Those in the startup world need to raise money to fund their companies. Before seeking funds, the entrepreneur must become acquainted with the language of fundraising. That language is particular: There are more or less specific descriptions for each stage of fundraising. Typically, fundraising begins with family and friends. If everything goes exceedingly well, then fundraising rounds end with a Series C round for a well-established, profitable company. We’re writing separately and in more depth about these rounds, but an overview is helpful to understanding the broadly understood meanings of the terms describing them.
Round 1: Pre-Seed, or Family and Friends Funding
Unless the entrepreneur is wealthy enough to self-fund, the entrepreneur typically will turn to family and friends to fund the startup. This round can be called a “pre-seed” round, but it is more descriptive to call it a “family and friends” round because there is where most of the money will come from.
At this point, of course, the investment is risky because it is only an idea. Family and friends must realize that it is quite possible that they will lose their investments. There are ways to help protect both the entrepreneur and their family and friends from personal liability. But let’s assume that all has gone well so that the entrepreneur is ready for the next fundraising rounds.
Round 2: Seed Funding
Seed funding takes place prior to the time that the startup plans to begin operations but also at the time when the startup has a detailed business plan in place. “Seed” funding refers, then, to funding the startup with enough money that it can truly grow to the point that it demonstrates the viability of the entrepreneur’s idea.
Generally speaking, there are two sources for seed fundraising rounds. One source lies in the venture capital world, where investment firms study and carefully pick among competing startups for funding. The firms, in turn, are funded by others who want to invest using the expertise of the venture capital firm. An alternative source is the “angel” investor, who often is a wealthy person rather than part of a firm and who invests their own money in startups. For either source of funding, the investor will expect to receive some equity in the startup as a condition of funding.
Series A Round
Now we’re ready to leave seeds behind and move to letters. The next step in fundraising rounds is Series A funding. The startup seeks Series A funding when it has become apparent that the idea for the startup is workable and has proved itself through the seed fundraising round. At this point in the life of the startup, the startup focuses on how to monetize its business. The startup must draw up detailed business plans about how to continue penetrating its targeted market but also creating revenue streams from it. A startup with a powerful, well-thought-out strategy will succeed in obtaining Series A funding to begin growing into a mature company.
There are a couple of peculiarities with Series A funding. One is that by this time, it is more common that investments will come not from angel investors but from venture capital firms, such as Accel, Andreessen Horowitz, Benchmark, Greylock or Sequoia, among many others. Another peculiarity is a “follow-the-leader” effect, where if one venture capital firm invests in a startup, others quickly take interest and are more likely to invest in it, too.
Series B Round
The Series B round is where the company - we’re past calling it a startup - puts its efforts into expanding its markets. The company already has proven, through its earlier fundraising rounds, that it has a workable business plan and has been able to monetize its products. A Series B round is designed to assist the company in scaling up to meet the demands of the market.
By this time, the company has come a long way from a few notes scribbled on the back of a napkin at a coffee shop. From its humble beginnings, the company may find that it needs an expanded physical plant. Also, it needs more employees plus departments such as advertising, business development, customer support, sales and tech support. These are the types of expenditures for which companies engage in Series B fundraising rounds.
Series C Round – Maybe an IPO?
Companies considering Series C fundraising rounds have become successful. They are stable and making money, but they might decide to develop a new product line or expand into new markets. For example, the company might decide to sell a new line of consumer goods in Europe. The company might also be interested in acquiring other businesses that complement what the company does to fill a need that the company has.
Another possible reason to seek Series C funding is in anticipation of an Initial Public Offering (IPO). In other words, the company might decide to “go public,” which means that the entrepreneurs who founded, and own, the company will reap tremendous financial rewards for their years of hard work.
Five Fundraising Rounds
Fundraising rounds are not scientifically defined. They can and do overlap, as do the investors who seek to inject capital into startups. Often, there is more than one of each type of round. But generally speaking, every business that has reached the pinnacle of success has gone through these five fundraising rounds. It is incumbent on the entrepreneur to be familiar with their general definitions.