How to raise seed capital?
Updated: Sep 10, 2021
Ideas are cheap. In fact, they have zero value. Why? There is no market for them. Try selling an idea to someone. If you succeed, tell me because then we can build a startup that sells ideas :).
But all startups start with an idea. Victor Hugo said No force on earth can stop an idea whose time has come. No wonder our civilisation is obsessed with world-shattering ideas. But only ideas don't take us anywhere. We need to bring them to reality, build something out of them, unlock their value. The best startups do that. Their founders find a problem worth solving and solve it better than anyone else. If you are reading this, chances are you are one such founder trying to solve a big problem. I am sure you are working hard to solve a big problem or find a better solution than the existing ones.
You might already know exactly how you want to go ahead or you might be uncertain about some details. Don't let it bother you. You are on the right path. But you will need money to execute your idea and bring it to life. How do you find this money?
Pre-seed, seed, post-seed capital – what is the difference?
People like to use so many terminologies that it can get confusing. If your startup is a business plan, should you raise seed or pre-seed capital? If you have created a prototype, should you raise post-seed capital? When is the right time to raise a pre-series A round? There are no right or wrong answers. My advice is to ignore the jargon and focus on the process. If I were you, I would call all the money I need to build and launch my product seed capital. You can raise the seed money in one shot or spread it over different rounds.
How do you raise this seed capital to build your product? There are multiple ways of doing it. I am sure you know about VCs and other investors who invest in startups. You must be thinking they are the best people to ask for money because they understand startups. You are right, at least to an extent. VCs invest in startups. That's their raison d'être. But I am sure you know convincing a VC to invest in your startup is not a piece of cake.
Some, not all, VCs invest seed capital. Most VCs come after you have created an MVP with some revenue. Revenue or traction shows validation because some customers are willing to pay for your product. Most VCs leave the seed-stage investing to angel investors and smaller VCs. How do you find and approach these seed-stage VCs? But before you start talking to these VCs or other seed investors, you have to become investor-ready.
How to prepare for your first equity round?
You can follow Abraham Lincon's advice who said, "Give me six hours to chop down a tree and I will spend the first four sharpening the axe".
All early-stage investors look for three things in startups – founder pedigree, a promising market, and some evidence of success. You can't turn yourself overnight into Mark Zuckerberg, but an updated LinkedIn profile (for all founders) is a good first step. You should also create a LinkedIn Page for your startup. A live website gives a good impression because it shows you have started working on your idea. The website can just be a landing page that you are using to collect leads.
You should create a crisp investor deck (10–12 pages) that explains the product, TAM, team, competitors, revenue forecast, and fund usage. You must be a domain expert. You need to understand your industry better than everyone. That will add a lot of conviction to your conversations. It will also help you in finding a good solution.
It's is too early to talk about unit economics because you are pre-revenue, but VCs like founders who have researched their future unit economics. It helps to know the unit economics of your competitors and the industry. You should build a basic financial projection model to forecast your future revenue and expenses. You should also know how long will your MVP take and how much money you will need to build it. If you foresee any other expenses outside salaries and IT infra, use them in your financial model.
Seed-stage VCs – How do they work?
There are a few seed-stage VCs in India. Some of the marquee names also invest at the seed stage. But India is teeming with startups. Thus, the competition is intense. Every VC receives dozens of investors decks every day. They are so busy that sometimes they can't even reply to all of them. How can you stand out from the rest?
The trick is to find the right VC for your startup. While you are doing your investor presentation groundwork, you should also start VC research. Most VCs mention their investment thesis, fund philosophy, and cheque sizes on their websites. You can look at their portfolio companies to see their interest areas. A good step would be to speak to a few founders from their portfolio companies to understand their investment process. Compile a list of VCs that are best for your startup and email them your deck. Don't lose hope if you don't get an immediate response. Give them some time to chew over your deck.
You can try contacting VCs over LinkedIn, but I don't recommend it because everyone does it. It's difficult for VCs to reply to each query. It's better to stand out through a brilliant deck. If your idea is compelling and you look like a good founder, they will schedule a call with you. Once you have a meeting, forget your pitch and try to be authentic. Explain to them how you are solving this problem better than others. The competition is intense, and you might need to approach several VCs to get seed capital.
Angel Investors – How to contact them?
Most VCs have delegated early-stage investing to angel investors. Most of these angel investors are HNIs who invest in early-stage startups and understand the risks. Many of them have made money in startups and are passionate about technology and startups. These angels can be invaluable to you. They were one of you a few years ago.
The biggest challenge in reaching out to angel investors is we don't know them. Unlike VCs, most of them don't have a website or an online presence that tells us about their investment thesis. The easiest way to reach these angels is through a platform like Angel List or Mumbai Angels. These platforms have thousands of investors who invest anything between $10,000 to $100,000 in one startup. In a typical angel round, a bunch of investors pool money to invest in one startup.
The biggest angel investors have their fund and investment teams where they invest in both early and late-stage startups. These are usually industrial or tech entrepreneurs who have millions of dollars to invest in both listed and unlisted shares. We call them family offices. Although most family offices have a website, they don't have a big online presence. They don't advertise their deals and usually co-invest with other VCs. One good way to find the active ones is through the recent investment news. You will find their names in the transaction details along with the VCs who led the round. The investment managers of these family offices are more responsive over LinkedIn because they don't get as many queries as VCs.
Accelerators, Incubators, and Grants
Accelerators and Incubators are organisations that groom and mentor early-stage startups. They can be either privately run or government-sponsored. The most common model is to take some sweat equity in the startup for mentorship, office space, and other support services. The best ones also help their portfolio companies in their future equity raises.
Many accelerators and incubators also invest seed capital in the startups they select. The best and the most popular seed money startup accelerator is Y Combinator (YC). I strongly encourage you to apply for their programme if you have conviction in your idea. But the competition to get through YC is immense. Even the best founders find it difficult to crack YC.
One caveat: You should be careful about your accelerator choice. India has hundreds of accelerators, and most of them are pathetic. If you are stuck with a bad accelerator then you are doomed. The good news is accelerators have to market themselves to attract the best startups. Thus all good accelerators have a detailed website and Linkedin page. You will find the list of their portfolio companies on their website. Read about these companies, speak to their founders and analyse their performance (how many have gone to their Series A).
If your startup is about creating a positive impact on the lives of underprivileged people, you should also consider grants. Several organisations (both government and private) give grants to impact startups. The problems are bureaucratic process and longer decision time. But grants are a good source of seed capital. The added advantage is most grants are free, and you don't need to swap your equity for money.
The common pitfalls you should avoid while raising your seed round?
Raising capital is fraught with uncertainties. There are so many moving parts, and things always go wrong. One bad conversation can set you back by weeks because you might have to start again. Capital raising is a time-consuming process. It is also more of an art than a science. But you should keep a few guidelines in mind while raising seed capital.
Preparation – Seed investors, more than anyone else, take a bet on the founders. Sometimes they invest when there is not even a prototype. Paul Graham (YC founder) says seed investors look for 3 things: formidable founders, a promising market (huge TAM), and some evidence of success. The first two are entirely under your control. You should be fluent in 2 things: storytelling and numbers before you speak to investors. You should be able to explain your solution in simple words and know your numbers.
Validation – How do you achieve validation? By doing a lot of groundwork before approaching investors. It's a huge positive if you can show some customers will pay for your product. You might need to invest some capital to build a prototype. Many founders bootstrap for the initial period. Some ask their friends and family for the initial capital. All of us don't have that option, but investors respect you if they know you are putting your career and money on the line. Nothing speaks louder than the skin in the game.
Research – Before approaching any investor, try to learn as much about them as possible. What is their investment thesis, fund philosophy, cheque size, etc.? Speak to the founders of startups they have funded. It will save time because you will approach the right investors.
Valuation – Seed round is riskier than the late-stage investment. You already know ideas have no value, and you are selling your expertise and capabilities. The future is quite uncertain. Don't be hell-bent on the valuation. Keep it open. Aim for a good investor who can help you with other things outside money. If your startup becomes a success, the initial valuation won't matter. Both you and your investors will become rich.
Patience – Remember, it is a numbers game. Fundraising takes time. Most founders meet hundreds of investors before they can raise money. 90% of investors will say no to your idea. That's the nature of the game. Accept it and play accordingly. The more people you talk to, the higher the chance that someone will like you and your idea.
Raising seed investment is difficult. But millions of founders raise capital every year. So it's not impossible. Luck plays a big part, but you also need to put in a lot of hard work. All the best!
I strongly recommend reading Paul Graham's essays. There is no better author than him on startups, seed investing, and life.