So your startup wants to raise an angel / pre-seed round?

Note: Dennis originally published this blog post anonymously here.

I see lots of bad advice online around pre-seed / angel fundraising, so I figured I'd write a post about my own experiences as an investor, early stage CEO, and advisor to other early stage startups. I've started two companies in and around IT infrastructure - one of which struggled to raise money, and the other of which (Lightyear!) raised a pre-seed round quickly at favorable terms. I've also helped advise other startups through successful fundraise processes and worked as an investor before shifting into entrepreneurship.

Here is a step-by-step framework to think through super early fundraising...

1. Don't do a god damn thing until you're 100% certain a raise makes sense for you

Raising equity financing, especially before you have meaningful metrics that indicate success, can be a complete crapshoot of a process that wastes valuable time and completely demoralizes you. I would not recommend even attempting a raise unless you have significant belief in your mission and your ability to get in touch with and convince investors. Here are a few things to think about as you contemplate whether a raise makes sense:

Do I "check the boxes" for venture backability? To be considered a potential "high-flyer" venture capital eligible business, you'll need to prove that you're attacking a large market (tens of billions or more), that your product is differentiated and a significant improvement over existing solutions, and that your team is uniquely positioned to scale extremely fast in that market. If your contemplated company is one that can't scale as quick as a software or internet company (ex: brick and mortar retail, construction), you'll definitely have a harder time raising money. If you're a solo founder / first-time founder, you'll have a harder time raising. If you're in a super crowded / hard-to-differentiate / low barrier-to-entry space (think consumer iPhone app), you'll have an extremely hard time raising. If you're raising money for a more old-school business model or one that isn't built to scale in tech fashion, you're much more likely to succeed in raising a small amount of money at a lower valuation from friends and family. If you can address core business issues that could hurt you BEFORE raising, do it!

Do I have a means to reach investors? Cold emailing investors rarely ever works, and I wouldn't count on it working. If you don't have a network that can get you out to 10+ prospective angel investors, spend time building out that network before contemplating a raise. One or two potential meetings will almost never get it done. If you want 5 checks of $50k in your angel round and you are hyper confident (close 25% of investor meetings), you'll need to get in front of 20 people minimum to get things done. Momentum in a raise is EVERYTHING, so if you can't have a couple of easy early wins with contacts that may be easier to close, you'll have a hard time raising.

Have I actually developed the business enough? Have you done all you can to develop the business without outside money? Is your product built and are you actively trying to reach customers? If your product requires outside money to build, have you at least scoped it out in detail and discussed the product in detail with prospective customers who want to buy it? If your business completely depends on raising outside money and you're unable to show any momentum during your raise process, it'll hurt your process of raising. Also, a lot of investors are wary of investing in a company that can't progress at all without outside money. Almost always a bad sign (although there are exceptions).

2.  Materials. Have them ready.

Before reaching out to anyone, you should have a good, short deck prepared. If your business has customers, I'd recommend putting together a simple spreadsheet that details unit economics of the business to help investors better understand your business model. Here are some examples of good early stage fundraising decks.

MAKE IT LOOK GOOD AND KEEP IT SHORT. Ugly decks will hurt you. Long decks won't get read. <15 pages and minimize text where possible. Focus on only key points - problem, solution, business model, traction, competition, team, funding needs.

Have a few smart people look at your deck before you take it to market. If a random person with no knowledge of your space isn't excited about your company after reading the deck, fix it. If a random person doesn't understand what your business does after reading your deck, redo it completely. Sector knowledge shouldn't be a requirement for understanding the deck.

Decks get shared often, so make sure you're comfortable with whatever you send to people getting passed around. DocSend is helpful if you want to be in control of what people can see / version history.

3. Set the terms so others don't have to

This is where strategy starts to come in. Ultimately, your aim should be to pick terms that are reasonable but favorable and have all round participants comply, rather than have to negotiate separate terms with a bunch of investors and deal with a messy cap table. If you can get 1-2 anchor investors who you're close with to close quickly at your terms, you can then stand firm on specific terms as you continue raising the round. You'll want to be firm on both valuation and structure.

Valuation: Angel round valuations are very subjective and heavily "vision-centric". Generally, multiple-time founders, SaaS products (software only, 90%+ gross margins terminally), and online marketplaces can come away with good valuations before having anything done in today's fundraising environment. D2C consumer products, anything brick-and-mortar, or anything that's a mobile app, will have a harder time commanding good terms and will likely need revenue and traction to get funded. Also, angels will typically want a sweetheart deal on valuation because they're giving you checks early-on and taking on the most equity risk. From what I've seen, a good angel round company can raise at a $1 - $3M pre-money valuation, $3 - $5M pre-money is great, and $5M+ is excellent. Here is a dataset indicated that median pre-seed rounds are at a $3-4M pre-money valuation, but note that this dataset includes small seed rounds / companies with more traction than an average angel round as well.

Structure: I recommend using the YCombinator SAFE template. It's industry-norm now for angel rounds, and allows you to get paperwork done with no legal fees - simply download the template and change the discount rate / valuation cap. The product is also very founder-friendly. Some savvy investors might not be okay with signing SAFE docs, but if you get a couple of people to sign term sheets and wire money early, you can simply play the "well everyone else is on these terms" card. Also, make sure you know the difference between a valuation CAP and valuation.

4. Determine your outreach strategy

Your outreach strategy should help you create an element of scarcity around your funding round. You want people to get the feeling that they're talking to a hot company and that waiting could cause them to lose a deal. For these reasons, I'd recommend talking to investors who you have the highest expectations of close first, and then doing broad outreach after. Focus early meetings on friends or close members of your network, try to get them to commit verbally to a minimum amount and structure, and then add up what you're able to verbally close. Then, you can reach out to more investors who you're less close with and say "hey, XYZ and XYZ have already committed to invest $200k in a SAFE at $X valuation cap. I'm aiming to close the round in 2 weeks and am fine with this amount, but happy to chat if you're interested." For people that don't know you as well, this will go a long way in conveying legitimacy and scarcity. If you can't close your best prospects, perhaps reevaluate before going out to others.

Also, make sure to be exhaustive. Closing a round with several investors will take tens of meetings and lots of rejection. Don't just go to people directly in your network, ask people you know and trust who they might be able to introduce you to. When you meet with those referrals, ask who they might be able to introduce you to. Some of my angel round participants were friends, but others were second and third-degree connections. If you only chat with 10 people on your round, it's almost impossible to expect even 2 checks.

5. Close fast

Money isn't closed until it is in your bank account. I've had angel round participants verbally commit and sign term sheets only to pull back in the last second. This is not just normal, it should be expected. When someone gives you a verbal commit, get them a term sheet immediately and aim to get money wired as soon as you can. Investors are fickle and just a few days of waiting can have them waffle on the decision to invest.

6. Draw a line in the sand

If things are going well, don't get addicted to fundraising and raise more than you need. More stakeholders means more dilution and investor-related overhead. If things aren't going well, don't keep begging for meetings and hoping you'll get a check. Reevaluate your situation and make some progress with the business before going back to market. If you're spending more time fundraising than running your business, you should probably rethink your fundraising strategy one way or another.

You can expect a best-case fundraising process to be done in a month, and a more regular process to take 2-3 months. If you're raising for 4+ months, perhaps take some time to reassess. Be cognizant of the message this sends to the market too - nobody wants to buy the house that has been listed on real estate websites for 6 months.