Challenges When Raising Funds
When we discuss the process of raising money for a startup it is usually assumed that we talk about diluted (equity) funding. This simply means that you will be giving away ownership of your company. Non-diluted funding means you will be getting money, but will not be partially losing ownership of your company. An example of diluted funding would be taking money from an angel investor, whereas non-diluted funding would be getting a loan from the bank.
One of the major challenges when starting on the path of raising funds for your company is that it takes a long time. Many times I have heard founders say that they might have been in a better position utilizing the time they have spent to raise money to develop their product or customer base instead.
It is not easy to convince an investor to write a check for your dreams. On one hand, you have numbers and hard-earned real money, on the other hand, you have promised. You will need to pursue the investor to make the jump and connect your promises with the expected value so it is worth the chance the investor is taking on you.
The investment size can be thousands of dollars or even millions, but it is also very important to define the time-frame and engagement from the investor – all these are factors that an investor needs to consider.
For a startup, it is important that it has funds while looking for funding. You don’t want to get into the situation where you are at the end of your runway when asking for more money, because in that situation you can be willing to give up too much from your company, just to get funded quickly before your bk account dries out completely. They say usually the best time to start your next round of funding is right after you finish cleaning up after the party for your current funding round.
The industry has developed vocabulary convention about the startup stage and funding events, so we can at least pretend we understand the situation a startup is in and have a basic common discussion starting points. Let’s review the stages and corresponding funding associated with these stages of startup development.
Pre-Seed Funding
As the name implies, this is the earliest possible stage of funding in the life of a startup. At this stage, it may even not be a formal startup to be funded and some people don’t even consider this as part of the funding process.
Pre-seeding is most likely to come from friends and family, the founders themselves, and only in rare cases from an angel investor or an incubator.
The team at this stage is very small and it is usually the core team that had the initial idea and is running mostly on enthusiasm than anything else. The goal is to create a prototype or even some sort of a quick hack, that is going to be the proof-of-concept entity that can take the team and the startup to the next funding stage.
Seed Funding
The name is very self-explanatory – this is the first money that a startup raises.
Funds received in this round are usually targeted to take the initial idea and start taking the first steps in the business journey, like finalizing the prototype, do product development, and marketing research.
Seed money can be raised from family and friends, angels, incubators, venture capitalists investing in very early-stage companies, or other (already funded) startups that see your product or service as complementary to what they offer. The most common type of investor at this stage is the individual angel investor.
Sometimes seed funding is all a startup needs to get the engine running. It is possible you have hit the right time with the right product the right clients and don’t need more funds to scale. Then seeing is all you need.
Averages: As a founder you can expect seed funding to be in the ranges of $500’000 to $2 million, depending on the product, industry, the region you are in, and how far you are into developing your product. Company valuation falls between $3 million to $6 million.
The amount quoted here as raised capital and the company valuation should give you a good idea of how much equity is expected from you to give up. It is not unusual to get funded for 20-40% equity at this stage.
Series A Funding
Seed funding should help you get some traction. For some companies traction is to maximize the number of users, for another is to have revenue, the number of visitors, page views, etc.
Series A is where thugs start to become serious and the startup should see itself as a business entity. This means creating and testing a sound business model. How do you test the business model is successful – driving in revenue. The series A is expected to take the business to the stage where money starts to come in.
Averages: Reported Series A funding is in the range of $2 million to $15 million. The better prepared to grow after the Seeding round, the more funding in the Series A you should expect. Company valuation is in the range of $10 million to $15 million. Again, you should be able to calculate the expected equity to give up to get funded in Series A.
This still is in the range of angel investors engagement – individual or group of investors (angel investor fund), but most likely at this stage your startup will engage with venture capital firms.
Because of this change in the funding source, many startups can’t make the jump from being funded by individuals to venture capital firm and they fail. It is a different skill set required from the founders to present to a venture capital firm than to an individual and many can’t learn the language or present properly. More than half of the companies who received the Seeding funding will not make it through the process of raising Series A.
Series B Funding
Series B is raised to grow the company. This means you have already figured out the product/market fit, you have a working business model, you know your CAC and other KPIs for your business. You know exactly how much you will make for each dollar you put in your company. Your startup needs help expanding.
In many cases, the team that built the company and pushed in tough Seeding and Series A may not be suitable to manage the company after raising Series B funding. The people you need at this stage are people who know how to scale customer base, increase revenue, optimize business workflows. This means hiring and expanding the team, putting the right professionals in the right places. It is no longer acceptable and proper to “wear many hats”. Raising Series B should ensure competitive salaries for the whole team.
Averages: The range is really big and depends on each company-specific needs, but it usually goes between $7 million and is known to go to $10 million or even more. The company valuation would be expected to be between $30 million and $60 million.
Series B is considered late-stage investments for venture capital firms. This is a safer investment, because all unknowns related to the business model, customer demographics, product/market fit, etc. are already solved. The startup just needs more fuel to generate more sales.
Series C Funding
Series C funding is for companies that are growing very well, generate revenue, and are already established on the market. The funding is to expand to new markets (oversees or local), develop additional services or products, acquire other companies for their customer base or technology.
Expanding internationally may not be the only or main reason for Series C. This funding may be needed to prepare the company for an Initial Public Offering (IPO) or to increase the valuation before an acquisition.
Series C is considered the last of funding rounds, although there are companies known to go beyond Series C funding.
Averages: Series C funding is really hard to range, but according to tech.co the average is $26 million. Series C raising valuation is in the range of $100+ million. Lately, we have seen “unicorn” companies with valuations of a billion dollars.
Series C is considered a late-stage investment and comes from venture capitalist firms.
Understanding Your Funding Needs
It is important to understand the terms and the language used when investors talk about different funding opportunities. It is the vocabulary expected to be learned by the founders and be used in conversations with investors.
The industry averages provide a good understanding points for founders to know the ranges of expected funding size, company valuation, and equity expected to be offered to investors at different stages of startup development.
Keep in mind that when signing with an investor, you are not only going to be signing for their money but also to their values, understanding of how to do business, and life philosophy. It is really important to be able to evaluate the investor more holistically, not only based on how big of a check they are willing to write. It will be much more beneficial to both sides if you align together more than just financially.
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