Funding is the lifeblood of any new startup and ventures typically raise funding at different stages such as pre-seed, seed and series (A, B, C, D and so forth), depending on the progress they have made in developing their product or service.
Generally speaking, the pre-seed funding round, also known as pre-seed capital or pre-seed money, is the first instance of fundraising for a startup and is the capital needed to start any business. Pre-seed funding is used for product development in the early stages and can be availed from family or friends too if angel investors or venture capital money is not on the radar.
Since the business is in its conceptual phase, the amount required to start up is quite low so friends and family investment is an option. However, there are some investors or companies who are also willing to invest in startups and over a period of time, there has been a steady rise in pre-seed funding as well.
Pre-seed rounds can help bridge the gap between the beginning of the startup and subsequent seed funding rounds, which are usually larger in size. But the pace of pre-seed funding is dependent on initial expenses for setting up the business and the model and sector it is operating in. But even though the investment amount might be lower than other rounds, pre-seed funding is extremely crucial for a business and is often the difference between make or break. So let’s see how startups can prepare themselves for a smoother pitch as they look to secure pre-seed funding:
When And How To Raise Pre-Seed Funding
By the time startups get ready to raise pre-seed funding, they have usually developed proofs-of-concept or prototypes in order to influence investors, and this preparation work for this stage is extremely important.
The timing and the manner of raising pre-seed funding are highly critical to the success of the startup. Since startups at this stage don’t have real traction or a fully-functioning prototype, it’s important to convince investors about the long-term vision and the capability to take things to the next level. It may take longer than one anticipates.
That being said, a time frame is still required for fundraising as speed is really of the essence. And, if startups take too much time, they might end up getting nowhere. So the effort must be to wrap up the process of fundraising within a time that’s decided internally and ensure that investors are kept on their toes when it comes to making the final decision.
While the timing is crucial, startups cannot ignore the success and failure points along the path to pre-seed funding. Here are some golden rules:
- Startups need to have their financial and business goals clear at this stage. This includes the amount required, the overall cost of the business and approximately how much it can make in the future. They also need to apportion funds even before receiving them to the right resources for their operations.
- For pre-seed funding in India, it is important to get all the paperwork done beforehand so that there is no delay in case investors decided to invest.
- Do thorough research about the pre-seed investor ecosystem in India and study the top investors before making the pitch.
- Startups need to ensure that all the legal and official documentation is ready, which might include partnership agreements, incorporation papers and relevant certificates.
- The next step is to prepare a pitch and finalise a blueprint of the business as the investment can come from uncommon sources at this stage, and even unscheduled calls can end in a funding round.
How Much Pre-Seed Funding To Raise
One of the biggest challenges in this regard is convincing pre-seed investors to put money in startups that often have no real traction at this stage. So, the question of how much money to raise at the pre-seed level is answered by how much pressure startups want to invite on their fledgeling business. That’s why anyone advising founders to raise ‘as much as you can’ may not exactly be right. Here’s why startups need to be careful about the funding amount:
- If startups raise too much money at this stage, the investment terms will automatically rise and more diligence will be required. The investors would also likely want more control as they want to be assured that their money will not be misused.
- In case the funding is more than a startup needs, investors will adjust the valuation upward in order to accommodate this. This can put a strain on startups because if things don’t go well and they need to raise money again, the valuation will drop and that has a negative impact on its image and business, and future rounds.
- Overfunding can also lead to laxity and reckless spending. Raising more funds than required might also result in disturbing the company’s operations by accelerating its expansion, which includes taking in more employees, incorporating new systems and increasing overall requirements.
So, before deciding the amount to be raised, there are some factors, which need to be taken into account, and a few questions that need to be answered. Here are some typical questions that startups need to figure out.
The Next Milestone
The amount of pre-seed investment will define the next milestone for the business, such as team expansion, development of a new product or increasing sales in particular channels. Milestones usually vary from startup to startup and also change based on the model being used in the same sector. It might be the development of a prototype for hardware or devices or the accomplishment of proof of concept for a platform or service. It can also be associated with customer acquisition or validating the product or value proposition in the market through tests.
Planning milestones is extremely crucial as investors might be interested in knowing the importance of each one of them for the startup, to decipher whether the business has the right leadership and direction. Moreover, as the appropriate time to raise funds is right before or shortly after a key milestone has been achieved, it is important to keep a tab on how close or far they are.
How To Choose Milestones
The ultimate goal is undoubtedly to achieve the key milestone that will attract investors. Typically, pre-seed investors are aware of the risk and uncertainty involved in investing in new startups or business models. So this class of investors looks for substantiation, which has the power to authenticate business model assumptions and the value proposition of the startup. Hence, it is important to ensure that the target milestones will help achieve the overall objective. If it doesn’t meet the expectations, it’s important to define another milestone that can. But at the same time, it’s necessary to be realistic and practical in these milestones, as there is no point in overselling ideas to investors!
How to Decide Funding Amount
Prepare a detailed proposal that outlines responsibility areas, resources and expenditures to implement the plans to meet the milestones. This can help startups arrive at the amount of pre-seed investment.
There is always room for uncertainty and unknowns, so it is best to account for this auxiliary spending for contingencies. This money can also be used to deal with extra expenditures, incurred for any change in plans or strategy. Thinking long term ensures that the amount decided for funding covers the expenses until the next funding round. Otherwise, it would be quite tough to go for the subsequent round of funding. Apart from accounting for contingent expenses, it is always best to have some leeway in terms of the timeframe for the plan. It is best to be prepared for the same in advance.
Understanding The Investors
Some entrepreneurs might have enough money to invest in their startups in the early stages through bootstrapping, while some might not. It is always best to reach out to family members or friends first, in the case of the latter. This should be the first resort before approaching pre-seed investors or companies.
Even when bootstrapping, remember that momentum is absolutely paramount. If startups aren’t able to execute their plan from the savings of the founders or the initial employees, then raising funds from external sources might prove detrimental as the milestones won’t be substantial enough to convince investors to take the risk.
How To Choose Investors For Funding:
After the timing and manner for raising pre-seed funding is clear, and the amount that has to be raised has been figured out, it is time to move to impress the right set of investors.
- Trustworthiness: Choosing investors that have faith in the product or service and who have a good track record at this stage will help find pre-seed investors that will stick around even during tough times.
- Problem solvers: While selecting investors, it’s important to see their track record in solving different problems that a startup might experience in the initial run. The experience and network of pre-seed investors or companies in dealing with these challenges will prove beneficial in the long run.
- Finding Connections: Startups need to find investors with whom they can really connect. An investor, who can set the record straight for founders, offers the right advice and is passionate about the product, is definitely priceless.
- Align Interests: Investors that have aligned interests with the startups are the key to establishing a successful business.
After having chosen the right investors, it is time to move on to the next stage, which is making a pitch deck in order to seek funding. Besides making a standard pitch, startup founders and promoters need to have a pitch ready for impromptu meetings with potential investors. Some of the slides that a typical pitch deck must include are:
- Problem: This should be the introductory slide in the deck to explain the gaps the business is trying to fill in the market and describes how it is going about solving the problem.
- Solutions: Highlighting the main features of a product or service and demonstrating the manner in which it will solve the problem. Startups much have a clear understanding as to where their product/service fits in the market context.
- Value Proposition: Gradually, introduce the unique value proposition, which explains why the product or service being pitched would fit in the market and what value addition it creates for customers or consumers.
- Product/Service: Explain the product/service in detail with including pictures, videos and description. A section on the competitors helps see how the product or service being pitched stacks up in the market.
- Traction: It is vital to demonstrate monthly growth or a minimum viable product or everything that the startup has achieved so far to prove or indicate traction.
- Team: This is also one of the key slides in a pitch deck as investors would want to know everyone beyond the leadership team and founders. The personnel and resources are responsible for the execution of the plan, so highlighting them is crucial for pre-seed rounds.
- Targetted Amount Of Funding: Startups need to employ all the strategy they can to state an amount that would help meet the objectives, goals and milestones. Giving clear reasoning for the amount goes a long way, as does allocating any potential investment to the areas where it will be spent. A specific timeline for spending these funds should help convince investors about the detail-oriented planning behind the pitch.
There’s no doubt that pre-seed funding has gained prominence in recent years as more and more startups have emerged in India. Owing to its importance in early-stage development of products and services, pre-seed funding can be the make-or-break moment for any startup. That’s why it is important to consider the factors that will help startups set the expectations for investors in future rounds and create a long-term relationship, rather than simply securing the funding to start up.