The idea of a bootstrapped startup has become so ubiquitous in the tech world that it has actually turned into a joke. Seriously, HBO's "Silicon Valley" would never exist without startup culture. Nonetheless, money is no joke, and a lack thereof is one of the top reasons startups fail. Series A funding can be the difference between long-term success and bankruptcy.
You've probably heard the terms Series A, Series B or Series C funding tossed around in the news, typically in reference to major tech companies like Uber and Airbnb. So, how does it function, and who gets to raise Series A funding? It's a little bit complicated.
TL;DR (Too Long; Didn't Read)
Series A funding is generally used to describe a company's first serious round of venture capitalist financing, where preferred stock is sold to investors in exchange for a capital investment.
How Funding Works
Startups aren't usually profitable from the start, which means they need cash as they grow. They obtain this through funding, which happens in various stages including:
- Preseed funding
- Seed funding
- Series A funding
- Series B funding
- Series C funding
At the heart of it, this always involves two parties: the startup and the investors. The type of investor generally varies based on the funding rounds, from friends and family to venture capitalists, private equity investors and angel investors.
Before a round of funding can begin, the company has to get a valuation. Companies entering very early stages (like a Series A round) are not publicly traded, which means a valuation isn’t a blatant figure. This number is pulled from various factors that aren’t necessarily monetary. This can include a great track record of work, a high-quality management team, risk and market size. The more a company is expected to be profitable, the more an investor would want to invest.
The exact round of funding, be it a Series A round or a Series C round, is then largely determined by the valuation of the company. Things like projected growth and maturity level (i.e., the length of time a startup has been in business) are also considered.
The Path to Series A Funding
One of the early stages of funding is Series A funding, but some things have to be in place before that can even happen. At the very, very beginning, it starts with just an entrepreneur and an idea. At this phase, entrepreneurs generally go through a round of preseed funding.
In the preseed phase, founders of the company are just trying to get enough money to do their initial launch. Typically, preseed investors are the founders themselves or their friends and family. Some companies will also raise preseed money via crowdfunding, and sites like Kickstarter and Indiegogo are hotbeds for startups at the seed stage. This round of funding can take a really long time depending on how costly the company is to launch and whether the founders are independently wealthy.
Before Series A, You Must Plant a Seed
After the preseed phase, startups typically go through a round of seed funding, which is the first time equity investors can get involved. At this phase, companies are typically valued between $3 million and $6 million and can garner from $10,000 to $2 million per round from investors. Investors during this round can be anyone from friends and family to venture capital firms and angel investors. The latter often prefer riskier startups, hoping that the equity they receive will pay off big.
Seed money, which is considered the first real money a company raises, goes toward things that help a startup with its proof of concept and business model. This includes market research and product development, but many startups financially fizzle out after this initial round. In order to move on to a Series A round, a company has to clearly know its product and demographic.
What Is Series A Funding?
Series A funding is the first jump into series funding, which also includes Series B and Series C. There are other rounds after that, but it’s not as common. Like seed funding, Series A funding is equity financing, which means startups sell investors shares of their company. This phase is generally led by a venture capital firm, and investments normally come with anti-dilution provisions, which help investors protect their ownership percentage in a company as it grows and gains a higher valuation.
It’s not uncommon for a Series A round to be led by a few different venture capital firms. Oftentimes, one takes the lead as an “anchor” because it’s easier to get other companies on board once someone makes an investment (i.e., breaks the ice). At this stage, many companies give out convertible preferred shares, which are paid out in dividends before common stock dividends are issued. This is important in the event of bankruptcy because preferred stockholders will be paid from the company’s assets before common stockholders.
Additionally, investors during the Series A round may or may not get voting rights. Commonly, seats on the board are influenced by ownership shares. It is recommended that one Series A investor sit on the board throughout the first three series rounds.
Who Gets Series A Funding?
During Series A funding, investors are looking for companies that have more than just a good idea. Series A startups, which typically have a premoney valuation of $22 million, need to have a long-term strategy for success. They don’t necessarily need to be turning a profit, but they should have a business plan that outlines how and when they’re likely to be profitable. Remember: Venture capitalists are making investments to make money — it’s not just free cash.
Companies in this phase generally have a proven track record of users or consumers and are looking to expand or optimize what they’re already doing. Typically, a startup can receive between $2 million and $15 million during this round, and venture capitalists walk away with around 15% to 25% of the company.
Who Gives Series A Funding?
Unlike the seed phase, investors during a Series A round of funding are traditionally venture capital firms. These private equity firms are created specifically to financially back startup companies and are typically led by wealthy individuals, investment banks and financial institutions. VCs don’t always provide monetary value and may provide technical and managerial expertise instead.
There are hundreds of venture capital firms in the United States, but the largest Series A investors include Accel, 500 Startups, Bessemer Venture Partners, Andreessen Horowitz and Greycoft Partners. Other highly active Series A investors include IDG Capital, Google Ventures and Index Ventures.
Beyond venture capitalists, startups may also work with angel investors during Series A. Angel investors are private investors with a high net worth (i.e., really rich people like the sharks on "Shark Tank") who help to financially support small startups and entrepreneurs. Typically, these investors get equity, but they have more influence in the seed round than they do in later rounds.
Where to Find Series A Funding
Funding is often a huge hurdle for startups. If you don’t have experience, it’s hard to figure out how to enter the typical stages of funding. To get started, join an accelerator. About a third of all startups use accelerators to help raise Series A funding.
Founders who don’t work with accelerators largely succeed through networking. You need to expand your professional network and try your best to meet as many influential investors or startup founders as possible. You can also seek out angel groups or micro-VCs and try to connect. Remember to form a genuine connection rather than pitching these people the second you get in the door.
Crowdfunding Equity as an Alternative Option
Instead of or in addition to traditional VC firms and angel investors, some startups also turn to equity crowdfunding during the Series A phase. This is usually facilitated through an equity crowdfunding website, and the financing can come from any type of people as long as they’re over the age of 18 (it should be noted that there are limits based on income and net worth). This is generally only used when companies are struggling to garner investor interest.
AngelList is one of the oldest equity crowdfunding platforms. It was originally created to connect angel investors with tech founders, but the world has grown a lot since the site was founded in 2010. If you want to go this route, you may want to look at:
Remember: Equity crowdfunding is the same thing as the crowdfunding that happens on Kickstarter. You are selling shares.
How Likely Is Series A Success?
A Series A round only occurs when a company has demonstrated that it can succeed as long as it has time and money. Of course, just because it can succeed doesn’t mean it will succeed. We already know that 90% of startups fail, but what about startups that make it past the preseed phase?
According to TechCrunch, around 60% of startups never make it to a Series A round. About 12% of them get acquired before reaching Series B, and the rest ultimately fail.
Making it past Series A financing is even more grim. Just under 80% of startups don’t reach a Series B round, with only about 14% of those companies getting acquired.
If that dissuades you, remember that there are always unicorn companies. Unicorn companies are the rare, privately held startup with a valuation of more than $1 billion. This includes popular companies like home-sharing website Airbnb, video game company Epic Games and online payment platform Stripe. It doesn’t happen often, but it happens.
Pros and Cons of Series A Funding
Series A financing isn’t right for every company. The majority of companies fail, and you have to be strategic about from where your money comes because not all money is equal. With Series A funding, you're typically giving up some control, but it really depends on the source of the investment. Venture capitalists tend to be more heavy handed than angel investors.
The more money you make from venture capitalists and angel investors, the more your company is owned by someone else. These people will likely end up sitting on your board of directors, and you'll have to involve them in your decision-making process. This can slow down certain operations and taint your company's vision. This isn't the case with debt financing, where you're answering to no one as long as you pay off your loans.
The good thing about Series A funding is the fact that you can get a lot — a lot — of money, and you’re not accruing debt in the form of interest. A business loan may provide $2 million to help you expand your successful startup, but the average Series A round provides $13 million. In addition, working with angel investors during the Series A phase has become increasingly popular because angels expect a smaller return on investment and often serve as mentors who can provide essential connections.
- Investopedia: Preference Shares
- Both Sides: Who Should Be On Your Startup Board?
- TechCrunch: Setting The Right Valuation For A Competitive Series A Round
- Forbes: 90% Of Startups Fail: Here's What You Need To Know About The 10%
- TechCruch: Here's How Likely Your Startup Is to Get Aquired at Any Stage
- Corporate Finance Institute: What is Series A Financing?
- TechCrunch: Antidilution: The Other Way VCs Take More of Your Startup's Equity
- Investopedia: Unicorn
- CBInsights: The Global Unicorn Club
- Investopedia: Angel Investor
- Forbes: What Is Equity Crowdfunding?
- Visible: Series A Funding
- Patriot: How to Decide Between Pitching to a Venture Capitalist vs. Angel Investor
- Investopedia: Series A, B, C Funding: How It Works
- Crunchbase: Glossary of Funding Types
- Yahoo! Finance: What Is Series A Funding and How Do You Get It?
- Crunchbase: What Does It Take To Raise Your Next Round In 2018?
- Money Crashers: Top 10 Equity Crowdfunding Sites for Investors & Entrepreneurs