Rule #6: Financing and Guarantors

If you have noticed, many of the posts in this list involve thinking about some rather unpleasant things. Do not avoid thinking on these things. If you do, it will be to your peril. I am sure that you have read the statistics about how many new businesses fail. And while your thoughts should be geared toward how to succeed rather than simply keeping your company from failing, you must prepare for hard times.

With this in mind, you must realize that there will be times when your company will need a capital infusion beyond the planned start-up capital. Where will you get this money?

When you have a partner, the both of you must decide how you will approach this financing.

What is particularly important is that you should decide if and how you will be guarantors. If you and your partner will be personal guarantors, how will you divide the burden? This may not me as easy to determine, especially if one of the partners has fewer assets than the other. But just because one of you may be wealthier, that does not mean that this partner should necessarily be a greater guarantor.

Keep in mind that being a personal guarantor carries with it consequences beyond simply the assets and liabilities of the company. You have to work out what of your personal assets will be liable should your financial hardships continue.

One of the reasons that you want to work this out in writing is that you do not want a situation where you dig yourself deeper because of your own personal liability.

For example, let’s say your company needs a cash infusion and your partner does not have a great deal of personal assets to offer. So you mortgage your home. Now let us say that the company hits another rough patch. If your partner insists that they still have no assets to offer, you may say to yourself that you have to invest even more of your personal assets in order to turn the business around and recoup your already sizable investment. Notice what begins to happen: the more one partner invests over another partner, the more the greater investor may dig themselves into a deeper financial hole.

And being a personal guarantor could have radical implications for you and your family. It is enough of a financial burden if your business goes under. It is another thing if it takes down your personal assets as well. This could affect your home, your cars, you children’s education and so many other things.

To avoid this, not only should both partners agree to how much personal liability each should take on regarding future capital infusions, but this should be put in writing. No matter how sincere a person may feel in promising their commitment, when it comes time to sign the check, many may balk. To cover both of you, your plan should be placed in writing.