Raising money can be one of the most difficult aspects of scaling a growth stage business. Moreover, it’s a confusing market; outliers make the headlines, giving distorted perceptions of normality. Consequently, it can be challenging to know when to raise, how much to raise, at what valuation, and who from!
Significant variations in round sizes, valuations and metrics of businesses at the same ‘stage’ of funding mean that standard fundraising rounds do not exist. However, there remain some common themes between the different stages of funding, discussed below.
Each round should be giving the business 12-18 months of runway, allowing them to focus on the business rather than continually raising capital. Startups are typically aiming to increase their value 2-3 times or more during each funding round and make tangible differences to the development of their business.
What is a Pre-Seed Round?
At this stage, the business typically has no product, no customers, no staff, and no money. So, how do you get going?
This is an extremely risky round of financing for external investors, so money is typically raised from the founders, their friends and family as well as other non-equity financings, including startup loans. Traditionally a startup might be expected to ‘Bootstrap’ through this early stage, but an increasingly competitive investment landscape is forcing capital down the chain and into this fledgeling round of finance.
Aim of a Pre-Seed Round
To hit a milestone that allows them to raise seed investment, usually reaching an MVP.
Key Metrics at Pre-Seed
Typically, the business will have no metrics to lean on; decisions may be based on the quality of the founding team and the vision.
Pre-Seed Round Structure
Typical valuations: Sub £1m
Typical raise sizes: £50-100k
Typical investors: Friends and family, small ticket angel investors, and early-stage accelerators.
Alternatives: Many businesses are simply not ready for equity investment yet and could consider other funding options such as startup loans or bootstrapping.
What is Seed Funding?
This was traditionally the first round of financing for a business but is now often the second. Previously the domain of angel investors, a number of funds have appeared that now invest at this level. Round sizes and valuations have increased, and the use of proceeds are often focused on product development and testing.
Aim of a Seed Round
Seed rounds have several objectives, chief amongst these is to build the product and get it in the hands of early users; moving it from a prototype to an MVP, through beta testing and into a version 1 ready for commercialisation. It is unlikely that the business will be able to scale using seed capital, but investors at Series A are expecting to see evidence of Product/Market fit through early signs of traction. This is the company’s opportunity to build an active and engaged community of early adopters, using their feedback to develop the product and demonstrate demand.
While companies are unlikely to be generating significant revenue at this stage, it is essential to develop and prove the business model. Series A investors will be expecting to see notable revenue growth in the next round of financing, so the business will need to demonstrate how that revenue will be generated.
Key Metrics at Seed Round
Similar to the pre-seed rounds, the business will lack sufficient quantitative metrics to use as proof points to raise money. Instead, investors will look for other proof points, such as an experienced management team. The most credible founding teams are those with significant experience of the problems they are solving with bonus points for an exited entrepreneur. ‘Experienced’ doesn’t necessarily mean 20+ years of experience in a certain industry; it could simply mean having deep expertise of a problem as a user.
Investors will also look for evidence of product development and a path to monetisation. Since this is not yet proven at any kind of scale, the investor will be interested in the vision of the company too. Are you attacking a large enough addressable market, with a credible enough product and team, to give investors the possibility of at least a 10x ROI?
Seed Round Structure
Typical valuations: The typical range of valuations is £800k-£2m, with a median of £1.52m. (Pitchbook, 2018). Founders should expect to sell 10-20% of the business.
Typical raise sizes: £150k- £500k with a median of £250k (Pitchbook, 2018). Outliers can raise up to £2m.
Typical investors: Angel investors, Equity Crowdfunding, and Seed VCs. Expect deals led by angels to be smaller, and those led by VCs to be larger.
At the seed round, an investor only has a 5% chance of an exit, so be prepared to give up significant equity to compensate for their risk. SEIS can make the investment more attractive and all eligible business should consider it.
What is Series A Funding?
A larger amount of money is raised at Series A, focused mostly on taking the product to market and scaling user numbers. This is traditionally the first round which is likely to see VC or institutional involvement.
Aim of Series A Funding Round
To scale user numbers and revenue.
Evidence of product/market fit should now be apparent, with some ideas about LTV/CAC. There should be at least one scaleable route to market for the business to attack after fundraising.
Key Metrics at Series A
The business should now have several quantifiable KPIs and should be able to demonstrate significant growth in them. They include but are not limited to:
Monthly/Weekly/Daily Active Users (MAU/WAU/DAU)
Net Promoter Score
User growth rate (MoM/Quarterly)
Lifetime Value/CAC (LTV/CAC)
Annual Recurring Revenue/Monthly Recurring Revenue (ARR/MRR)
Net burn rate
Revenue growth rate( MoM/Quarterly)
Significant variance begins at this stage, as investors compete over hot deals. This forces valuation and round sizes through the roof for outliers. Additionally, traditionally later stage VCs have recently had to come down the series chain to get into rounds earlier, as they have been pushed out by PEs in later rounds, enacting a similar effect.
Series A Round Structure
Typical valuations: The median pre-money in 2018 was £3.26m. Typical range is £2-£10m.
Typical raise sizes: The median is £1.76m. But ranges between £1-£10m.
Typical investors: Large ticket angel investors are still active at this stage; however, there tends to be at least one VC involved, who will most likely be leading the round. Equity crowdfunding is very active at this stage, as businesses have an active community whom they are looking to engage by offering them the opportunity to invest.
There is an 18% chance of investor exit at this round. A few considerations enter at this round, including employee option pools and founder dilution. Ideally, the founder should not be more than 50% diluted at this stage to ensure that they remain incentivised to scale the business and exit. A possible ownership structure at this stage might be 15% angel, 10% option pool, 5% F&F, 20% VC.
What is a Series B Round?
Significant amounts of money are raised at Series B, looking to scale current channels and address new markets.
Aim of Series B Funding Round
The objective of this round is to continue scaling as fast as possible. It allows businesses to beef up their headcount and start serving more clients. An acquisition can continue to increase through established channels, and a Series B could enable a company to experiment with new revenue streams and address new markets.
There’s a real variance between rounds here. Some will be raising relatively small amounts at around £10m, and others will raise much larger rounds, of £50m+.
Key metrics at Series B
Similar to Series A, but with more emphasis on recurring revenue and user growth.
Series B round structure
Typical valuations: Median pre-money of £60m (Pitchbook, 2018).
Typical raise sizes: The median in 2018 was £19.82m, but it ranges between £10-£30m (Pitchbook).
Typical investors: VC, Equity Crowdfunding, and institutions.
There is a 40% chance of investor exit at the Series B level. Therefore, it’s not surprising that the most significant levels of investment occur at this level and beyond. Businesses who have proven scalable traction are likely to have their pick of investors.
A word on bridge rounds
Of course, most businesses do not stick to a perfect transition through all of the rounds, and may need to raise a series of smaller rounds, or include some bridging rounds.
Bridge rounds are best used to achieve a step change that allows you to raise the next round of funding. Convertibles are often used for a bridge round.