How Much to Raise for a Pre-Seed Round?
Part 2 of the “How to Raise a Pre-Seed Round” Series
👋 Welcome back. This week we’re going to get into Part 2 of the “How to Raise a Pre-Seed Round” Series: How Much to Raise.
How to Raise a Pre-Seed Round Series
🤔 Part 2: How Much to Raise (this post)
Picking the “right” amount to raise is critical to your raise’s success. If you pick an awkward amount, you will fall into the no man’s land in between Pre-Seed funds and Seed funds. Set yourself up for success by picking an amount that fits well with your progress and the size of investment those investors are looking for.
Risks of trying to raise too little
The check size will be too small for serious investors and not worth their time.
You’ll be seen as not having a realistic plan of how to build and grow your business.
Risks of trying to raise too much
You’ll waste your time talking to Seed funds and larger investors who expect more traction than is reasonable for a pre-seed startup.
What is a Pre-Seed round anyways?
Many new startup founders call what they are raising a “seed” round. This makes sense because, logically, your first round is “seeding” the company. But in reality, Seed investments now look a lot like what Series A investments used to look like. According to WingVC:
We continue to see a stunning rise in the proportion of companies that are revenue-generating when raising Seed financings. 81% of companies raising Seed financings in 2020 were generating revenue, which is more than double from 40% in 2015.
Even for Pre-Seed rounds, investors increasingly expect companies to have some traction but typically not “generating revenue” in that they have a strong, repeatable process for generating revenue.
So how do you figure out how much to raise?
First, start with how much the market will give you and then figure out how you’d spend it instead of the other way around. At the end of the day, you have a lot more control over how to spend your money than what the market will give you.
Decide on a valuation
At the Pre-Seed stage, it’s much more of an art than a science. The below chart from angel investor Jason Calacanis is comical but relatively accurate from what I’ve seen. Notice that traction and whether you’re based in Silicon Valley are the two variables that have the most impact. Fortunately, those two variables are also what you can control.
Other ways to determine a valuation:
Talk to founders who’ve raised recently.
Go to where pre-seed startups are raising, like The Pitch podcast or crowdfunding websites like Republic.
Talk to investors at the pre-seed and seed stages.
For our example, let’s go with a $6m valuation cap.
Next, decide on the percentage you are willing to sell
Typically the range is between 10–20%; let’s say you’re aiming for 15%.
That comes out to $900k to raise (15% x $6m cap)
Putting together your use of funds
Take the $900k
Divide it by 18 months
Equals: $50k per month
Now that we have a monthly burn rate, you can start asking questions to put together a compelling use of funds. Here are some questions to ask:
How many customers can we reasonably acquire in that time period? How much will they pay us?
What product milestones do we need to accomplish? How does that line up with our sales strategy?
What team members do we need to hire to execute that strategy? What other resources do we need?
These questions can drive a budget and fit into a compelling reason why the funds will take you to the next level. A critical, but often missing, aspect of a pitch is a clear narrative about how the funds will get you from where you are to a place where you’ll be able to raise a strong Seed round in 18-24 months.
Closing Thoughts
It’s a good idea to treat every raise like it will be your last. Have at least a workable plan to reach ramen profitability (monthly revenue = low burn rate).
Lastly, if you do this analysis and realize that the amount you can raise won’t have a material impact on your business, it may be a good idea to go back to the drawing board and see how you can make further progress without raising yet.
Continue Reading → Part 3: How to Find Your First Investor