How Does Pre-Seed Funding Work?
Pre-seed funding typically involves raising capital from angel investors, venture capitalists, or other early-stage investors. This capital is typically used to fund market research, develop a proof-of-concept, and build a team. Pre-seed funding rounds are typically structured as equity rounds, with investors receiving a percentage of the company in exchange for their investment.
Startup Fundraising: Understanding the Various Rounds of Funding
As a startup grows and develops, it typically goes through several rounds of fundraising. These rounds of funding can vary depending on the industry and location of the startup, but here are the most common rounds that startups typically go through:
- Friends & Family Round: < $100k, provides initial capital to launch the business, can include angel investors, family, and friends.
- Pre-Seed Round: < $2.5M, used to develop a proof of concept, conduct market research, and build a team before seeking seed funding. Target investors are mostly Friends/Family, Micro VC's, Angels, Incubator/Accelerator. Investment is used to prove technology.
- Seed Round: <$5M, used to acquire customers, develop a minimum viable product, and validate the business model. Target investors are mostly Micro VC's, Angels, Institutional VC's. Investment is used to prove the market.
- Series A: <$25M, used to scale the business, expand operations, and hire additional staff. Target investors are mostly VC's, Super Angels, Family Offices. Investment is used to prove scale.
- Series B: Used to help the startup further grow its operations, develop new products, and hire additional staff. Target investors are mostly Institutional VC's & Family Offices. Investment is used to prove profitability.
- Series C and up: Funding provided to expand into new markets or make acquisitions, used to help the startup further grow its operations and increase its valuation. Target investors are mostly VC's, Crossover Funds, Growth Equity, Family Office. Investment is used to prove exit opportunities.
- Exit Event: An IPO or acquisition that provides liquidity to the startup's shareholders and can be the final round of funding.
It's important to note that bootstrapping is always an option, and founders should expect to give up a board seat every round where there is institutional participation.
By understanding these different rounds of funding and who to raise from at each stage, startup founders can better navigate the fundraising process and secure the necessary capital to grow and scale their businesses. Along with when Pre-Seed Funding might be a proper fit for a business.
How Much Should You Raise for Pre-Seed?
One of the first questions founders often ask when considering pre-seed fundraising is how much they should raise and how long should pre-seed money Last? The answer can vary widely depending on a number of factors, including the type of business, the industry, and the goals of the founders. However, as a general rule, founders should aim to raise enough capital to fund the company for at least 18-24 months of runway. In times of economic uncertainty, some investors even recommend that their portfolio companies fundraise for a longer runway of over 24 months.
To determine the cash needs of a company, building a future facing financial projection model looking 5 year in the future is the industry standard. And many investors will ask to see this in due diligence. Most investor know that your financial model won't play out as intended, but they will want to see how you are thinking about the business. If you need a 5 year financial projection model template, Finta has some included for you on our Fundraising Checklist.
Founders should also be mindful of burn rate and ensure that they're spending the capital wisely in order to maximize its impact.
How Do I Get Pre-Seed Funding?
Getting pre-seed funding can be a challenging process, but there are several strategies that founders can use to increase their chances of success. First, founders should prepare a compelling pitch that clearly articulates the value proposition of their business and explains why it's a good investment opportunity. Along with building their financial projection model. Founders should then begin to identify potential investors who may be interested in their business, such as angel investors or venture capitalists. Taking the time to research these investors to determine their if their investment criteria and preferences align with what the company is doing, can make a big difference once you begin outreach to your target investor list. Finding any mutual connections for a warm introduction to the investor you want to meet will unlock more meetings and conversations for the round.
How Much Equity Should I Give Up Pre-Seed?
Equity is a critical consideration when raising pre-seed funding, as founders will need to decide how much of their company to give up in exchange for investment. While there's no hard and fast rule for how much equity to give up, founders should aim to strike a balance between retaining enough ownership to maintain control over the company and giving up enough equity to make the investment attractive to investors. As a general guideline, founders should aim to give up no more than 15-25% of their company at the pre-seed stage, in order to preserve enough equity for future rounds of follow on funding. Below is aggregated data from Carta across 2020 and 2021 showing the average fundraising dilution in a given round.
What is the Average Pre-Seed Size?
The average pre-seed funding round can vary widely depending on a number of factors, including the industry, the stage of the business, and the goals of the founders. However, as a general rule, pre-seed funding rounds tend to be smaller than later-stage funding rounds, with the average pre-seed funding round ranging from $100,000 to $2.5 million.
Valuation data from AngelList Venture show's us the Post Money Valuation of most Pre-Seed Rounds to be on average around $10 million with $1 million raised. Ranging from $6 million post money valuation at the 25th percentile to $12.5 million post money valuation at the 75th percentile.
What Do Pre-Seed Investors Want to See?
When considering a potential investment opportunity, pre-seed investors are typically looking for the following:
- A clear value proposition: Pre-seed investors want to understand what sets your business apart and why it's a compelling investment opportunity. Your pitch should clearly articulate your value proposition and explain how your product or service solves a real problem in the market. A strong narrative and story around the mission of the company is critical for an investor to emotionally connect with your business.
- A strong team with relevant experience: Pre-seed investors want to see that you have a team with the right mix of skills and experience to execute on your vision. This includes a founder or co-founder with a strong track record of success, as well as other team members who bring relevant expertise to the table.
- A large and growing market: Pre-seed investors want to see that you're targeting a market with significant growth potential. This means that you should be able to show that there is a large and growing industry for your product or service.
- A financial model: Pre-seed investors want to see that your business has been well thought out and has a plan for generating revenue. This typically outlines your revenue streams, margins, and projected growth trajectory.
- A well-defined go-to-market strategy: Pre-seed investors want to see that you have a well-defined go-to-market strategy that outlines how you plan to acquire customers and grow your business. This may include details on your marketing and sales channels, customer acquisition costs, and customer lifetime value.
By addressing these key areas in your pitch deck or business plan, you can increase your chances of securing pre-seed funding and setting your business on the path to success.
Pre-seed fundraising can be a challenging but essential part of the startup journey. By following the tips and strategies outlined in this article, founders can increase their chances of success and secure the funding they need to bring their ideas to life. Whether it's identifying potential investors, preparing a compelling pitch, or managing pre-seed funding pipeline, founders who are well-prepared and run a proper fundraising process are more likely to achieve their goals and succeed in the long run. With the right approach, pre-seed fundraising can be a valuable stepping stone to a successful and sustainable startup.