Raising your first outside round: How to navigate accelerators, angel investors, and venture capitalists
As 2020 approaches, the market for raising your first round outside of friends and family - traditionally called a “seed” round - has changed dramatically. There are now a wide variety of financial products to fit early stages of your company (i.e. there are no longer standard amounts for “Pre-Seed”, “Seed”, “Series A”, etc.) and a maddeningly large number of accelerators and venture capitalists (VCs) are competing for your attention. In such an environment, the global noise of books, podcasts, videos, and blogs - i.e. marketing material - often steer founders in the wrong direction; i.e. away from local angel investors and micro-VCs who will most likely fill your round.
If you are a founder gearing up for an initial outside round, this article is my best attempt - as both a founder who has raised early stage money and an investor who participates in these rounds - to guide you at a high level through the process in today’s landscape. (FYI: check out my article on raising money from friends and family if that is more applicable to your situation.)
In the same way that you should be relentless about recruiting and retaining the right users/customers for your product (i.e. product-market fit), so should you carefully study who the “customers” are for your deal. While there are a growing number of micro-VCs in most tech cities that can be appropriate to speak with at this stage, I would highly recommend first asking around your local startup community - especially early stage founders who have recently raised - for introductions to active angel investors.
The tricky part about angels, however, is that they often bounce between active and non-active status depending on what their current liquidity position looks like. They also can be extremely difficult to find and schedule meetings with. Also, while VCs have a strong financial and reputation incentive to market to you as loudly as possible, most angels prefer to stay under the radar (i.e. their spam rate is quite high, so it is highly preferable to find one of their friends - or founders they have invested in - to introduce you).
Furthermore, not all angels are created equal. Who you are really targeting at first - ideally - is the individual or microVC who will write a check for somewhere between ~20%-50% of your round. Sometimes this can even be an initial customer/partner of your startup; don’t be afraid to ask if you have a happy customer that fits the profile.
Once you land that first investor (i.e. typically called the “lead investor” that you negotiate and set terms with), the rest become exponentially easier to recruit. If you aren’t able to land a lead investor, then the next best thing is to decide on your own terms and close as many angels and VCs as possible (aka, a party round).
Looking in the mirror
There is an important reason why this is the 33rd article in my idea-to-funding framework series for founders. Too often I see startup CEOs attempting to raise outside money before they’ve put in the hard work of recruiting a team, understanding a market, building a basic form of their product, and selling it to their users/customers. The best early stage deals from an investor perspective involve a strong co-founding team that have brought a product to market, and the team has made it clear that the funds used to achieve attainable milestones to prep for their next round.
While there are some rare exceptions, if you are in a position where you haven’t made solid progress across your team/product/traction, then your odds of landing a round are low. Even if you have, expect most investors to avoid committing (rarely will you actually hear a clear “no”) until you’ve made more progress.
To accelerator, or not to accelerator
Most tech cities have multiple accelerators to choose from, but be careful; not all are created equal. The best options will be essentially leading your seed round by giving you ~$100-$150k for between roughly 6-10% of your company. And, importantly, among the small army of mentors they supply you should be some angel investors (in disguise or not) who - under the auspices of advising you and your team - are actually doing diligence to discern whether or not to invest before or after demo day (if at all). This is arguably one of the greatest value-adds of an accelerator (i.e. to fill your seed round after - or ideally before - demo day), as active angel investors tend to hang around top-tier accelerators because of the quality deal flow.
Thus, as a founder it is generally a good idea to seriously consider top-tier accelerators that meet this criteria, as they can provide not only a path to filling up your seed round, but they can supply a decent amount of marketing exposure as well. For some startups, primarily those selling products to other businesses, letting their users/customers know they have been accepted and graduated from a reputable accelerator can be helpful for growth.
Loans and crowdfunding
If direct relationships with angel investors, seed-friendly VCs, and/or accelerators aren’t a viable option for you, then - depending on your business type - you can consider crowdfunding options and/or courting a bank (or peer-to-peer lending platform) for a loan.
On the loan front, if your business has sufficient assets to back a loan, and/or predictable income to make a conservative underwriter happy, then this can be a real option forward. I’d recommend walking into a locally owned bank and talking to a manager, reaching out to well-known startup-friendly banks such as Silicon Valley Bank and services such as Lighter Capital, and/or looking into crowd-lending services such as Lending Club.
On the crowdfunding front, there are both Kickstarter/Indiegogo types that are simply pre-selling a product, or platforms such as WeFunder that allow the crowd to buy equity in your company. For a fuller list of crowdfunding options, check out Meg Prater’s article The 15 Best Crowdfunding Sites to Launch Your Business or Product.
One of the biggest challenges for startup CEOs raising a seed round is how to prioritize their time. One school of thought is for founders to take hundreds of meetings and play the percentage game (i.e. only a small fraction will invest, so you need to meet with a ton), but I generally suggest doing careful homework on your investor targets and aim for a higher hit ratio. Again, if you’ve done a good job creating an attractive deal for them, then you can confidently know that there are investors eager to meet you and write a check. The challenge is finding them, so focusing on in-person or video call meetings with connected “startup people” in your community - especially founders they have invested in before - is key to network your way to the right audience.
And even though the accelerator market is quite saturated, I remain quite bullish on top-tier options, mainly because they are a powerful way to fill a seed round if you don’t already have connections to angel investors and seed-level VCs. Plus, getting into a notable accelerator is a nice stamp of approval that can make angels and VCs more likely to take your meeting and invest.
Finally, you’ll need to have clear conversations with your team about how much of your time should be spent on fundraising and how much should be spent moving the company forward (HR, product, marketing, operations, etc…). If you have this conversation with your team before you start the journey then it will help clear up expectations and inevitable communication breakdowns that happen during the seed funding process.
For further reading, I’d highly suggest Feld and Mendleson’s third edition of Venture Deals (a 4th edition is also on the way, FYI), and Geoff Ralston’s A Guide to Seed Fundraising. Even though Geoff’s article was published at the beginning of 2016, it remains highly relevant for founders today. In addition, I'd recommend watching Troy Henikoff's videos on Finding the Right Investor, Convertible Debt/SAFE vs. Equity, A Twist on Convertible Notes, and his video on when convertible notes are most applicable.
Author's note, this is the 33rd article in my deep-dive series on idea-to-funding startup operations. Subscribe to my newsletter to stay posted when new articles are up. If you haven't tried Startup Rocket yet, sign up and poke around for free here. My partners and I put together the initial framework based on decades of experience at both sides of the funding table. Finally, I'd like to thank Andy, Troy, and Solon for their extremely helpful comments on early drafts of this article.
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