Life of a Seed Round

(originally written on April 10, 2017)

Adam Fletcher, Co-Founder, Gyroscope Software

Over the past few months my co-founder and I have been building a company that develops ML-based mobile-user engagement tools for app developers. We’ve just finished raising our seed round, and I wanted to share that story in hopes of helping other early-stage entrepreneurs.

I’m not going to cover figuring out what problem you want to solve, or what product you want to build, or finding a co-founder. I’m also not going to name any names; in general, everyone we met with and talked to was amazingly helpful and friendly. It’s honestly astonishing how founder-friendly the Bay Area is. The VC firms that work in the area could not do more to help new founders find their way through the maze of decisions and meetings that make up raising a round of financing. It’s in this spirit that I write up Gyroscope’s seed round story.

The bulk of our story is focused on preparation. If you do your homework, you’ll find the meetings and pitches to be the easiest part of the process.

Good Things We Did Before Raising Our Seed Round

Spreadsheets made: 4
Lines of R code written: ~1250
Simulated company progressions at different valuations, preferences, option pool sizes, paper type, etc: 10+

Very early in our company’s life we incorporated in Delaware via Stripe’s Atlas program. If you’ve not yet navigated the process of incorporating, I recommend that you go look at it. Stripe, though Atlas, provides a system for filing incorporation papers, getting a bank account, getting some time with a lawyer, getting in touch with accountants and tax people, and so on. Atlas makes a bunch of paperwork and research simple to do.

Along with incorporation, we hired a good lawyer. We really like our lawyers at Gunderson. They have done these sort of deals thousands of times and they understand what goes into a financing round. They know all the paper, but most of all they have experience and know when to say “that is not how it is done, and here’s why”. It is likely that all the bigger firms in the Bay Area possess this knowledge and experience .

Figure 1. If you have made this plot, your budgeting process has gone too far.

After incorporating, in early January, we made a budget. We figured out who we wanted to hire, did estimates of our burn rate, our cost of operations, modeled potential user counts, built systems and software to help us… We probably over did it a bit. The above plot (Figure 1) we made in R+ggplot and if you get to that point you’ve probably modeled enough. Once we had our budget, we had a general idea of how much money we needed to hit target growth and revenue milestones, and we used that figure to influence our planned valuation.

Figuring out your valuation is hard but incredibly important — leading up to your seed round, you probably have neither product nor customers or much more than a team, a prototype and slide deck. We built some spreadsheets and used some on-line calculators to figure out what raising money really does to our company. For example, you really need to understand the difference between a SAFE, a convertible note, a priced round, preference, pre-money and post-money valuation, the impact of an option pool on your valuation (and when to create such a pool), the amount of dilution you are willing to take, what dilution is, and so on.

There are plenty of resources online to help you with understanding a cap table, but my biggest piece of advice here is: get in front a whiteboard and do the math by hand for all the options. Write software to check your numbers. Build a spreadsheet. Don’t just use some online calculator that you find — you need to do the work yourself so that you really understand what your are giving up and what you are getting. Model out your seed round and your Series A — the latter will be eye-opening when you see what your numbers look like. Be aware that VC ownership percentages also impact the relative size of the VC’s desired exit — the more ownership a VC has, the more they get from an exit.

Valuation is a good topic to get advice on from people who’ve raised a round. Alternately, you can talk to VCs about valuation during your pitch and they will have a lot of advice. Don’t forget that their advice will be likely be influenced by the side of the table on which they sit. We didn’t take this route so your mileage may vary.

Insights

• Incorporate — this provides a legal framework for you and your co-founders, and forces you to have discussion and make choices around ownership and control.
• Lawyers are worth the investment.
• Make a budget; it’ll be wrong, but ideally not too wrong, and you will learn from the process.
• Spend a good bit of time working with the numbers that go into a term sheet so you can understand the impact of changing any of those numbers on your company and its future.
• Think hard about what each party in an investment wants out of the investment; aligned incentives are important.
• More is not always better.

Pitch_Deck_v1_v2_FINAL_draft_v2.ppt

Practice Pitches Given: 10
Major Deck Revisions: 3
Minor Deck Revisions: Countless

Around the middle of January we created a pitch deck that we thought explained what our product did, what our business around that first product was, and how it was so awesome that not investing in us was clearly a giant mistake. We then asked two of our friends who have founded a few successful companies to give us feedback on our pitch.

I hereby apologize to those two friends.

“…while they didn’t say it, our pitch was really bad. ”

They gave us a lot of useful feedback; the most obvious of which was that, while they didn’t say it, our pitch was really bad. They are nice people, though, so instead of laughing us out of the room they gave us constructive criticism on our pitch, our deck, our research, our product, and our approach to fundraising.

After that meeting we went back to work on the pitch deck and heavily revised it. We then called another friend up who had also been a founder, raised seed, A, and B rounds, and pitched to him. He then gave us a lot more feedback — a bunch of which contradicted previous feedback (nothing I’ve listed above, rather details on the product and market). These contradictions happened a number of times throughout our raise and Jonathan and I adopted (at his good suggestion) the rule of 2: if someone gives us the feedback twice, we need to act on it. I highly suggest you adopt this same rule.

We also created an emailable version of our pitch deck, with most of our talking points turned into bullet points. Many people are going to ask to see your deck before a meeting, and your presentation deck won’t have all the content on it.

Insights

• Make sure you cover all your pitch topics consistently and confidently. To be clear with one another, we used the slide notes section of our slide software to write down exactly the words we were going to say for each slide; we practiced saying these exact words until we could say them without reading from the slide notes. Only after we could do so, did we veer from the script.
• Follow the rule of 2.
• Ask for lots of feedback from people you trust.
• Use a standard order for your slides (Sequoia).
• Practice on your friends as much as they will tolerate.
• Include your names, email address and website on the title slide. We once forgot to do this, and if that version of deck was forwarded, the recipient wouldn’t know how to get in touch with us.
• Create an email version of your pitch deck.

Finding Investors

Potential Investors Researched: 45
Potential Investors That Fit: 20

As we worked on our pitch deck in January, we also started developing our investor leads. Since we work in the Bay Area, we found we already knew many VCs or people who were VC-adjacent. We used LinkedIn, Facebook, and in-person meetings to get introductions to these VCs. At first I felt awkward about asking for introductions, but I learned to get over this nervousness quickly.

Using our personal networks was by far the most effective way to get meetings. Actually, looking now at the data, it was our only source of leads. I suspect you will find the same thing. Remember that co-worker you thought was very good a few years back? She’s a VC now, or she’s started her own company and knows some, and she’s probably happy to introduce you. Most people underestimate both the utility and the reach of their own network.

Many of the VCs welcomed the introduction from a friend and were willing to have a quick initial chat. We tried not to waste this time; while in a very real sense the job of a VC is to meet with startups and figure out if they should invest in that startup, their time is limited and should be respected. These meetings are an opportunity for you, the founder, to demonstrate that you understand how to effectively use time and resources.

A heavily redacted version of our leads spreadsheet.

We built a spreadsheet with the contact name, the investor, the stage at which they typically invest, our estimation of the probability of them investing in us (how did we figure this out? Well, were they in our market? Did they typically invest in companies like ours? Did we know the investor well? Questions like that helped clarify what to put in here), the stage in our pitch maturity at which we wanted to pitch to them, the expected value of the investment, and the status of the relationship.

What do I mean by “stage in pitch maturity”? Jonathan came up with this term to describe when we would want to talk the investor — as we are growing in comfort with our pitch, when we are mature at pitching, or when our pitching is at peak performance. You might, for example, pitch to your ex-college roommate early in your raise since you know they are going to be honest and probably commit some money regardless of what your deck says, but you might save a large institutional investor for the peaking phase.

Also, two things we considered when calculating the expected value of an investor: first, whether that investor is leveraged — what else do they give us beyond money? They might offer sales leads, or recruiting, or office space, and so on; and second, whether there is signalling risk when we take the investment if that investor isn’t in our series A?

We also had columns in our sheet for each VC’s fund size, the stage(s) at which they invest, and the minimum and maximum check sizes they write for each stage up front. One thing that surprised us was how tactically important fund size is. That is to say, an investor with a 4 billion dollar fund might not be best for you; instead, you may want a much smaller fund. The way to think about this decision point is to consider if that investor is a) invested in other companies like yours (e.g., are they funding the competition? More likely in a larger fund), b) going to go to series A with you (and, do you want that?), c) how much time will they spend with you, d) can they do bridge financing if need be? The correct answer is different per company, and you as a founder should spend time thinking about it. Also note that a larger fund may want a larger return on investment, since smaller returns don’t impact the fund as much.

Insights

• Your friend and colleague network is likely the best way for you get in touch with potential investors.
• Create a system for tracking all the relevant data on investors; a spreadsheet works great.
• Think about how much value each investor brings to your company, and build a system for measuring that value.
• Fund size was a surprisingly important metric for us.

Angel Investors

We had luck raising some money from angels (thanks!) and that helped us a lot in while pitching to institutional seed investors. The angel money help prove to other investors that we had folks who believed in our company, team and vision. We applied all of the techniques detailed here to raising money from angels. We also only raised angel money from people who understood the risks of investing and had invested in software startups before.

Planning on when to meet the investors

Emails Sent: 214
Pitch Decks Emailed: 17
Wireless Plan Overage (GB): 11
Miles of Sand Hill Road Walked In The Rain: ~3

It took us from late January until March to get our pitch deck shaped up, our pitch honed to perfection, our prototype built, and our line up of potential investors ready for introductions.

At this point we sorted our investors by pitch maturity and then by expected value (EV), choosing to pitch to the growing/low EV investors first. We wanted to get feedback early and often and iterate quickly, but at the same time be ready to wow during our highest EV pitch.

After we had the order we wanted, we reached out to the investors and then ended with a totally different order. When reaching out, always include a suggested time and date; say something like “could we meet at Philz on 4th and Berry at 1pm on Tuesday the 21st?” That way you anchor a time, date and place, and the follow up reply will address those specifics explicitly.

We tried to get as many meetings in as short as time as possible, figuring that we’d never be better at pitching then we were during those few weeks. We ended up booking the majority of our meetings for a two week period and then had maybe 4 or 5 meetings that had to be later due to people traveling and so on.

Insights

• Rank your potential investors by EV and maturity.
• Try to line up all your meetings in as short a time as possible; then, should you get terms from any of them, you will have time to meet with other investors before having the term sheet expire.
• For any proposed meetings suggest a time, date and place.

Before the Meeting

So, it’s early March, and we have a lot of meetings lined up. Before each meeting, we did research on the firm, checked out their investment thesis (again), did some research on the person we were meeting with, researched the portfolio companies of the firm, and so on. We’d update the deck to use any of the VC firm’s portfolio companies as example customers we could help, and we’d discuss how to pitch to the person given that person’s background (e.g., are they technical or not? Did they give any talks recently we should watch? And so on).

We made a mistake here with one firm — we didn’t see that they had potential competitors in their portfolio until the last minute, and we decided to cancel the meeting on short notice. Don’t do this. Instead, do your research ahead of time and work all that out beforehand. You should know what potential competitors the firms is invested in and have discussed that before your meeting.

Some VCs did this work for us and sent us notes saying “we’re invested in X which sounds a bit like what you do, is it a conflict?”. Such notes were great for both parties (and thank you to the investors who did so — it meant a lot), but you as a founder should do this work. Don’t presume that the VC will do it for you.

Insights

• Make sure you find out if a potential investor is invested in companies that might be competitors of yours.
• Do research not just on the firm but on the specific person you are talking to: Watch any talks they may have given, find out what they did in their career, see what their interests are.

The Meetings

AppleTVs Connected To: 4
HDMI Connections: 7
Chromecasts Connected To: 2
Times We Gave Up And Used Our Laptop: 4

Our entire March was spent talking to VCs. Our pitches were done in coffee shops, bars, very fancy offices, somewhat fancy offices, hotel lobbies, our “office”, over video conference — basically everywhere.

A typical meeting went like as follows:

1. Figure out how to get on the wifi
2. Figure out how to project on the giant TV
3. Introductions, ask about mutual friends, talk about commonalities
4. Get an introduction to the firm, the people in it, the size of the firm
5. Ask how the VC would like to structure the meeting — background first? Pitch first?
6. Go through the pitch deck
7. (Possibly) show a demo
8. Address feedback, discuss next steps
9. Ask about any portfolio companies that may benefit from your product
10. Thanks, exchange cards, generally close out the meeting
11. Go to the nearest coffee shop to do the postmortem

As I said at the top everyone was very nice to us. We got strong feedback, but all of it was constructive. By the end of our first week we had a good understanding of whether the result of a meeting would be a yes or no; you’ll develop a sense for the result as well.

Don’t argue with the investor. This mantra sounds obvious, but you’d be surprised how much it can feel like someone is criticizing you when they are talking about your pitch deck content (this could just be me). Try to avoid getting defensive — someone is considering risking a bunch of money on you and your idea, so it’s only fair that they ask hard questions. There are a few kinds of questions we got:

• Educating: The VC was teaching us about the market, fundraising, etc.
• Testing: The VC is looking for assurances that we had done our homework and knew our business well.
• Criticizing: “x is an issue.”
• Clarifying: “I don’t understand x, can you explain?”

Sometimes a question falls into many of these categories and it becomes unclear what sort of answer the questioner is seeking. If your answer falls short the first time, consider these question categories as a guide.

One thing we quickly noticed is that we only ever got advice or feedback on one of three topics in our pitch: the team, market, or product — “The 3 Risks of VC” (special thanks to Francisco Gimenez at 8VC for this seemingly simple yet incredibly valuable conceptual framework). No investor ever questioned more than one of these, and we got so that we could predict what it would be before a meeting based on the investing thesis of the VC we were pitching too. For example, if the VC was in hard technology like ML, they’d have lots of questions about the mobile market, while if they were in mobile, they’d have questions about our ML technology. If you think about it, it makes senses — the VC is trying to understand the area of least expertise (for them) since that represents the most risk.

“Don’t get mad at anyone for saying no. There are a million reasons that have nothing to do with you personally, or your product, or the market. “

Don’t get mad at anyone for saying no. There are a million reasons that have nothing to do with you personally, or your product, or the market. A no for this round might be a yes for later rounds, and a VC might also be willing to intro you to their portfolio companies but not willing to invest. These intros could be worth more than the investment — they may lead to sales — so always ask to be introduced to any portfolio companies that may be possible customers, and the best friend you could have going into a series A is that firm’s portfolio companies as your customer.

After every meeting we’d write up what we learned and what changes we needed to make, if any, to our pitch or our research. We’d send a thank you note — always send a thank you note — and we’d discuss what follow up we needed to do. We’d update our spreadsheet and plan for the next meeting.

Insights

• A “no” has a lot of useful information hidden in it; be sure to get all the feedback you can.
• How you react to criticism or a “no” is part of your reputation in the VC community. Never miss an opportunity to improve your reputation, as you don’t know who you’ll be working with in the future.
• Ask to be introduced to any portfolio companies your product may be a fit for.
• Do a postmortem on every VC meeting.
• Understand which leg of that triad is weakest for your company, and you should spend time learning about that aspect of your business. It’s critical you know your weaknesses and work on them. As Jake The Dog says, “Sucking at something is the first step to becoming sorta good at something.”

Side Note: To Demo Or Not To Demo

We ended up building a prototype of our product and offered demos to everyone we ended up pitching. There’s a lot of advice that you shouldn’t waste your time building a prototype; we think this is bad advice for software engineers, as building a prototype had some great benefits, and increased our leverage:

• Our technology sounds a bit like magic; VCs hear a lot of pitches that sound like magic but that the team can’t deliver. Being able to demo legitimized our pitch.
• Some VCs only wanted a demo, not a pitch.
• Building the product put us in our comfort zone (software engineering and data science), and it was essentially a morale reward for the other work we were doing at the time.
• It helped build our own confidence, which is important to exude when pitching.

Closing the Deal

In late March we got some term sheets, and we needed to figure out what the term sheets really said. This situation is where a good lawyer is worth every penny; they helped us negotiate, and they explained what the impact of each item is. That said, we still needed to read all the documents and ask lots of questions. A question now might cost you in terms of legal fees but I assure you it will save you multiples of those fees down the line. Two big aspects of your term sheets are the economics and control. The economics are the money side, and the control is the business decision-making side. You need to understand how they work together and understand what you are willing to compromise on.

“As many VCs pointed out to us: YC invented the SAFE, but YC doesn’t use SAFEs when they invest.”

One thing we found is that we started out wanting to raise on SAFEs but a lot of the VCs didn’t like SAFEs. SAFEs are very founder friendly — we wanted to use a SAFE — but they aren’t investor friendly. As many VCs pointed out to us “YC invented the SAFE, but YC doesn’t use SAFEs when they invest”. A YC deal is $120k for 7% of the company. If you are considering YC, you should do the same EV calculation that you did for all your other investors, with the added understanding that YC operates on much less founder-friendly terms than a SAFE but is very highly leveraged (you’ll get a ton of sales leads via the YC community, likely get Hacker News press, be able to pitch at Demo Days, and so on). You should assign values to all of these leverage points and decide if 7% of your company is worth the calculated EV of joining YC — it may be. For us, we decided not to apply to YC at this time.

A convertible note or a priced round — they can all be fine for you if you have a good lawyer and know what the long-term impact of each item in the term sheet is. You need to do your homework! There’s no substitute. It’s your company, so do some math to make sure you are getting the deal you want.

Insights

• Your lawyers really earn their keep here, but remember it is your company and your signature on the term sheet, so be sure to understand everything about the terms of the investment being made.
• SAFEs are great for founders for a lot of reasons, but they are not always aligned with the investor’s incentives. Sometimes that’s okay, sometimes it is not. YC doesn’t use them.
• Negotiate everything.

Thanks!

We’d like to extend thanks to our lead investor, Engineering Capital, managing partner and lead engineer Ashmeet Sidana is a pleasure to work with and we’re proud to be part of the Engineering Capital team.

Engineering Capital partners with entrepreneurs with technical insights. If you’re a technical founder, reaching out to Engineering Capital is a smart move.

Gyroscope: Now Hiring!

I hope this post has been a useful to any future entrepreneurs and to those interested in understanding the process of raising a seed round from the perspective of founders. We’d love to hear about your experiences as a founder or VC.

Gyroscope is a complete solution to the mobile-user retention problem. Unlike analytics tools that require manual work, Gyroscope is automatic. With just 3 lines of code, Gyroscope automatically customizes an app’s behavior — in real-time via ML — to each user such that their happiness is maximized. Happiness = retained users = revenue for developers. If you or your company develops mobile applications, join the Gyroscope beta program.

We’re hiring for two software engineering roles; if you are interested, send us your resume!

Originally published at www.gyroscope.cc.