Guide to startup funding stages - Seed funding to IPO
While there are many businesses that run their companies simply using their own capital, there are many entrepreneurs who turn towards startup series funding.
Getting funded through external sources as a means to expand your business has really kicked off in the past decade.
It is not just Silicon Valley startups that have access to such opportunities, but rather startups all around the world that can benefit from fundraising.
Continue reading to find out why startup funding is important, what the process looks like, and what are all the different stages involved in raising funds.
Why is funding important for startups?
It takes money to make money. This is a fundamental business principle that will probably never change.
Without funding, external or internal, you cannot hope to grow and sustain your startup.
Before we get into all the different startup funding stages, you should understand why raising funds is so important.
Startup fundraising helps a business for any or all of the reasons listed below:
• Creating a product prototype.
• Market research and product development.
• Hiring team members.
• Working capital requirements.
• Raw materials and equipment.
• Sales and marketing.
• Legal & consulting services.
• Renting out office space and admin expenses.
• Licenses and certifications.
Before approaching venture capital firms, a business owner should be very sure why they want to raise funds.
The reasons can be all the ones mentioned above or just some of them based on the startup funding stage.
Regardless, you should have a specific business and financial plan in place to convince investors why your startup is worth investing in at each stage.
Different stages of startup funding
The startup funding process involves many rounds of funding over the course of operations. These different stages of startup funding are known as funding series.
Pre seed funding
Pre-seed funding is the most nascent stage in a startup’s journey. It is in this stage that the founder or co-founders are working on bringing the business idea to life.
The amount of money required at this stage is quite low and the channels to raise funds usually involve informal sources of funding.
Family and friends:
This is another common avenue entrepreneurs choose to source funds for their business.
The obvious benefit of this channel is the trust that you already have built with friends and family.
This makes the process of sourcing funds easier and more transparent.
Bootstrapping:
Bootstrapping a startup means the business owner or owners using their own savings to kickstart their business.
There is no outside investment involved in this process.
Any entrepreneur having enough money saved to bootstrap their startup has the advantage of not having to repay anyone as no money was borrowed.
Pre-seed investors:
With the popularity of the pre-seed stage increasing, more and more venture firms are popping up that specifically want to invest in startups that are still at their ideation stage.
This is probably one of the only sources at this stage that can be categorized under institutional capital raised by the startup.
A pre-seed round of investment can last anywhere between 1 year to 1.5 years.
Seed funding
The seed round is when business owners try to find a product-market fit and validate their business idea.
It is essentially a way of developing proof of concept; to show that a product is needed by a particular set of people and that it can be monetized.
During this period is when a business has to use the money they have obtained to build the founding team, take help from mentors, test the product with target customers, get their feedback, and figure out whether they are heading in the right direction or they need to make certain changes.\
Angel investors:
These are high-net-worth individuals who invest in startups with a high potential for growth.
There are many angel investor networks that you can reach out to and pitch your startup idea.
Getting an investment from these individuals is of course dependent on the validity of your business and financial plan along with the aspect of whether they believe in the vision of a business or not.
Incubators:
Incubators are organizations that are specifically built with the purpose of helping startups mature through investment and other methods.
As the name suggests, an incubator helps startups incubate their ideas by providing investments in the form of debt, grants, equity along with necessary services like office space, legal assistance, utilities, and much more.
You will also see that many top universities in different countries have an incubator program within their organization to support startup ideas brought by their students.
This is a great push that helps young entrepreneurs in their early phases.
Crowdfunding:
Crowdfunding is a means of raising money by receiving a small amount from each individual in a large crowd.
This form of funding takes place through online platforms such as Kickstarter or IndieGoGo.
People generally make a pitch video to showcase their product idea. The goal is to clarify what is it for and who is it for?
This helps people decide whether they want to contribute to a particular project or not.
Entrepreneurs often incentivize people by promising exclusive early access to products or some other offer in order to get their funding.
Government Schemes:
If you do a little research by visiting the government website of your state and country, you’ll find many government loan schemes for businesses that provide collateral-free debt in order to support business owners and help the economy prosper.
Series A funding
This stage is where product development gets serious.
Your business has started to get early traction, customers have started using your product, you’re building your customer base, getting subscriptions, increasing app downloads, and so on and so forth.
All of this has to finally add up and reflect positive results in the form of a major business metric i.e. revenue.
Funds are raised to grow the team, improve product offerings, expand geographies and potentially enter new markets.
Venture capital funds:
These are professional firms that run managed funds specifically for carrying out investments in niche markets.
Each VC firm deals with a preferred industry of their choice and specializes in the knowledge they have regarding it to make smart investment decisions in high-growth startups that have shown success so far.
Members involved invest in the form of equity and are regularly involved in guiding a startup.
Venture debt funds:
Similar to VC firms, these are private firms that invest in the form of debt.
They often invest along with a VC round or an angel investor.
NBFCs(Non-Banking Financial Companies) or Banks:
Series A also opens up the possibility of the startup approaching banks or NBFCs for debt funding with interest payments as they have the financial history of a business to show their ability to pay back.
This is quite useful for gaining working capital and many founders prefer debt financing as it does not dilute their stake in the equity of the startup.
Series B funding
Series B is the round that comes directly after round A.
This round is generally easier to acquire funds for the startup provided they have proven their potential and shown business results with the investments that had been made through earlier funding series.
Venture capital funds:
Usually the VC firm that led the previous round also lead this round along with others who have shown interest due to the startup showing success so far.
In this round, the startup has slight leverage as they have already proven themselves time and again to be successful since their pre-seed stage.
Private equity or investment firms:
These firms tend to avoid investing in startups, however, if they see a good opportunity in a late-stage startup such as a Series B round company that has a positive track record showing rapid growth, then they do consider investing in them.
Series C funding
Series C is among all the startup funding stages is the round where a company has already proven the success of its business model but requires additional capital to enhance its offerings or expand globally and also possibly acquire under-performing startups.
The sources of investors remain relatively the same including VCs who invested in previous rounds, but this round may also attract new investors who might be interested.
Later funding stages
Unlike previous startup funding stages, if a startup reaches a Series D, E, F, or G, in most cases it is not good news.
It shows a lack of business success through the funds that were previously acquired.
The startup ends up requiring more funds to survive rather than being able to sustain itself through the revenue it generated.
So rather than increase the valuation of the company, these later rounds of funding start devaluing a startup.
IPO (Initial Public Offering)
An IPO is the process of listing a company on the stock market and offering corporate shares to public and retail investors.
This stage is highly dependent on the growth of the company and can come at any time between Series A to Series G.
The process of being listed on the stock market is not easy. It is filled with legal and financial formalities.
Ideally, a startup should only look to list itself on the stock exchange when it has years of growth data to show business success after all its startup series funding and how it has evolved.
This is the information that retail investors will look at and decide whether to subscribe to a company's IPO or not.