“Company X secured YY amount of funding in Series A.”
“Company M raised a disclosed amount in a seed round hosted by investor S.”
I am sure, just like me, you are coming across such news every day.
But let’s face it, not all of us understand the jargon behind these news and funding rounds.
Neither did I, until some time ago.
So, I started reading. And read some more about funding rounds, stages and how they work.
And then, I thought of writing this blog to acquaint you with these rounds and the whole ball of wax.
Table of Contents
- What do funding rounds mean?
- Where does the “fund” in funding come from?
- Types of funding rounds
- Conclusion
Funding rounds: What do they mean?
Let’s start with the basics, and understand what are funding rounds and what happens in them.
Funding rounds are processes and activities that investors organize in order to understand and invest in businesses. Brands participate in these fundraising events to secure funding for business development and operational initiatives in exchange for equity rights or debt.
These funding opportunities are accessible for brands having scalable business models and plans to grow further.
Let’s talk about Shark Tank here. What do you think happens there?
Brands come and pitch about their offerings and USPs, and what they come seeking for. The Sharks (read: the investors) understand the business dynamics a bit better, dig deeper into the target audience, without missing the bottom line - revenue and ROI and make a counter offer against the actual ask. Negotiations happen, and if all parties agree, a deal is struck.
Funding rounds also happen in a similar, albeit a much more detailed fashion.
Where does the “fund” in funding come from?
Obviously, if we are talking about funding rounds, we can’t put this aside.
Who actually provides funding to these startups? That’s what I will answer here.
1. Accelerators
Accelerators are those who provide mentoring, guidance and limited funding to startups.
They bring a plethora of connections with them, which helps you get acquainted with investors and possible business partners.
Startups with an existing MVP can get the best mentorship from accelerators.
In fact, accelerator programs are one of the primary sources to secure funding.
Y Combinator, 500 Startups, SeedCamp, Launchpad LA are some of the great and most successful accelerators.
2. Incubators
Incubators may not always provide funding, but they help entrepreneurs polish their ideas, and build their offerings and business operations from scratch.
Incubators, unlike accelerators, are open-ended, charging entrepreneurs a fee based on their parameters and requirements.
ZX Ventures, P&G Ventures, SAP.io Venture Studio, NASSCOM are examples of incubators.
3. Angel Investors
Angel investors are generally individuals who have experience and funds to invest in startups they believe in.
They are usually successful entrepreneurs themselves, which gives them an advantage of understanding business ideas and operations better.
They provide funding from their own money (unlike VCs) in exchange for equity. In many cases, they divide their funding into loan and equity ownership, requiring the startup founder(s) to repay the loan at a predetermined interest rate.
Angel investors, also known as seed or private investors, are responsible for a startup’s market and economic growth.
It is often said that angel investors invest in entrepreneurs, rather than their idea’s growth potential.
Jeff Bezos (Amazon), Paul Buchheit (Y Combinator), Anupam Mittal (Shaadi.com), Jeff Clavier (SoftTech VC), Marissa Mayer (Yahoo!) are some examples of angel investors.
4. Venture Capitalists
Venture capitalists or VCs are firms that invest in startups having high growth potential.
Naturally, the investments come with their set of risks. However, VCs go for brands that have a substantial number of customers accompanied with a successful business model.
The capital amount for VCs is much higher than that of angel investors. Unlike angel investors, VCs are employed by financial organizations, where they invest other people’s money.
However, the role of VCs is not limited to funding, but to nurture your startup, help it grow and ultimately cash out once they have earned their ROI.
Firms like Sequoia Capital, Google Ventures, First Round Capital, Qualcomm Ventures, Khosla Ventures are examples of VCs.
Types of funding rounds
Now, the definition of funding rounds is out of the way, let me share about the types of funding rounds.
Be aware, it can be a bit overwhelming, but I promise you won’t be clueless about these things after this.
1. Pre-seed round
Pre-seed funding rounds happen when the startup or the business venture is merely an idea.
That’s not to say that the business might not be generating revenue, but no particular operations are in place at this point.
I think I will explain it better with an example.
Say, you want to plant roses in your garden. You got the seeds, great. That is your idea. You prep the soil with compost and fertilizers. That would be your pre-seed funding. This ensures that the seed grows into a beautiful plant and gives you even more beautiful roses. That would be your revenue.
Who can participate in pre-seed rounds?
An entrepreneur with an idea backed with details of target audience and revenue model can participate in the pre-seed round.
It is not mandatory to have an MVP or a product-market-fit at this stage.
Prerequisites for pre-seed round
Pre-seed rounds are usually quite simple and straightforward. However, they can often last for a long time. The most important requirement for this is that your idea should be a solution to a burning problem.
Moreover, you should have a plan in place in order to spread awareness about your offerings.
Investment range in pre-seed
Pre-seed funding raises an amount anywhere from US $50,000 to US $250,000.
Funds are usually provided by the founders themselves or from their friends and family.
Kinda like what we did at TCC. Mehul and I invested some funds when we started to get our operations rolling.
2. Seed/Angel round
One of the most famous (notoriously so), the seed or the angel round, is typically the first funding startups acquire against equity ownership.
This round enables startups to set up operations, gain financial stability and focus on market research.
Continuing our example from the previous section. You sowed rose seeds, and you are watering them as instructed. This watering is your seed/angel round funding.
Proper watering and nurturing in the initial stages will yield a healthier plant and roses. Similarly, the seed round empowers a startup to grow and take its first steps in the market.
Who can participate in seed rounds?
Startups with a tried and tested MVP or an MVP on the way have the best chances of success in seed rounds.
Angel investment happens for products and business ventures that have acquired some interest from the audience.
Prerequisites for the seed round
The problem, a scalable solution in the form of an MVP or a full-fledged product, user feedback and information on the target addressable market (TAM) along with possible business development strategies.
With this, you need a proposal of how and where you would use the funding, often in excruciating details.
Well, who said raising funds was easy? 😄
Investment range in seed round
Seed rounds raise anything from US$ 10,000 to US$ 2M for startups, based on growth potential, industry and risk involved.
Angel investors, in essence, are risk takers as a consequence of investing in startups without any successful records or acceptance in the industry.
Did you know: The origins of the term “angel investor” go way back to 1978, when William Wetzel, a then-professor at the University of New Hampshire conducted a study of where startups raised seed capital in the USA. He referred to these individuals and firms as “angels” since they supported these startups when no one else did.
3. Post-seed / Pre-series A / Early A round
Probably one of the smallest (in terms of investment amount) of the funding rounds, a post-seed round is essentially a raise, a boost if you will, to help the management and leadership team reach their business goals faster.
Say, your roses are thriving. But you want to grow two roses instead of one every week. In this case, you will either plant more roses in the same or another pot, or you add fertilizers and re-pot them if required.
Post-seed is a rare round, which often poses as a gateway to a larger round in the near future.
Did you know: About 60% of companies that reach pre-series A funding fail to make it to Series A, so the success rate is only 30%-40%[1].
4. Series A Funding Round
Funding in this round comes with the highest amount of risk, mainly because businesses are at an early stage here.
They have a lot to prove, since they are relatively new in the market and are yet to understand the audience response to their product.
That also means that Series A is the round where many startups fail, also known as the “Series A crunch” which is the last point of a majority of early-stage startups.
Who can participate in Series A rounds?
Brands securing fundings in the Series A round are startups with a huge scope of growth and expansion.
They might have tested their ideas and offerings with a small subset of their target audience, gained traction and are seeing a possibility of good growth powered by external funding.
Prerequisites for Series A round
You should have a long-term business development plan and revenue generation strategies with a model that works and has seen success before.
In layman terms, Series A is like a “do or die” round. It differs from its previous rounds because investors are not just looking for good ideas here. Instead, they are looking for ideas combined with winning strategies to give them their ROI.
Keep in mind that businesses securing seed-funding or angel investments might not be able to garner much interest in Series A.
In fact, less than 10% of seed-funded companies go on to raise Series A rounds[2].
Investment range in Series A
In Series A rounds, startups can raise anything from US$ 2M to US$ 15M, with the number varying based on industry and technology.
The median investment in 2021 in Series A was US$ 24M.
5. Series B Funding Round
This is the round when you bulk up. Startups participate in Series B funding to expand their market, speed up their development and focus on business expansion with dedicated resources.
If I have to take another example, the Series B round is like losing the last 10 kilograms. You want to lose fat, and gain muscle, which leads to consuming more protein.
Who can participate in Series B funding rounds?
Companies that already have a substantial user base and a definitive brand positioning can participate in Series B rounds.
Series B helps startups meet their customer demands in a head-first way instead of the ruthless prioritization approach.
Prerequisites for Series B round
Investors at this stage already know the power of your product and what it is doing for the audience.
What they are more interested in is how can you grow from x to 10x? Do you have a plan in place? Is it even possible? What would be the investment required for this?
This growth is usually multi-faceted, focusing not only on higher customer acquisition, but also higher employee acquisition.
Investment range in Series B
But naturally, the Series B round investors have to pay a higher equity price as opposed to the Series A investors.
The round happens between US$ 7M to US$ 10M, where you will find venture capitalists and private equity firms in high numbers.
You will often find the same investors from the previous round, investing in this round as well to ensure that their money is not in losses.
6. Series C Funding Round
Well, you must be thinking, what exactly comes after business expansion? I did too 😄
Well, it is definitely much more than we can imagine.
Companies raise Series C funding to expand to new markets, develop new products, and ally with similar companies for mutual success.
Say, you want light blue roses. What will you do? You will combine blue and white roses in a pot, as well as stem them to mix their nutrients. This would neither harm the white roses, nor the blue ones. That’s your Series C funding round.
Who can participate in Series C rounds?
Brands looking to go international often raise Series C funding.
Companies looking to increase their valuation, expand through business partnerships, collaborations and distribution channels go for Series C.
Because the product is already accepted in the market, that too pretty well, the investment bankers and equity firms grab this opportunity to turn them into industry leaders.
Ofttimes, this round is the last push before a company goes for an IPO (Initial Public Offering) or an acquisition.
Prerequisites for Series C round
I will keep it simple.
Data. Data. Data.
You need to get down and dirty to extract customer data, growth metrics, trends, projections, historical patterns, everything for this.
Hard data points are the only way to convince the investors here, because they are not willing to take a risk.
Investment range in Series C
Companies in the Series C funding round raise US$ 26M on an average, with a valuation of US$ 100M to US$ 120M.
Yeah, that’s how founders with Series C funding seem like.
7. Series D Funding Rounds and Beyond
Companies go beyond Series C funding rounds only for either of the two reasons.
One. They want to go for major acquisitions, or an IPO.
Two. they did not meet the expectations laid out in Series C.
In the second scenario, the round after Series C would be called a down round, which affects the company valuation and their overall revenue.
Other than that, Series D and the funding rounds beyond that help brands take the last leap before going public.
A very, very tiny number of startups reach this stage, and if they do, there’s a lot at stake.
(I am sure I don’t need to remind you of some recent IPO fails.)
8. Pre-public / Bridge round
Bridge rounds are basically the stopgaps between larger rounds. This happens to help companies reach their expected goals.
These rounds can either happen to keep the company afloat amid a financial crisis, or to help them capitalize to prepare for an upcoming IPO.
Robinhood, a financial services company providing a stock trading app, raised a US$ 1B bridge round in January 2021, six months before they went public.
Did you know: 29% of startups fail because they run out of money[3].
Conclusion
That’s all about the funding rounds I know.
Other types of funding rounds that I didn’t mention here include – crowdfunding, loans, grants, and private investors.
Each funding round comes with a new valuation of the startup, not to mention new expectations.
Investors not only seek ownership equity, but also for a say in operations and business development.
Whereas, founders need to play a comprehensive role, aiming for company growth, business growth and team growth.
While there can be various reasons for startups to fail, it is imperative to be aware and understand what your brand lacks, where does it lacks and how you can fill those gaps. Funding, being one of them.
Hope this blog has enlightened you as much as it has me.
Do you think funding helps? Drop your answer in the comments below.