, by founder or investor, should have the same preference as other dollars risked.

Posted at 6:02 pm

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