Navigating Your First Rounds of Fundraising
When you're at the earliest stage of building your startup, one of the very first things you need (apart from grit and a great idea) is capital to fund version 1.0 of your product. These funds allow you to create your product and test it out to see if it has legs in your target market.
So, what steps do you need to get your company funded? It's important to note that there are often three separate rounds that come before companies raise their Series A. They are the family and friends round, the pre-seed round, and the seed round.
Let's break them down:
Friends and Family
As the name suggests, this round is raised by your personal network of family and friends.
Typically, these investors invest anywhere from $5,000 to $100,000 of their own personal money because they believe in the founder and their ability to execute. These investors assume the most risk because they are investing at such an early stage and are usually compensated with an appropriately low valuation. This low valuation can unlock significant return potential when the company exits.
Friends and family who invest in a startup take an enormous amount of risk. However, they can also be rewarded handsomely. For example, Jeff Bezos's parents invested $300,000 into their son's startup in exchange for a 6% equity stake. Today they are billionaires many times over.
The early money from friends and family can often be enough for you to create your minimum viable product (MVP).
Pre-Seed Funding
Pre-Seed rounds are typically small (less than $750,000) and can also be pre-product. A pre-seed round gives a startup room to find product-market fit, fully go-to-market, and generate revenues.
The pre-seed round has come about in recent years due to broader trends in early-stage funding. In particular, institutional seed investors' rise has made it difficult for companies just starting out to obtain funding. In particular, startups have had difficulty raising their first $200,000 to $500,000 to start developing a product. Founders came to expect more and more from early stage startups at the seed round, making this round increasingly difficult for those who had not demonstrated significant traction or who had little past experience. This paved the way for pre-seed investment.
Pre-seed funders are often accredited investors who have taken a particular interest in the startup world. In addition to funding, angel investors provide guidance and access to their larger network to help you navigate your first steps in scaling a company. Raising capital on a site like Republic is another possible funding source for pre-seed rounds.
With this funding, you may be able to hire your first employees. This can include a key hire like a CTO. Armed with pre-seed funding, you can begin to test your product in the market.
Seed Round Funding
A seed funding round is meant to support a business until it can generate a considerable cash flow. Seed rounds typically include angel investors, equity crowdfunding platforms, and many early stage venture funds.
Equity crowdfunding platforms are a great way to raise not only capital but also a growth hack. Startups can leverage investment platforms with large investor bases, such as Republic, to build brand awareness and access potential customers as well as raise up to $1.07M from investors via Regulation CrowdFunding. Regulation Crowdfunding refers to the part of legislation enacted in May 2016 by the SEC that enabled non-accredited investors (the majority of the U.S. population) to invest in private companies for the first time.
This legislation significantly benefits a diverse set of founders that don't typically have access to wealthy friends & family, angel, and venture capital networks. For example, 50% of the capital raised via RegCF on Republic went to underrepresented founders, including women, BIPOC, and LGBTQIA groups. Liza Velarde, founder of Delee, found the Republic platform vital in raising her Seed round. She says, "Republic helped us to connect with more investors around the world, and it's beautiful to meet people that support you and trust in your venture."
If a founder comes with experience under their belt, venture capitalists will occasionally invest in a seed round. Republic provides retail investors with opportunities to invest alongside some of the leading VC firms.
Seed rounds are typically between $500k and 2M. However, the size of seed rounds is growing considerably year-over-year, and some seed rounds raise significantly more.
The gains for investors who invested at the seed round can be jaw-dropping. Uber raised $1.58 million at a pre-money valuation of $3.86 million in September 2010. It went public in May 2019 at an $81 billion valuation. That's a 2098x gain. In other words, $100 invested in Uber at its seed round would net you over $209,000 by the time it IPOed!
The good news is there are new innovative options to secure funding during your company's early stages. Once you successfully navigate these early rounds of financing, and step through a venture capitalist’s doors, you’ll be ready to attempt to raise the all important Series A round. Whether you succeed or not will depend largely on how much traction you’ve gotten so far.