In September of 2012, Zapier closed our seed investment round of $1.2MM. In May of 2012, I had no idea where to start when it came to raising money for a company or if I even wanted to raise money.
Raising money one time certainly doesn’t make me an expert at raising money. But since I’m relatively fresh off of the experience I get asked by first-time founders how they should go about raising money for their startup.
Without further ado, here’s my ultimate guide to raising money as a first-time founder – leaning heavily on the experience and advice I’ve learned from other smart people who understand raising money much better than me.
How to Convince Investors
The first place to start for anyone trying to raise money from angels or VCs is Paul Graham’s essay on How to Convince Investors.
The first thing you’ll notice about Graham’s essay is that it isn’t filled with tips or tricks for getting investor’s money. Rather, the best way to convince an investor to give you money is to actually be investable. Usually that starts with having a product with some amount of traction, but some people are investable even if they have no product. Usually those aren’t first-time founders though.
For the sake of this article, I’ll focus on people who are more like me – first-time founders with few credentials to impress many standard tech investors.
When you’re a first-time founder everything is new. You might not even recognize traction if you have it. If you aren’t sure about the traction that you do have, that can lead to being timid about pitching big name investors who have backed the likes of Facebook or Google. How could you possibly be confident in pitching an investor who has had epic payouts from the biggest names in tech?
Therefore, it’s pretty important for you to get comfortable with your own success, however small it might be at the time.
What Does Traction Look Like?
Traction is different for every product. When we went out to raise money, we raised with only a couple thousand dollars in monthly recurring revenue. But we had a solid product, strong weekly revenue growth (10% week over week), and two distribution/marketing channels that were already paying dividends. Add a solid vision for the company being able to grow big and it made for a pretty compelling pitch to many investors.
Joel at Buffer was able to raise $400k with a very similar story to ours.
The key ingredient to traction is a launched product, a few months of solid growth (5-7% weekly growth is pretty good early on – growth can be users, revenue, or whatever is valuable for your company), some short term pieces in play for continuing that growth, and a long term story about growing the business into a company with IPO potential.
Surviving Until You Are Ready to Raise
If you aren’t ready to get investors yet, then you have to find other ways to survive. The best way to survive is to have customers paying you. But since you don’t have traction, we’ll assume this isn’t the case.
Here’s some ways you might survey:
- Save up enough money to fund the project full time for a while.
- Have a full time job and work nights and weekends to get things going.
- Consult/freelance to pay off your expenses and leave the rest of your time for working on your startup.
- Cut expenses ruthlessly. You don’t need to be in SF or NY to get your startup off the ground. Feel free to have a temporary layover somewhere that isn’t so expensive to live.
It’s fairly common for companies to have odd arrangements like this early on in their lifecycle.
At Wufoo, Chris kept his full time job to help Kevin and Ryan get Wufoo off the ground.
The StatusPage.io team funded their startup by working one week of consulting followed by three weeks on the startup.
At Zapier, we worked nights and weekends for three months until one-by-one we were able to shift the three of us over to full time Zapier work.
Keeping a startup alive in the early days is all about having a cockroach-like “don’t die” attitude.
Using Incubators/Accelerators to Bridge the Gap
Incubators like Y Combinator are certainly a viable route to take to help you move from bootstrapped startup to seed round. The route to getting into an incubator is a bit more transparent and democratic than getting funded, so for a first timer you could have better luck here.
While there is no guarantee of success with an incubator, Y Combinator and a select few other incubators have a great track record of helping their companies secure funding.
For us, this was absolutely true. Had we tried to raise money as a bootstrapped startup in Missouri, I suspect we would have struggled. Additionally, Y Combinator spent one of the final weeks of our batch teaching us how to fundraise. Without that knowledge we likely would have made tons of amateur mistakes when trying to raise money.
You likely should stick to the top tier incubators, though. Few incubators outside of Y Combinator have much of a track record, although I have heard good things about TechStars, 500 Startups and AngelPad. Seed-db has some nice data on it.
Finding Your Investors
Once you’re ready to raise money, you actually have to find investors. Many times, investors will come to you though – especially if you’re in specific markets that they are monitoring.
Often times this surprises founders who are raising money for the first time. It certainly did me. The truth is, investors, especially VCs are in the business of investing. They have the opportunity to invest in any deal that they’ve heard about, but if they’ve never heard about you they’ll miss out. Thus, it’s their job to hear about every deal.
Seven of our eleven seed round investors had actually reached out to us or known about us in some form or fashion before Y Combinator. Only one of our eleven investors was directly tied to Y Combinator’s demo day which is typically the point at which YC companies start fundraising.
That said, there’s no need to fear if you aren’t hearing from investors. After all, VCs are the most advanced at scouting, and many VCs don’t do seed round investing. You’ll likely need some angels in the round.
There’s a couple places you can find other investors:
- Your customers. Often times your customers/users have money to invest or have been running companies that have raised money. Send them a quick email and they might be willing to give intros for you. IDoneThis was able to raise an entire round using this strategy.
- AngelList. AngelList is all the rage these days. There are entire posts dedicated to raising money on AngelList. We didn’t use it at all to raise money so others are likely better to ask about this strategy.
- Your Network. It might take some digging, but I’d bet you can work your way to accredited investors through your own network easier than you might think.
A Note About Introductions
Warm introductions are about the best thing you can get for meetings with potential investors. A warm introduction from a close confidant of an investor can be just the ticket to getting investment.
But be wary about the quality of introduction you are looking for. It’s easy to push for an introduction from someone, but you don’t want to ask for an introduction from someone who doesn’t know you well or believe in the product much. That type of introduction likely isn’t going to help, and could potentially sour your relationship with the person you are asking to make the introduction.
A Note About Terms and Terminology
Once you get everything else figured out (product, traction, intros to investors), you still have to figure out the terms at which you want to raise money. This is certainly most confusing part about raising money – at least it was for me. You’ll hear terminology getting bandied about left and right about things like convertible notes, capped vs. uncapped, stock option pools, board observer rights, maturity dates, priced equity. Almost all of that was foreign to me.
I was lucky enough to have Y Combinator, the partners, and my batchmates walk me through a lot of this. But there are still some things you can pick up on your own. The best place to start is with Brad Feld’s book, Venture Deals. It’s a bit dense, but it’s a great place to start to at least learn all the terminology.
From a pure numbers standpoint, the most talked about bits between founders when raising money are how much are you raising? And what is the convertible note cap?
It seems these days that most startups raise their seed round with convertible notes. A convertible note is actually a debt instrument that converts to equity upon certain events occurring (usually a series A financing event). The cap simply refers to the maximum valuation that the seed investor’s money will convert at when the company reaches a series A financing event. There’s a lot more information around the web on these topics, so Google around. You’ll have to wade through all the VC jargon and contract legalese, but you’ll come out on the other side with a better understanding of how the money aspect or raising capital works.
Lastly, it’s probably smart to look over some standard documentation that a lot of startups use. I’d suggest reading through the standard Series AA Equity Financing Documents put together by Y Combinator and Wilson Sonsini Goodrich & Rosati. If you understand those docs, then you’re in a good starting position.
Wrapping It Up
Raising money isn’t something a startup does on a whim. It’s usually the result of months of work to build the foundation of their company and to reach some level of traction – especially for first time founders.
If I had to sum up the entire fundraising process for a first time founder into a few bullet points they’d be:
- Identify a problem
- Launch a solution
- Grow to get some traction
- Figure out how much money you’ll need
- Get intros to investors
- Expect some “Nos” – and maybe a lot
- Close as fast as you can
- Get back to work
The final thing I’d suggest is that when you go out to raise money, devote at least one co-founder’s full attention to fundraising. If after one month of full time fundraising he/she hasn’t been able to raise money, consider whether you’ve hit a product/market fit yet. It’s probably best to get back to work on the product and try raising money again in a few more months.
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