Why Did We Let Them Invest? (5 Basics of Seed Round Construction)

The seed round is debatably the most important round for your startup. 

More often than not, I hear something like this from startup founders:

“I wish we had put more thought into constructing our seed round. We let investors in early that ended up not being helpful. Worse, they took the spot of others who wanted to invest but ultimately we ran out of room.

We were so focused on getting the capital in the door that we settled on the good but not the great. (Audible sigh).“

The seed round (defined here as the larger round after friends and family and in MVP or beta stage) is debatably the most important round for your company.

It sets the stage for how the next round rolls (and sometimes IF there is a next round). It marries you to a group of investors that has the ability to either catapult your company many months forward or make your life miserable.

No pressure.

The seed round can take on different forms and scenarios (the numbers below can vary), but generally there is an optimal construction a founding team should architect prior to their official raise.

Here are five key areas on which to focus when drawing up the blueprints for an ideal seed round:

1. Form and Structure:

• Typically sized as a $1-2M round.
• Valuation does not dilute the founding team more than 20-25%.
• Raises enough capital for 18 months of runway.
• Equity or convertible note structure (we prefer to price rounds and think it’s better for both sides, but still see many convertible notes in seed rounds).

2. Lead Investor:

• Need to select one experienced vc/microvc that commits largest stake among all investors (in $1-2M round should be $300K-$500K+).
• Lead investor’s commitment should be meaningful to their fund size and/or fit with their strategy.
• Lead takes a long-term view and has demonstrated in past participating in follow-on rounds.
• If needed, lead should be able to introduce other helpful strategic investors to founders that will greatly move the startup forward in some unique way.
• Founding team has verified (mostly through other founders who have previously worked with the lead) that the lead has been helpful and value-added.

3. Co-Investors:

• Round includes 1-2 other experienced vcs/microvcs with smaller but still meaningful stakes ($250K+).
• May need one of these co-investors to possibly lead the next round or an extension round so lead/follow-on experience and deep pockets are a plus.
• Lastly, round includes 3-5 experienced angels committing much smaller checks who are able to connect/help the startup in strategic ways.
• When finally set, the round should have a total of 10ish mostly uncorrelated investors (as defined by their networks, geography, talent, and what they bring to the table).

4. Time to Close:

• How long a seed stage fundraising process should take is mostly dependent on how well the founders have primed the pump leading up to the official raise.
• Fundraising should be an ongoing activity from Day 1 — don’t leave it for discrete future events.
• Momentum should gain speed through the process.
• Once lead is set, speed should pick up dramatically into the close.

5. Potential Second Closing/AngelList Syndication:

• If good co-investors come to table late in process, it may make sense to close the majority of round (say 80%) and give these last investors 30 days to close.
• If business is scaling fast, additional capital can be raised from other strategic investors immediately after closing.
• This piece would include only larger investors who came in late and willing to invest at more favorable terms to the founders (typically structure as note with slightly higher cap than original round valuation).
• This extension increases the round size but adds a helpful investor(s), more runway and is less dilutive than original round.
• Many startups are also keeping a small piece of the round (say $250K) to syndicate on AngelList (disclosure: we are investors). This enables smaller but passionate angel investors the ability to be part of round and spread the love through their networks.

Although no round is perfect, good founders will hopefully end up building a great seed round that has many of the above properties. It can be long and tiring, but construct it well and you’ll have a strong cornerstone for years to come.