Rounds

There are many steps that founders and investors have to go through to find each other and partner up in an investment. Throughout your company’s lifetime, you will continue to develop your network and deepen the self-awareness and market research required to draw up a convincing pitch. Each time you seek funding, you will be tasked with researching potential investors, getting meetings with investors, making the case for your company, and finally negotiating and signing a term sheet.

Definition Each separate instance of a company raising money—by selling equity, a convertible note, or convertible equity like a safe—is referred to as a venture round (or round).

Definition A priced round (or priced equity) is a direct transaction where an investor purchases a fixed portion of ownership in a company, in the form of shares, in exchange for a fixed amount of capital. This results in a transparent price per share for the company and the investor and giving the term “priced round” its name.

In the context of raising venture capital, founders typically raise a priced round to finance the company for 12–24 months, to achieve a set of clear milestones.

When raising a priced round, founders need to find an investor willing to lead the round.

Definition A lead investor (or lead) is the first investor to commit to a given round of funding and agrees to set the terms for any other investors who participate in the financing. This is called “leading the round.” The lead investor always makes the largest investment in the round and usually takes a board seat as part of the deal.

confusion When raising venture capital through a convertible instrument, finding a lead investor is not necessary. Founders need to decide what kind of investment they want to raise, which can change depending on the stage the company is in.

When raising a priced round, subsequent investors, like other VC firms or angels, “follow on” to “fill out the round.” For example, a lead investor may put $1M in a round where four other investors invest $250K each, for a total round size of $2M.

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“Once you have a lead, we’re in for $X.” This can be one of the most frustrating phrases a founder encounters on the path of raising venture capital. Very few investors are willing to take the risk to set terms, write the biggest check, and sit on a company’s board. Some investment firms, such as Correlation Ventures, have even set up their funds to never lead an investment and only follow lead investors with good track records.

Types of Rounds

Rounds always have labels, which generally help outsiders benchmark a company’s stage. Unfortunately, these labels are not standardized, vary across industry, take on new meanings over time,* and some investors have even cast doubt on the validity of certain labels.

Have a headache yet? That’s normal. Here are some broad-stroke classifications of different labels you’re likely to see. Both the rounds themselves and their ambiguity will sound familiar from our section on VC firms: it is not a coincidence that the types of VC firms correspond to these labels.

Friends and family rounds. Sometimes referred to as FFF or “friends, family, and fools,” this round of capital is raised from individuals who have a close personal connection to the founders—venture capital investment is not a part of this round, which is usually the first capital a founder will raise from others. While not every founder will raise this round, of the $30K it takes on average to start a business, 80% of that comes from friends, family, and personal savings.* Pre-FFF round, personal savings and personal debt often go to cover incorporation costs and personal costs (rent, healthcare, et cetera), after which the money from friends and family goes to the costs of building the company off the ground. There’s no definition of how large this round typically is in terms of cash, as it depends on the liquidity and generosity of a founder’s personal connections.

Angel rounds. Many founders raise an early round of financing exclusively from angel investors. Angel investors often invest in pre-seed and seed rounds as part of a syndicate. Additionally, they may invest follow-on capital in Series A rounds, but only so many angels have deep enough pockets to continue investing into subsequent rounds. Angels that do participate in later rounds typically negotiate for pro rata rights in term sheets, to guarantee a right to continue to invest.

important Friends and family and angel rounds are sometimes called first money rounds. Rounds subsequent to the friends and family and angel rounds are institutional rounds—this is where venture capital firms come into play. As we stated above, angel investors sometimes participate in institutional rounds, especially at the early stages, but when the majority of the money comes from non-angels, it’s an institutional round.

Pre-seed rounds. Pre-seed rounds are usually between $50K and $500K, but can be up to $1M or beyond for highly competitive companies.* Pre-seed rounds are almost always raised when a company is pre-product (that is, they have not yet built a salable product or a product that anyone is using). It’s worth noting that the “pre-seed” label only came about between 2015 and 2016 and is viewed as having varying degrees of credibility—low* and high.* Some see the pre-seed label as the butt of a joke.*

Seed rounds. Seed rounds are typically the first round of funding founders take from entities like VC firms. Experts disagree on whether friends and family, angel rounds, and pre-seed rounds should be included under the umbrella of seed rounds. When considered a separate round, average seed rounds were $1.4M in 2018, and median seed rounds were $700K.* Corresponding valuations in the Bay Area ranged from $1.4M to $3.3M at pre-money valuations and $4.5M to $9.8M post-money in 2017.*
Some firms that will invest in seed rounds are willing to do so pre-product, pre-traction, or pre–product-market fit, while others expect companies to have demonstrated some progress on product, traction, or product-market fit.

Any money raised before the Series A is often referred to as seed money, and it’s generally accepted that it is much harder to raise subsequent rounds of venture capital after seed rounds, starting with the Series A.

Series A rounds. After seed, rounds are labeled in alphabetical series (A, B, C, and so on). The Series A, however, represents a “moment of truth” for startups. According to Crunchbase News, 42% of seed-funded startups go on to raise Series A rounds—this is often referred to as the “Series A crunch.”* Median Series A rounds were around $6.1M in 2017.* In the Bay Area, Series A valuations ranged from $4.9M to $10.8M at pre-money valuations and $12M to $30M post-money in 2017.* Most companies that successfully raise a Series A have almost always launched a product, have clear indications of product-market fit, and are seeing significant growth (measured in different ways depending on the type of business model). Series A funding is most often used to prove these indications of product-market fit are real, build an executive team, and prepare to scale a business.

important Before Series A, investors are mainly looking at the promise of a company’s team. At Series A, they start looking for proof on that promise. Put another way, companies need to shift from selling the dream to showing the metrics. But each firm defines what constitutes “proof” differently, and some have a clear idea while others do not. Depending on the competitive landscape, the goalposts for what proof is can also move every year.

In general, you can think of it like this: investors look at a company raising Series A and say, “Is there a clear indication that something magical might be happening here?” In a B2B SaaS company, that might mean, “Are they selling the product? $1M in ARR?” In consumer companies, what indicates future success to an investor can be impossible to predict. Some VCs will say, “1M monthly unique visitors is good enough,” while others will say, “Wow, you have 250K students using this for five hours every week, but no revenue, let’s do the deal!”

As a founder, it’ll help to think of what would prove to you that your company is ready for Series A. It doesn’t have to be rock-solid proof, but there has to be some strong indication of magic.

Series B rounds, Series C rounds and beyond, or growth rounds. Once a company has demonstrated not just indications of product-market fit but clear proof of product-market fit in a large market, the company faces a choice to either expand quickly to dominate that market or expand slowly and invite competitors. By the Series B stage, most companies have hired a few key executives, like a VP of product or VP of sales, to lead part of the expanding company. Series B rounds are primarily used to fuel growth, meaning the company has figured out a way to make money, but they are limited from growing, either because they need cash to hire, acquire customers, or expand their business (new products, new geographic expansion, et cetera). Series B rounds in the Bay Area averaged $26M in 2015, according to Mattermark.*

Mega rounds. When companies raise rounds greater than $100M, they are referred to as mega rounds. Mega rounds are a relatively recent phenomenon. Mark Suster points out that $100M rounds accounted for only 13% of rounds in 2013, but now account for 47%.* In the same report, Suster points out that while there were only 20 or so mega rounds in 2009, there were 198 in 2019. Mega rounds break the traditional alphabetical naming sequence of rounds. Take GitHub, for example. In 2015, GitHub’s founders raised $250M after the company’s 2012 Series A; the next round would logically be a Series B. The average Series B size for the same period was ~$26M, though, making it dubious to say that a $250M round was in the same class as those in the range of $26M; doing so would clearly be comparing apples to oranges. In 2017, the Japanese conglomerate SoftBank announced the largest venture capital fund of all time, the $100B Vision Fund, to exclusively lead mega rounds. SoftBank’s strategy has been controversial—and not just because Saudi Arabia is a marquee LP. An argument can easily be made that they are picking winners on the path to IPO and giving those companies no choice but to take their money. SoftBank’s offer to invest can appear threatening. If a company refuses a $100M+ injection of capital to them, SoftBank may turn around and invest that money in their biggest competitor.

Bridge rounds. In a perfect world of raising venture capital, companies would raise a single seed round, go on to raise a Series A, then a Series B, and go public or become profitable enough to no longer need venture funding. This neat progression rarely happens, often because companies underestimate how long it will take to develop their product, take it to market, reach product-market fit, and grow to dominate that market. It is likely that they will need to raise additional capital in between traditional rounds. These are called bridge rounds. A bridge round between seed and Series A is called a second seed or seed+. Some believe the need for a bridge round implies that a company was not able to reach the milestones necessary for the “traditional” venture round progression. But companies can use bridge rounds strategically in between major raises in order to extend their runway, get a better valuation at the next major round, and test the market’s appetite for what they’re offering.

Inside rounds and outside rounds. When a round is primarily funded by investors who invested in a company’s previous rounds, it’s called an inside round. The people putting money in are already on “the inside.” An outside round, in comparison, is a round led by a majority of new investors. Inside rounds can be great for founders, as the investors are already familiar with the company and can make decisions quickly. But as a company’s capital requirements grow, inside investors may not be able to meet the company’s needs, and an outside round may be the wiser choice.

Party rounds. Most venture rounds have one lead investor and a small group of other investors who follow on, called follow-on investors. Other rounds, called party rounds, do not have lead and follow-on investors but instead involve a larger number of investors writing smaller checks. But the rules on this term aren’t hard and fast. A $1M round composed of ten $100K checks would be considered a party round. A $1M round where one investor put in a $250K check and fifteen investors put in $50K checks could also be considered a party round. The main characteristic of a party round is that there is a long tail of investors who wrote small checks. Party rounds are not usually considered the best option for founders; investors willing to write larger checks tend to be much more committed than those who do not (though this is, of course, not universally true, and a smaller, newer fund can still be extremely committed to a startup’s success), and party rounds mean that a time-strapped founder will have to manage a greater number of investor relationships.

Figure: Bay Area Capital Investment and Deal Count (Series Seed)

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Source: Silicon Valley Bank and PitchBook Data*

Figure: Bay Area Capital Investment and Deal Count (Series A)

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Source: Silicon Valley Bank and PitchBook Data*

Rounds and Valuations

In addition to labels referring to a company’s stage at the time of financing, venture rounds can also have a separate set of labels that refer to the valuation of that round in relation to the last round of financing the company raised. We’ll talk more about valuation in Determining How Much to Raise.

Definition Up round, down round, and flat round are descriptions of a company’s valuation in a new venture round as compared to the previous round. An up round occurs when the valuation of the new round is higher than the valuation of the previous round, and a down round occurs when the valuation of the new round is lower. A flat round occurs when the valuation does not change between the two rounds. Flat rounds are relatively rare.

caution Investors don’t want to have bad blood with other investors—they may have to work together in the future. This means they won’t, for example, be eager to throw in on a down round, because it puts them in the position of forcing prior investors to write down their investment.* Not all investors think a down round is a bad thing—Randy Komisar, author and general partner at Kleiner Perkins, for example, says they just reflect down markets.*

Syndicates

Definition A syndicate has evolved to have multiple meanings in the fundraising ecosystem, and may refer to the total group of investors who invest in a given company’s round, a group of investors who frequently invest together, or an AngelList syndicate.

Many rounds have more than one investor. At the earliest stages, angel and seed rounds usually have a mix of angel investors and VCs.

caution Jeff Bussgang, GP at Flybridge Capital Partners and Harvard Business School faculty, points out that having more than one firm involved with the company can have benefits and risks.* Benefits include diversity of thought and networks that comes from multiple VCs, and more bargaining power via competition between investors in future rounds of investment. On the other hand, each additional investor requires more time on the founder’s part to manage those relationships. And because investors usually want to own a meaningful amount of a company, the more investors you bring on, the more of your company you’re selling.

AngelList syndicates, launched in 2013, allow a single investor to create their own fund on the AngelList platform and then invite other investors to invest with them. AngelList handles all of the back-office fund administration in exchange for a percentage of the carried interest (or carry) on each deal done through AngelList. AngelList syndicates can be beneficial for investors with smaller funds, as they can choose to invest $25K in a deal and then ask anyone in their AngelList syndicate if they want to participate, with checks as small as $1K. Often, this can add up to many multiples of the original fund’s investment. You can read more about AngelList syndicates here.

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