Although there are hundreds of thousands of startups formed each year, less than 1% of all startups secure venture capital. Despite the data, venture capitalists continue funding businesses in hopes of finding the next unicorn.
For early-stage startups looking for capital, it’s important to network, know your terms, and pitch to VC’s. But before you get started, you’ll need to understand what funding round you will be raising.
A “round” is when investors on the same terms collectively invest into a company at the same time. Typically the stage of your business and how much money you’re raising will determine which round you raise, and will allow investors to benchmark you against other startups in the same category to assist with their investment decisions.
The earliest stage of venture capital for startups is pre-seed funding. It’s so early in the fundraising process that founders usually rely on their personal network of family, friends and angel investors to get their idea off the ground.
Most of your investors here are people who believe in you, and they are willing to bet that their investment will help you succeed. Typical pre-seed funding amounts range between $50,000-$750,000.
Now you’ve got some traction. In your seed funding round, you’ll need to convince investors to fund the next true stage of growth in your business. This funding comes in exchange for what is usually the first significant piece of equity in your company. In this stage, you’ll often deal with sophisticated angel investors and early-stage VCs - investors who have more hands-on experience dealing with young startup challenges.
These investors are willing to take on riskier investments if they have confidence they will be able to help you grow (through networks, skills, industry knowledge, etc). In this round, you can expect anywhere from $750,000 to $1.5 million.
Not everyone acknowledges Post-Seed or Pre-A rounds, so you would typically see companies raising one of these when they are as progressed as a Series A company, but may have more Seed-like metrics. Typically companies here are raising between $1.5m to $2.5m.
Making it to Series A is no small feat! Any startup that has got to this stage has achieved product/market fit and is likely generating significant revenue and growth. The capital you are looking for is to expand your products, sales, and market.
At this stage, venture capitalists are looking for a sustainable business model that has long-term value and product development that will lead to a money-making business. Valuations are calculated on proof of concept, market size and the quality of your team. An average Series A raise is $2.5m to $10m, with some reaching as high as $23m.
Reaching a Series B is a massive milestone for startups and is usually the mark of a near-term liquidity event. Your product or service is already in the market and making revenue, fast. You have a rapidly growing user base, steady growth in revenue and a great team. So why would you give away any more equity for even more venture capital?
At this stage, be ready to court more interested venture capitalists - reduced risk and market validation will open their chequebooks. Valuations at this stage are more heavily calculated on your company’s performance. In 2020 so far, the average Series B funding in the US is between $26m and $33m; down 25m from the 2019 average of around $58m.
The Bottom Line
Venture capital continues to play an important role in funding the innovations we rely on every day. Nonetheless, as an entrepreneur, it’s essential to think two steps ahead and ensure you have your capital strategy set so you don’t run out of money.
A good tip to keep in mind is that you are going to be judged and compared by investors to your peers in your round category. So if you’re unsure where you best fit, generally go with the lower round classification based on your metrics, so you can lead in your cohort as opposed to falling short in a more competitive cohort. An extra factor to consider is where you are raising your round. For example, a Series A round in New Zealand will likely equate to a Post-Seed round in a US context based on the different traction expectations.
Not every startup needs – or is appropriate for – venture capital, and that’s okay. Take your time with any funding decisions you make, as they will have some of the longest-lasting impacts on you and your company.