As an angel investor who primarily works with tech startups in the seed stage, I see a lot of founders struggling with the same challenges. Often they don’t know what I’m looking for in our pitch meeting, they’re unsure of the other funding sources available to them, or they’re asking for seed funding at the wrong stage in their development.
Seed funding is the most critical round of early stage funding. As the final funding stage before entering the Series A, B, and C rounds, it will provide your startup with the capital it needs to perfect your prototype and enter the market positioned for success.
Here’s what you need to know about securing seed funding and what your investors want to see in your pitch:
What Is Seed Funding?
Seed funding is the first official equity stage of funding that follows the pre-seed funding stage. Seed funding often comes from angel investors as well as the founders themselves and their friends and family. It can also come from institutional sources, such as Florida Funders, a hybrid venture capital firm and angel investor network based out of Tampa that discovers, funds, and builds early-stage technology companies.
Seed funding is one of the earliest stages of funding, used to form the company itself, and thus, startups in this stage are fairly high risk. While you should have some traction, your startup likely hasn’t had the chance to prove itself in the market yet.
What’s The Difference Between Early Stage Funding And Seed Funding?
All seed funding is early stage funding, but not all early stage funding is seed funding. Early stage funding is an umbrella term used to describe the two stages of funding that take place before your startup gets into Series A, B, and C funding rounds. Within early stage funding are two stages: pre-seed and seed funding.
What Is Early Stage Funding?
Early stage funding is the funding raised before getting into your startup’s first significant round of venture capital funding. It includes both pre-seed and seed capital, which is used to help your startup become self-sufficient and profitable or to help you get to your next funding round so additional capital can be raised. It’s often used to create a minimum viable product, for extensive market research, or to pay your founding team.
The investors in early stage funding, who are most often angel investors, typically provide capital in exchange for a large stake in the company.
Sources Of Seed Stage Funding
In addition to bootstrapping your startup or getting capital from friends and family, there are several sources where your startup might find seed stage funding, including angel investors like myself.
- Angel investors – Recently, angel investors who provide funding at this stage to multiple companies at the same time have begun to be referred to as “super angels.” They’re typically investing their own money and will lead the capital raised in multiple rounds, beginning with the seed stage.
- Micro VC firm – A micro venture capital firm invests pools of money sourced from various investors into projects that are too young to capture the interest of traditional VC firms.
- Genesis VC round – This is a new type of seed market that’s developed within the past few years. Genesis VC funding usually comes with capital of around $600k or less, often in the form of a convertible note from small seed funds. This round is designed for pre-product startups with a small team if any.
- Incubator – Incubator funding offers seed investments that are similar in value to the investments of accelerators. Oftentimes, cities will offer these to startups to foster business development in the local area.
- Accelerator – Accelerators often provide mentoring, professional services, a workspace, and a small seed investment (usually around $25k) in exchange for a stake in the company.
- Corporate seed funds – Large established enterprises like Google sometimes offer seed funding to startups working on innovative tech solutions with the potential to eventually become acquired by the larger company.
- Crowdfunding – Crowdfunding has gained a lot of traction in recent years, becoming a major source of seed stage funding for young startups. One of the most popular crowdfunding startups is Kickstarter, which helped startups raise a total of 5.43 billion in 2020 alone.
Debt and Convertible Funding
- Debt – Debt funding usually comes in the form of bank loans or loans with interest from family and friends. At times, angel investors or even venture capitalists may issue a loan rather than an equity investment.
- Pure Equity – For most early-stage companies it is difficult to get a priced round. This includes equity investments, which are based on a valuation. However, VCs may be able to give a dollar valuation and offer pure equity investments without subjecting yourself to a downround or limitation. Pure equity rounds are one-time events, and there’s just one lead investor who agrees to the terms.
- Convertible Notes or SAFE (Simple Agreement for Future Equity) – Usually based on a future round of financing with a discount, this is the most company-friendly of convertible debt instruments. In a convertible note or SAFE, you’re setting your own valuation, but you have the power to set a cap on the valuation and offer a discount to SAFE or convertible investors in the next round. Convertible or SAFE investments give the entrepreneur the opportunity to keep raising money on those terms without a strict deadline. There is no lead investor, all investors come in at the same level.
Due to how startup-friendly the terms of convertible notes or SAFE investments are, most rely on these two forms of investments at the seed funding stage.
Angel Investors vs Venture Capitalists:
Angel investors and venture capitalists are two common sources of seed stage funding. These two kinds of funding are similar in some ways but have more differences overall.
The source of both of these types of funding comes from wealthy individuals, and both VC funding and angel investments are given to riskier, early-stage startups, often in the tech space. While angel and VC funding are usually in exchange for equity in the company, they both may come in the form of convertible debt as well, which gives your young startup the opportunity to raise large sums of money quickly, even with a low valuation.
Beyond that, there are several distinctions between these two kinds of funding.
Venture Capital Funding:
- Comes from a professionally managed fund of pooled investments, managed by the VC firm
- Has additional requirements for funding, like a board seat or an experienced founder
- Typically starts around $1M
- Is primarily a financial investment
Angel Investor Funding:
- Comes directly from the angel investor’s personal wealth
- More likely to invest early on
- Can start as low as $10k
- Often includes mentorship and guidance outside of the financial investment
How To Raise Seed Funding
Just as your startup will eventually have a systematic process for your sales funnel, you’ll need a similar approach to raise seed funding. Think of it in terms of three key steps in your fundraising funnel:
- First, find potential investors to fill the top of your funnel. You can track these investors down through warm introductions (preferred), inbound interest in your startup, or even cold outreach. Make sure these investors are qualified, meaning they align with your startup vision.
- Next, you’ll want to move these investors through the funnel by nurturing them with traditional marketing strategies before it’s actually time to raise the capital. One great way to do this is by sending them a condensed version of your quarterly update.
- Finally, you’ll move these investors to the bottom of your sales funnel by asking for a pitch meeting, presenting your pitch deck, and hopefully closing the deal. It’s imperative to also continue building relationships with investors who get on board, as they can become your biggest fans and evangelists for your startup, helping you attract additional investors in later funding rounds.
When To Start Looking For Seed Funding
To secure seed funding, you need to have completed the pre-seed round and be able to eloquently share your founding story with potential investors. This story should include your business model (your “what”), the reason you decided on this idea (your “why”), your unique solution (your “how”), and your estimated market size (your “who”) as well as answers to the questions, “Why now?” and “Why you?”
Most investors, especially angel investors like myself, will be looking for more than just an idea and a reputation. We want to see some prototype development and some level of consumer demand. You’ll need to prove your traction to us.
How To Choose An Investor For Seed Funding
Selecting the right investor is a critical step in your startup’s journey. If you choose one that doesn’t fit your startup’s vision or align with your goals and needs, the business development process will be a tough one. Here are five considerations to keep in mind when reviewing your potential investors:
- Type of Startup – You need to know exactly what business model you’re using and the industry you’ll be entering so you can find an investor whose experiences and interests align with your startup.
- Funding Needs – There can’t be any question about the amount of funding that you need to grow and make it to the next funding round. This helps potential investors understand the financial opportunity available to them.
- Trust – If an investor is skeptical of your idea, you don’t want them on your team. They should have trust in your team, your solution, and your business plan so you know they will stay by your side when things get tough during the early stages of business development.
- Expertise – A nascent startup needs feedback and guidance just as much as it needs funding. While a VC firm may offer limited guidance, an angel investor is more likely to provide mentorship, driven by their personal experience in the field.
- Funder’s Financial Health – It’s critical that an investor has the financial means to invest in your startup, otherwise they may be under considerable financial stress throughout the earliest stages of business development.
How To Approach An Angel Investor For Seed Funding
Before you send out emails or start cold calling angel investors to ask for a pitch meeting, take a step back and do the following:
- Research them. Get to know their background and how it relates to your startup.
- Identify previous investments. Gather information about the previous startups the investor has funded and look for similarities in your startup.
- Pinpoint additional support. Determine how this investor might be able to help you in areas beyond funding, like network connections or mentorship.
- Gauge financial ability. Ideally, your seed stage angel investor will be able to participate in later funding rounds, so gauge their financial abilities to continue investing.
What Matters To Investors
Once you have done your due diligence in preparing to approach an angel investor, you should continue to prepare for your upcoming pitch meeting. We’ll be looking for four main components within your pitch:
What do you have to offer that is ground-breaking, world-changing, or entirely unique? Why is right now the best time to introduce your solution? What benefit will your solution provide, economically or otherwise?
Address the innovation of your startup in great detail – this is the foundation of your presentation and should focus more on the technology of your innovation, not your marketing plan.
How solid is your understanding of your industry market? What competitors do you have, or what incumbents are you going up against? Is there a large enough market need to warrant your solution? What impact will your idea have on the competition? Why have other players missed this opportunity previously?
In the seed stage, an idea is not enough for an angel to agree to invest. We need to see traction in the market and proof that there’s a need for what you’re bringing to the table.
Who are you, and why are you the best person to lead this startup? What skills and experience do you offer? What skills does your team still need? Are you planning to become CEO for the long-term, or hand the role off to someone else?
Since startups at the seed stage are so new, angel investors like myself know that we’re investing in you and your founding team just as much as we’re investing in your business, so we want to get to know the team behind the great idea, too. Focus on you, your goals, and the technical skills you have to offer.
What goals will our financing help you achieve? What level of funding will you need in further rounds? What is your total cash burn rate per month?
While we won’t expect to see all of your detailed financial documents, we will want to see solid financial projections within your business plan. We also want to know how you plan to use the capital we may provide, and what additional financial needs you may have.
The Do’s and Don’t Of Seed Funding
I’ve heard enough pitches and worked with enough startups to know there are some critical components to how you approach the process – and art – of securing seed funding.
- Raise your essential funds, and then get back to the real work of building your startup.
- Approach every meeting and social interaction as a chance to network and advance your startup.
- Prioritize meetings with the angel investors most likely to fund.
- Move expeditiously, handling the formalities as quickly as you can after securing financing.
- Work hard and execute better than the competition to get investors interested.
- Hold your team to a high ethical standard to build and protect your reputation.
- Get comfortable with hearing “no,” and learn how to ask for feedback so you can get better.
- Find the sweet spot between humility and confidence, and stay there.
- Lie, cheat, or mislead potential investors.
- Expect to have a check in hand after the first meeting.
- Lag in communication – especially follow-up.
- Be the only one speaking in the room.
- Use unrealistic market size projections to try to impress.
- Pretend to be an expert where you’re not.
- Get swept up in unimportant details.
- Over-optimize your company valuation.
- Dismiss investor hesitancy. Learn from it instead.
How To Calculate The Amount Of Funding Needed For The Seed Stage
As the founder, the number you’re looking to raise during your seed funding round is up to you, but that doesn’t mean you want to pull this figure out of thin air. The goal should be to reach your next round of funding and sustain operations until then, or to reach profitability.
To turn that concept into a hard figure, you’ll need a solid understanding of your startup’s essential costs – team member salaries, cost of acquiring a new customer, cost of customer retention, etc.
How Much Stake Is Required?
In return for the funds you receive, be prepared to provide your angel investors with a stake in your company in return. Most seed funding rounds will require you to offer up to 20% ownership in your company, or 20% dilution. If you can manage to give up only 10%, that’s great, but be prepared to offer more, up to 25%.
When you’re setting your own valuation, you don’t want to set it too low or too high. If you set it too high and are successful at a round of 50 million, for example, you’ll face increased pressure from more sophisticated investors to conform to a more reasonable valuation. If you have a down round after a high initial round, the optics won’t be good. Keep your valuation reasonable so you can always show progression.
The percentage of ownership an investor gets in the company is based on the funding provided and the ratio of that new funding relative to the post-money valuation. For example, if your startup is valued at $3 million going into your seed round, and an angel agrees to give you $1 million of funding, your new post-money valuation would be $4 million. And since that angel’s investment accounts for 25% of the company valuation, they would then own 25% of your startup.
How To Submit A Business Plan
Submitting your business plan is the final step to securing seed funding. If an angel investor likes your pitch and wants to see your formal plan before sealing the deal, you don’t want to make a mistake that could cost you the opportunity.
Your business plan shouldn’t be long and it doesn’t need to be fancy, it just needs to address the main points of your business, product, market, and traction.
While it might be tempting to submit your business plans online through angel networks and VC websites, that’s not going to get your business plan in front of the decision-maker. Investing is a referral-based business, so try to find a connection to make a warm introduction and pass your plan along to the right people.
Steve MacDonald: Seed Stage Angel Investor and Mentor
Steve MacDonald is a serial entrepreneur and successful startup founder with over $400mm in venture exits. He founded MacDonald Ventures with the goal of finding, financing, and nurturing the seed-stage tech startups that will change our world with a particular focus on the emerging tech epicenter in Tampa Bay. If you’re a tech founder with a game-changing, innovative tech solution, reach out.
Seed Funding FAQ
How can I get seed funding for an app?
There are many sources for seed funding for an app, including angel investors, crowdfunding, bootstrapping it, incubators, accelerators, and more.
Can I get seed funding for an idea?
No, angel investors like myself will need to see traction to consider funding.
How do you raise seed funding?
First, find potential investors. Then, nurture these leads through networking and warm introductions. Finally, ask for a pitch meeting, and present a compelling pitch deck.
How do you secure seed funding for a startup?
You’ll be able to secure seed funding by finding the right investors, presenting a compelling pitch deck/business plan, and quickly taking care of the necessary formalities before closing the deal.
What is pre-seed funding?
Pre-seed funding is the earliest stage of funding for a startup, during which friends/family or angel investors typically invest in exchange for equity in the company. This kind of funding helps a startup get off the ground with initial development.
What is seed-stage funding?
Seed stage funding comes after seed funding and is the first official equity funding stage, typically financed by angels or VC firms.
How does seed funding work?
First, you may want to ask friends or family to invest. Then, begin networking with angel investors, use crowdfunding platforms, or join incubators or accelerators.
How do you apply for seed funding?
There’s no standard application process. You’ll need to find investors, gauge their interest, request a pitch meeting, and present your pitch. Alternatively, you could choose to apply through accelerators or incubators.
What is hedge fund seeding?
Hedge fund seeding is the money a hedge fund tries to raise to pay for its initial launch and break-even as a company within a year of inception.
What is seed funding venture capital?
Seed funding venture capital is seed funding sourced from venture capital firms, which are professional money management firms that invest in startups. They usually manage one or more venture funds that they use to invest capital into startups