Seven direct investing mistakes wealthy families make
Built on Chapter 11 of The Single Family Office by Richard C. Wilson. Full chapter text: FamilyOffices.com.
Direct deals give a family control, no fund fees, and a chance to use what it knows. They also go wrong in a few predictable ways. Here are the seven mistakes I wrote about in the book, with how I see families avoid them.
1. Thin due diligence
Small teams run out of time. They rush, or they lean on outside firms that are stretched thin themselves. I recommend at least 40 hours of diligence, including background and reference checks, before any direct investment.
2. Ignoring future rounds
Most companies raise money more than once. If you do not plan for that at the start, you may lose the right to invest later, or get diluted badly.
3. No exit plan
Expect a wide spread of results. In my experience, only a small share of direct deals do very well, a few make some money, and many lose money or stall. Know how you will get out before you get in. When you sell can matter more than when you buy.
4. Fighting too hard on price
Founders are paid to believe in their company. Your job is to bring the price back to reality without insulting them or wasting their time. A gap in valuation is one of the top reasons direct deals fall apart. Creative structure can often bridge it.
5. Putting all the money in up front
Invest in stages. Tie each stage to a milestone. This keeps the founder focused and protects you if the business fails early.
6. Throwing good money after bad
Struggling companies often come back to their investors for more. Unless the business is already working, a follow-on check is usually a mistake. That same money might do far better in a company with real momentum.
7. Not having your own attorney review everything
This sounds obvious, but it is skipped all the time. Small clauses get left out and are hard to fix later. If the other side drafts the contract and says it is ready to sign, slow down.
The reverse is also true. If you are usually the one who drafts the first contract, you gain an edge over many deals.
The management risk behind many mistakes
The person who can build a great product is not always the right CEO. Many large companies have paired a visionary founder with a strong operator who ran the day-to-day business. Look past the founder at the rest of the leadership team.
A pre-signing review that catches most of these
Before any wire goes out, I like a short meeting where someone on the family's side argues against the deal. That person reads the term sheet, the diligence notes, and the exit plan, and looks only for holes.
The questions are simple. Did we do the full diligence, or did we skip steps to hit a deadline? What happens to our stake in the next two raises? Who buys this in five to seven years, and at what kind of price? Is the money staged? Has our own lawyer read every page?
If the team cannot answer cleanly, the deal waits. A week of delay is cheap next to a decade stuck in a weak position.
What to take from this
- Write a direct investing checklist and use it on every deal.
- Model at least two future funding rounds before you sign, including how much you would need to put in to avoid dilution.
- Decide your exit path and timeline at the start.
- Have your own experienced attorney review every agreement.
This page is general information, not legal or investment advice. Speak with a qualified attorney and advisor before making any direct investment.
Questions and answers
What is the most common direct investing mistake? In my experience, thin due diligence driven by small teams and tight time.
How often do direct deals work out? Only a small share do very well. Many lose money or stall.
Should families invest all at once? Usually not. Staged funding tied to milestones lowers risk.
Do I really need my own lawyer? Yes. Have your own counsel review every contract before you sign.