Here's a collection of posts about raising early funding for a technology startup. It includes finding the right investors, company valuations, and putting together a persuasive pitch deck. Check out our Link List series for other startup topics.
Contents:
Raising Money
How to Fund a Startup. Paul Graham, 2005. As usual, Paul Graham’s essays are a good jumping off point. This one provides an overview of the startup funding process.
Fundraising Mistakes Founders Make. Sam Altman, 2014. Talk to investors in parallel, not in series, to setup a competitive environment. Explain the company’s mission, product, current traction, future vision, the market, the competition, your long-term competitive advantage, how you make money, and the team.
Fundraising Survival Guide. Paul Graham, 2008. Practical, day-to-day advice for founders of early stage startups. For example, fit meetings with investors into the spare moments in your development schedule, rather than doing development in the spare moments between meetings with investors. And be ready to “downshift” into consulting if necessary.
Hackers Guide to Investors. Paul Graham, 2007. VCs are looking for big hits: “the way VCs seem to operate is to invest in a bunch of companies, most of which fail, and one of which is Google.”
Startups Are a Risky Business. Alex Blumberg, (2014). A podcast where Alex Blumberg documents his experience raising capital for a podcasting startup. Great show.
Bootstrap: Build a Company without Raising Money
How far you can bootstap the company before raising outside money? The more revenue and traction you show investors, the sweeter your first term sheet. Some startups may not need to raise outside money at all.
Bootstrapped, Profitable, & Proud. This series from Basecamp profiles companies that generate over one million dollars in revenues, didn’t take VC, and are profitable.
Spanx. Sara Blakely bootstrapped Spanx from a $5,000 investment into a billion dollar business. She owns 100% of the private company with no debt.
Kickstarter, Indigogo, etc. - Raising money from these types of non-equity crowdfunding sites is fantastic for most founders. Companies get the money/capital they need, and don’t need to give up any equity to VCs.
Incubators and Accelerators
Incubators like Y Combinator and Tech Stars are generally great for startups. However, not all incubators are created equal.
The Most Important Question to Ask Before Taking Seed Money (from a VC incubator). Chris Dixon, 2009. If your startup goes through a VC’s incubator, and the VC fund doesn’t invest at the end, it sends a negative signal to other VCs. So it’s important to ask, “How many companies that the sponsor passed on went on to raise money from other sources?”
We Got Accepted Into Techstars & Turned Them Down. Paul Howey, 2014. While I generally think Tech Stars and YCombinator are helpful, here’s a counterpoint from a startup called TalkRoute.
Startup Accelerators: The Legal Terms. Jose Ancer, 2014. Depending on the accelerator, the legal terms can sometimes be aggressive and give the accelerator undue influence over your company’s trajectory.
Angel Investors / Seed Financing
A Guide to Seed Fundraising. Geoff Ralston, 2016.
Dilution. Sam Altman, 2017.
Notes on Raising Seed Financing. Chris Dixon, 2011. A great overview. Ideally, (1) raise money after you have a product / traction, (2) build momentum… (5) network like crazy, but “avoid anyone who asks you to pay for intros (even indirectly like committing to a law firm in exchange for intros).”
Upside Risk. Sam Altman, 2013. Angels make their money from investing in rare companies that deliver 100x returns. The the real risk for angel investors is missing out on that outstanding investment, not failing to get their money back on their non-unicorn companies. “And yet angel investors continue to ask for onerous terms to mitigate their ‘downside risk.’ All this does is piss founders off, misalign incentives, and harm the investors’ chance of getting to invest in the best deals.”
Should Texas Founders Use SAFEs in Seed Rounds? Jose Ancer, 2014.
Finding Investors
Investor Introductions
Don’t Ask Your Startup Lawyer for Investor Intros. Jose Ancer, 2014. “Nothing says ‘I can’t hustle’ like a paid introduction.”
Why Most VCs Won’t Intro You to Other VCs (Unless You Follow These Steps). Hunter Walk, 2014. Do your homework before you ask for an intro. Write the draft pitch and intro email for the VC. Follow up. Send periodic updates.
Introductions and the “Forward Intro Email”. Roy Bahat, 2014. You write the draft intro email, and “I do only the things I’m best at — knowing the receiver, and sharing my opinion of you.”
The Double Opt-In Introduction. Fred Wilson, 2009. Asking for permission to make an email intro before making it is good form. I try to do it as a matter of practice.
Don’t Carpet Bomb For Introductions. Hunter Walk, 2014. Try for more of a surgical strike.
How to E-Mail a busy person. Tobias van Schneider, 2014. From Spotify’s product design lead.
Accredited Investors
Under U.S. law, some financial products, like hedge funds and private-company shares, are generally available only to “accredited investors.” There’s no actual accreditation – there’s no test – it’s just that if you have enough money you’re “accredited.” The theory is partly that if you have a lot of money you can afford to lose some of it on dumb private investments, and partly that if you have a lot of money then probably you know things about money and won’t make dumb private investments. Both of these are terrible theories: If you have a lot of money, you still can’t afford to lose all of it in dumb private investments, and there are plenty of rich dentists who don’t know much about investing. The result is that it is both too easy to be an accredited investor, in that unsophisticated investors can be accredited, and too hard, in that fancy investing products are available only to the rich. (Rich-ish: The threshold is basically $200,000 in annual income or $1 million in assets.)
A nice summary from Matt Levine.
What is an Accredited Investor? Yokum Taku, 2009. If you can’t raise money from an established seed fund, then raise money from an “accredited” angel investor. (Accredited = sufficiently rich as defined in the securities laws).
Taking Non-Accredited Money – Survival. Jose Ancer, 2014. Taking non-accredited money is risky, but sometimes it’s the only option, especially for startups outside of California and New York.
How to Select Your Angel Investors. Chris Dixon, 2009. Don’t reach for the “celebrity” investors. Celebrity investors might help generate buzz, but its better to have investors who will roll up their sleeves and help out when the buzz dies down.
How Many Investors?
How Many Investors are Too Many? Mark Suster, 2011. “VC’s are like martinis: the first is good, the second one great, and the third is a headache.”
Party Rounds. Sam Altman, 2013. The rising popularity of party rounds is bad for companies. In a typical party round, no single investor cares enough about the company.
Pitching and Investor Presentations
Pitch yourself, not your idea. Chris Dixon, 2009. Tell the story of someone who has been building stuff her whole life and now just needs some capital to take it to the next level.
How to Present to Investors. Paul Graham, 2010. Practical advice on giving presentations: describe a compelling product and get right to the demo; focus on a narrow solution to a widespread problem, don’t waste time on business models or secondary matters.
How to Pitch Your Startup On Stage. Justin Kan, 2014. How you pitch is important, because investors aren’t obligated to expend the mental energy to figure out what you are talking about. Follow this basic flow: market and problem, your solution, evidence that your solution will work (traction, sales, your team’s expertise, etc).
Example Pitch Decks
Linkedin’s Series B Pitch to Greylock. Reid Hoffman, 2004.
BufferApp Seed Pitch Deck. Dharmesh Shah, 2013. With commentary here.
Dwolla Pitch Deck. Raised $16.5 million from Andreesen Horowitz, Union Square Ventures and others.
Archive of startup pitch decks 2018.
NDAs and Ideas vs. Execution
Don’t ask a serious VC to sign an NDA before you pitch. Instead, pitch your idea only to investors with a reputation for honest dealing. In any event, the value of a startup isn’t in the idea, it’s in the execution of the idea (or the potential for execution).
Why you shouldn’t keep your startup idea secret. Chris Dixon, 2009. Talk about your idea to almost anyone who will listen: investors, entrepreneurs, friends, people on the street, the bartender, etc.
The Myth of the Eureka Moment. Chris Dixon, 2009. “In the 10 years I’ve been involved with startups, I have never seen a ‘Eureka’ moment where someone suddenly comes up with a great idea. Instead, I have always found idea development to be a wrenching and often meandering process that is guided mostly by instinct.”
Important Terms for Nondisclosure Agreements? Yokum Taku, 2008. For those times when you actually need an NDA, specifically define what information must be confidential, and who must keep it confidential (i.e., mutual or one-way obligation). Is the obligation not to disclose information, or not to use the information, or both?
NDAs with investors and potential partners. D. C. Toedt, 2015.
How Much to Raise and at What Valuation?
What’s the Right Amount of Seed Money to Raise? Chris Dixon, 2009. Raise “enough to get your startup to an accretive milestone plus some fudge factor. ‘Accretive milestone’ is a fancy way of saying getting your company to a point at which you can raise money at a higher valuation.”
Startups Should Raise Money at the Top End of Normal. Mark Suster, 2011. Reach for a strong valuation, but reach too far and you might can get burned by the dreaded down round. “Most investors won’t want to go through the brain damage of doing a ‘down round,’ which creates tension between them and early investors.
Seed Rounds: How to Pick a Valuation. Joseph Walla, 2014. “Valuations have little basis in reality for early stage companies. You evaluate the team, product, market and other variables - then, make a general guess.”
The Equity Equation. Paul Graham, 2007. When trading stock in your company for anything (money, an employee, etc.) the test for whether to do it is always the same. You should give up n% of your company if what you trade it for improves your average outcome enough that the (100 - n)% you have left is worth more than the whole company was before.
How to Value Your Startup. Alex Blumberg, (2014). It’s all about the story. A podcast where Alex Blumberg documents his experience raising capital for a podcasting startup.
Valuation vs. Deal Terms
How to Build a Unicorn From Scratch – and Walk Away with Nothing. Heidi Roizen, 2015. “In all but the most glorious outcomes, terms will matter way more than valuations.” Founders need to understand what deal terms mean. “Downside protection” for investors
Signalling Risk
When an early investor decides not to invest in a later round, outside investors may take this as a “signal” that there is something wrong with the startup.
The Importance of Investor Signaling in Venture Pricing. Chris Dixon, 2010. There are very few hard metrics in venture pricing. As a result, one of the primary valuation inputs is what other investors think about a company.
The Problem with Taking Seed Money from Big VCs. Chris Dixon, 2009. If you take seed money from a big VC fund, be aware of the potential signalling risk if the VC fund decides not to invest in your Series A round. Other potential investors will think “if this top VC that has hundreds of millions of dollars and knows this company the best doesn’t want to invest, why would I?”
Sam Altman disagrees: “Many little things simply don’t matter very much–for example, the ‘signal’ sent when an early investor chooses not to participate in a later round. If the company is doing well stuff like this is easily overlooked, and if the company’s not doing it will struggle to raise money anyway.” Fundraising Mistakes Founders Make, 2014.
Due Diligence
After an initial meeting, VCs will dig deeper into your company: open the hood, kick the tires, shuffle the paperwork.
YC’s Series A Diligence Checklist. Feb 2018.
Breaking Down a Typical VC/Startup Diligence Process. Tomasz Tunguz, 2014. A Redpoint Capital VC discusses his typical diligence process.
You Can Do Too Much Due Diligence. Fred Wilson, 2012. A story of due diligence gone wrong. “Trust your gut.”
6 things to pre-empt 90% of Due Diligence and Part II, A Closer Look. Christoph Janz, 2015. SaaS companies should be ready to show investors (1) key metrics, (2) a chart of MRR movements, (3) a cohort analysis, (4) a three-year financial plan, (5) customer acquisition channels, and (6) a current sales pipeline (at least for enterprise SaaS companies).
Closing
Form D. Have your lawyer file a Form D with the SEC.
Beware, Forms D Are Public. Joe Wallin, 2013. When you raise money from angels or VCs you are generally required to file a Form D with the SEC and state securities regulators. You have 15 days to file it, and it will become public information.
Announce Your Financing In Conjunction With Your Form D Filing. Only announce a financing if you have a purpose for the publicity - i.e., you’re using the new money to hire new talent. “We’ve just raised $X and are hiring 20 engineers – see our jobs page and apply now.”
Fundraising Stories
Some founders have written detailed accounts of their fundraising process. You can learn a lot from them.
Moz’s $18 Million Venture Financing: Our Story, Metrics and Future. Rand Fishkin, 2012. A detailed fundraising story with pitch deck (slightly redacted).
We’re Raising $3.5m in Funding: Here is the Valuation, Term Sheet and Why We’re Doing It. Joel & Leo, 2014. A thorough account of fundraising decisions and finding the right VCs. Includes the term sheet from the raise.
Misadventures in VC Funding: The $24 Million Moz Almost Raised. Rand Fishkin, 2011.
Mattermark Has Raised $2M in Our Second Seed Round After taking $3.4M in total funding over the past 2 years. Danielle Morrill, June 2014.
Welcoming Brad Feld to the Mattermark Team, Announcing our $6.5M Series A. Danielle Morrill, 2014.
Cap Tables
MBA Mondays: Cap Tables. Fred Wilson, 2011. Cap Tables (short for capitalization tables) are spreadsheets that show how much everyone owns of the company.
Broken Cap Tables. Henry Ward, 2014. Most cap tables are wrong. Most investors don’t track their shares. Note holders are often forgotten. Employees suffer most.
Standardized Seed Financing Docs
How do the sample Series Seed financing documents differ from typical Series A financing documents? Yokum Taku, 2010. A nice matrix comparing the details of the Series Seed, Y Combinator, and TechStars standard documents.
Don’t be creative about the wrong things. Chris Dixon, 2010. “your deal terms should be plain vanilla. These things are time tested and you are far more likely to screw things up than create value by tinkering with them.”
SAFE Financing Documents. Y Combinator 2014.
Series A Round
Best Practices for Raising a VC Round. Chris Dixon, 2011. Pick a minimum valuation, never share the names of other VCs that are interested, talk to about 5 VCs, consider offering certain VCs a “buy it now” valuation, set timelines and move quickly.
Why it’s Critical that you Reference Check Your VC. Mark Suster, 2010. Get to know VCs over a long period of time. Check a reference list, and don’t stop with the list they give you, check with companies that went through difficult times.
Does a VC’s brand matter? Chris Dixon, 2009. How much should you weigh the brand of the VCs? A little, but a lot less than most people assume.
How to Align Founder and VC Incentives: Why Fund Size Matters. Tomasz Tunguz, 2013. Fund sizes dictate VC strategy. To achieve their target returns. The larger the fund, the larger the exits must be for the venture investors to be successful. A $50M fund and a $500M fund must pursue very different investment and management styles.
Inside Versus Outside Financings: the Nightclub Effect. Chris Dixon, 2010. You may need to choose between an inside round, where the existing investors lead the new financing, or an outside round, where new investors lead. This will raise interesting game-theoretic dynamics among management, existing investors, and prospective new investors.
Down Rounds
A “down round” is where a startup’s valuation goes down. Specifically, it’s when a startup raises a new round of financing at a valuation lower than its previous round. For example, a startup raises a Series A at a $5M valuation, and then a year later raises a Series B at a $3M valuation. The year of work between the Series A and Series B should have increased the value of the company… but for some reason, it didn’t. Raising money at a lower valuation suggests something is wrong, and will likely result in a highly dilutive round of financing. That is, the founders will have to give up a big percentage of their company to raise money.
The Damaging Psychology of Down Rounds. Mark Suster, 2013. “A down round sends a signal that something is wrong with your company.” Something didn’t go according to plan.
What Deal Terms Appear in Down Round and Highly Dilutive Financings?. Yokum taku, 2008. Watch out for high liquidation preferences, “full ratchet” anti-dilution, pay to play, tranched financing, and other founder-unfriendly terms. However, when the founder’s options are down-round terms or shut down the company, then the founder may have to play ball.