How to raise your Seed round 101 — Chapter 3: Stuff to know

14 min readDec 29, 2018

This story is part of the “How to raise your Seed Round 101” which is actually divided between the following Chapter:

Now we have a plan and we crafted the fundraising materials we needed but it is not enough.

Here will follow some valuable stuff to know when you are raising money. Most of them are from @PaulGraham but not only :)

Fundraising in one sentence

Avoid investors until you decide to raise money, and then when you do, talk to them all in parallel, prioritised by expected value, and accept offers greedily. Don’t introduce complicated optimisations, and don’t let investors introduce complications either.

You could also see fundraising the following way: it’s about getting money to eliminate risks. Thus, you should tell investors “I’m raising the Seed round to eliminate <risk name> and <risk name>”. Risks include founding team risk, market acceptance risk, product risk, cost of sales risk, launch risks, and so on.

Get the first commitment

The biggest factor in most investors’ opinions of you is the opinion of other investors. Getting the first substantial offer can be half the total difficulty of fundraising

Even a day’s delay can bring news that causes an investor to change their mind. So when someone commits, get the money. Knowing where you stand doesn’t end when they say they’ll invest. After they say yes, know what the timetable is for getting the money, and then babysit that process till it happens.

Tip: Make sure to use a tracking system to be on top of everything as described in Part 1: the Plan

Since getting the first offer is most of the difficulty of fundraising, that should be part of your calculation of expected value when you start. You have to estimate not just the probability that an investor will say yes, but the probability that they’d be the first to say yes. Some investors are known for deciding quickly, and those are extra valuable early on.

Conversely, an investor who will only invest once other investors have is worthless initially. And while most investors are influenced by how interested other investors are in you, there are some who have an explicit policy of only investing after other investors have.

Tip: Make sure to qualify your lead using the expected value cheat sheet I created. It will ease your entire process

The notion of lead investor

Up till a few years ago, startups raising money in Seed phase would usually raise equity rounds in which several investors invested at the same time using the same paperwork. You’d negotiate the terms with one “lead” investor, and then all the others would sign the same documents and all the money change hands at the closing. Series A rounds still work that way, but things now work differently for most fundraising prior to the series A

When you first start fundraising, the expected value of an investor who won’t “lead” is zero, so talk to such investors last if at all.

Good or bad investors?

The best investors rarely care who else is investing, but mediocre investors almost all do. So you can use this question as a test of investor quality.

What does also make an investor good? They do have domain expertise, intro for business development and intros for series A.

Have multiple Plans

Many investors will ask how much you’re planning to raise. This question makes founders feel they should be planning to raise a specific amount. But in fact, you shouldn’t. It’s a mistake to have fixed plans in an undertaking as unpredictable as fundraising.

The right strategy is to have multiple plans depending on how much you can raise. Ideally, you should be able to tell investors something like: “we can make it to profitability without raising any more money, but if we raise a few hundred thousand we can hire one or two smart friends, and if we raise a couple million, we can hire a whole engineering team, etc.”

How much do you need to raise?

Amount to Raise = Number of people you want to hire * monthly cost *18 months + (additional expenses)

If you’re so fortunate as to have to think about the upper limit on what you should raise, a good rule of thumb is to multiply the number of people you want to hire times $15k times 18 months. In most startups, nearly all the costs are a function of the number of people, and $15k per month is the conventional total cost (including benefits and even office space) per person. $15k per month is high, so don’t actually spend that much. But it’s ok to use a high estimate when fundraising to add a margin for error. Be sure to adapt this cost to your country. If you have additional expenses, like manufacturing, add in those at the end. Assuming you have none and you think you might hire 20 people, the most you’d want to raise is 20 x $15k x 18 = $5.4 million

Underestimate how much you want.

Though you can focus on different plans when talking to different types of investors, you should, on the whole, err on the side of underestimating the amount you hope to raise.

For example, if you’d like to raise $500k, it’s better to say initially that you’re trying to raise $250k. Then when you reach $150k you’re more than half done. That sends two useful signals to investors: that you’re doing well, and that they have to decide quickly because you’re running out of room. Whereas if you’d said you were raising $500k, you’d be less than a third done at $150k. If fundraising stalled there for an appreciable time, you’d start to read as a failure.

Saying initially that you’re raising $250k doesn’t limit you to raising that much. When you reach your initial target and you still have investor interest, you can just decide to raise more. Startups do that all the time. In fact, most startups that are very successful at fundraising end up raising more than they originally intended.

I’m not saying you should lie, but that you should lower your expectations initially. There is almost no downside in starting with a low number. It not only won’t cap the amount you raise but will, on the whole, tend to increase it.

Be profitable if you can.

You will be in a much stronger position if your collection of plans includes one for raising zero dollars — i.e. if you can make it to profitability without raising any additional money. Ideally, you want to be able to say to investors “We’ll succeed no matter what, but raising money will help us do it faster.”

And be sure to know when you gonna be profitable (depending on the different scenarios)!

In practice, there are two ways startups hose themselves between Seed round and round A. Some are just too slow to become profitable. They raise enough money to last for two years. And then, it doesn’t seem any particular urgency to be profitable. So they don’t make any effort to make money for a year. But by that time, not making money has become habitual. When they finally decide to try, they find they can’t.

Assume the money you raise will be the last you ever raise. You must make it to profitability on this money if you can.

Don’t optimize for valuation.

When you raise money, what should your valuation be? The most important thing to understand about valuation is that it’s not that important.

When you start fundraising, your initial valuation (or valuation cap) will be set by the deal you make with the first investor who commits. You can increase the price for later investors if you get a lot of interest, but by default, the valuation you got from the first investor becomes your asking price.

So if you’re raising money from multiple investors, as most companies do a seed round, you have to be careful to avoid raising the first from an over-eager investor at a price you won’t be able to sustain. You can, of course, lower your price if you need to (in which case you should give the same terms to investors who invested earlier at a higher price), but you may lose a bunch of leads in the process of realizing you need to do this.

What you can do if you have eager first investors is raise money from them on an uncapped convertible note with an MFN clause. This is essentially a way of saying that the valuation cap of the note will be determined by the next investors you raise money from.

It will be easier to raise money at a lower valuation. It shouldn’t be, but it is. A startup that investors seem to like but won’t invest in at a cap of $x will have an easier time at $x/2

Yes / No before Valuation

Some investors want to know what your valuation is before they even talk to you about investing. If your valuation has already been set by a prior investment at a specific valuation or cap, you can tell them that number. But if it isn’t set because you haven’t closed anyone yet, and they try to push you to name a price, resist doing so.

Tell them that valuation is not the most important thing to you and that you haven’t thought much about it, that you are looking for investors you want to partner with and who want to partner with you, and that you should talk first about whether they want to invest at all.

Since valuation isn’t that important and getting fundraising rolling is, we usually tell founders to give the first investor who commits as low a price as they need to. This is a safe technique so long as you combine it with the next one

Beware “valuation sensitive” investors.

You should therefore never approach such investors first. While you shouldn’t chase high valuations, you also don’t want your valuation to be set artificially low because the first investor who committed happened to be a compulsive negotiator. Some such investors have value, but the time to approach them is near the end of fundraising when you’re in a position to say “this is the price everyone else has paid; take it or leave it” and not mind if they leave it

Tip: If you ended up talking with a valuation sensitive investor at the beginning of your process then the rule of doing breadth-first search weighted by expected value already tells you what to do in this case: slow down your interactions with them.

Lowering your price is a backup plan you resort to when you discover you’ve let the price get set too high to close all the money you need.

Don’t try to look into the future because (a) the future is unpredictable, and indeed in this business, you’re often being deliberately misled about it and (b) your first priority in fundraising should be to get it finished and get back to work anyway.

If someone makes you an acceptable offer, take it. If you have multiple incompatible offers, take the best. Don’t reject an acceptable offer in the hope of getting a better one in the future.

Don’t sell more than 25% during Seed round

A rule of thumb is not to sell more than 25% in Seed round, on top of whatever you sold in “friends and family”, which should be less than 15%. If you’re raising money on uncapped notes, you’ll have to guess what the eventual equity round valuation might be. Guess conservatively.

Don’t raise too much

Don’t raise too much. If you raise an excessive amount of money, it will be at a high valuation, and the danger of raising money at too high a valuation is that you won’t be able to increase it sufficiently the next time you raise money.

It’s very dangerous to let the competitiveness of your current round set the performance threshold you have to meet to raise your next one, because the two are only loosely couple

The more you raise, the more you spend, and spending a lot of money can be disastrous for an early stage startup. Spending a lot makes it harder to become profitable, and perhaps even worse, it makes you more rigid, because the main way to spend money is people, and the more people you have, the harder it is to change directions. So if you do raise a huge amount of money, don’t spend it.

Signaling risk

In principle, you might have to think about so-called “signaling risk.” If a prestigious VC makes a small seed investment in you, what if they don’t want to invest the next time you raise money? If you have the luxury of choosing among seed investors, you can play it safe by excluding VC firms. But it isn’t critical to.

Getting the lead

The way to get a lead is to spur one of the larger, most interested investors into making an offer. Ask him what it’s going to take to make a deal happen, what kind of terms he had in mind, what would make this an exciting deal. You can make momentum moves with this request, by making it clear that you’re going to other investors and having the same conversation with them.

The Competitive Deal

The second you have a single term sheet, you need to move very quickly to get a second one. You don’t have a lot of time, because momentum at this point is crucial to closing and your first lead does not want to feel like he’s being dicked around. Your second term sheet will be easier to get than your first, but it will make a huge impact on your deal. Without a second term sheet, you will be in a position to take whatever crappy terms the original lead provided, and it’s quite possible that the terms could get worse (or even go away!) as the one-term sheet deal drags out. Figure out who those 2 or 3 potential other leads are and hustle the hell out of them.

Herding the cattle:

Once you start working the competitive leads, you need to start getting word out to all of the interested parties, that this deal is getting hot, and that you could start moving to close in very short order. This is key to continue momentum with the deal and keep your potential leads hot. If they know you have $200–300k following their investment, then they feel even better about your company knowing all the other folks are interested too. This makes them anxious about the competitive situation you’ve created because now your deal has been validated. On the other side, the small investors that were interested in following, now feel that this is a real deal that they can really follow, and since there are big guys involved putting in real money, they’ll essentially commit to an amount without necessarily having all the final terms. Nail those follow-on investors to an amount. Make sure those competitive leads know that you’re bringing a lot of extra money to the table.

Anti-Collusion:

Once you lock on your lead investor, there are a lot of terms still left to fill out. The heavyweights in your deal will have the inclination to collude to make the terms better. They know they’re in the deal and the delays that happen when final docs are getting fully locked makes them rambunctious. Keep it short and sweet with each potential colluder, and draw a very straight firm line that the material terms are not changing. That kind of leadership will keep you from having what I call an investor revolt before you even get the deal done

What to do if you prefer investor A rather than investor B?

If you’re getting far along with investor B, but you’d rather raise money from investor A, you can tell investor A that this is happening. There’s no manipulation in that. Do not, however, tell A who B is. VCs will sometimes ask which other VCs you’re talking to, but you should never tell them. Angels can sometimes tell about other angels because angels cooperate more with one another. But if VCs ask, just point out that they wouldn’t want you telling other firms about your conversations, and you feel obliged to do the same for any firm you talk to. If they push you, point out that you’re inexperienced at fundraising — which is always a safe card to play — and you feel you have to be extra cautious.

What if you are turned down by some investors:

If you’re not a master of negotiation (and perhaps even if you are) the best solution is to tackle the problem head-on and to explain why investors have turned you down and why they’re mistaken.

Momentum & Urgency:

Investors are fickle creatures, they are motivated by fear and greed, and without it, they will take their time and hem and haw at every turn. They will turn a 3-week process into a 6-month process. Time is not your friend! The longer the process drags out, the more it seems that nobody is interested in your deal, and the less likely you are to actually get one… and even if you do, with every day you will be sinking more time and energy into the process and less into your company.

Tip: Every communication you have with prospective investors must include a sense of momentum and urgency in the deal process. “Things are moving quickly.” “My day is packed with meetings.” “Many parties are interested.” “This deal could come together quickly.”

You back this up with hard work and serious hustle. Keep your update conversations short. Make the Urgency a reality by working your ass off. It will become a self-fulfilling prophecy and your deal will get done.

Tip: shift the balance of power: “If you commit early, I m sure I 'll do the composition with you included” or “I have 25 meetings in the next two week”

Don’t spend too much:

The other way companies hose themselves is by letting their expenses grow too fast. Which almost always means hiring too many people. You usually shouldn’t go out and hire 8 people as soon as you raise money at Seed Round. Usually, you want to wait until you have growth (and thus usually revenues) to justify them. A lot of VCs will encourage you to hire aggressively. VCs generally tell you to spend too much, partly because as money people they err on the side of solving problems by spending money, and partly because they want you to sell them more of your company in subsequent rounds. Don’t listen to them

Now that you know the stuff, i ll suggest you to have a look to the attitude to adopt

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