How to raise funds for your startup
So you want to raise money for your startup, but you don’t know where to look. One thing is certain—you’ll have plenty of competition. There are many people looking to fund their startups.
Finding appropriate places to seek funding starts with understanding the lifecycle stage of your startup. Take a look at the three lifecycle stages of a startup, then we’ll dig into your options:
Idea stage: No MVP (minimum viable product) and therefore no revenue
Funding options: friends and family, seed angel investor, startup incubator
If you’re at the idea stage, then try to get as far as you can on your own since it’s too early for significant money. Many founders will keep their day job to pay the bills and work on their startup after hours especially if they have programming skills or a technical co-founder who can build the product. Try to avoid using personal debt (maxing out your credit cards!) as this is a terrible financial plan.
Another common strategy is to rely on your partner’s (spouse) day job to pay the bills and also provide healthcare benefits (important in the US!) but this may take a toll on your relationship so set milestones and realistic expectations accordingly. If you go this route then focus entirely on MVP and get a customer to sell it to—set an expiration date on your venture to save your relationship—it’s unfair on your partner to build the “perfect product” in this scenario.
Raising money from friends and family could be a good option if you’re a reliable person with a track record of doing smart things. Future investors may also like it because it means your in-laws will find you if things go south, so you’ll be adequately motivated! 😊
CAUTION: Don’t confuse prototype and MVP. A prototype is something that demonstrates the concept but is not sufficient to sell to customers. A prototype has limited usefulness, so focus on building an MVP. An MVP is a product with enough utility that customers will buy it. Customers may have a load of feature requests, but your product is useful enough to buy it today.
MVP stage: MVP and some pilot customers and revenue around $30-50k ARR
Funding options: startup accelerators, seed angel investor
Congratulations! You’ve passed some major hurdles. You have a product that you can sell and already have a few paying customers using it! Valuation of your company will still be difficult because your revenue is so low and valuation is typically a multiple of revenue. This is a critical stage for your startup since you need to jump-start the revenue engine. This is what you need:
- A solid understanding of your core use cases and how to articulate them and push them through every branch of your startup—marketing, messaging, content, sales, onboarding, upsell, and even retention.
- A sales process that includes appropriate systems, communication cadences, appropriate inbound and outbound strategies, hiring of salespeople, compensation models, and deciding on core KPIs (key performance indicators) including pipeline management and eventually forecasting.
- An onboarding strategy for new customers that will make them happy and fuel your future marketing with case studies, strong testimonials, referrals, customer feedback to roadmap, customer community building, upsell, and customer retention.
- A technology strategy to cover scaling of your solution, effective roadmap management and appropriate R&D growth plans and budgeting.
- Seasoned help from people with expertise in sales, customer success, strategy, marketing, positioning, and technology.
This is an exciting but also pivotal time in the growth of your startup. Your goal should be to position your startup towards getting to $1M ARR (annual recurring revenue) in a fast but sustainable manner while maximizing your monthly cashflow.
Scaling stage: A growing customer base and revenue over $500k ARR
Funding options: startup accelerators, angel investor networks, venture capital (VC) firms
Your startup is humming along and driving some respectable revenue. Pay close attention to your growth rate because your potential investors will be obsessing over your growth and how well your startup is scaling. You have enough revenue now to attract the bigger dogs in the business as you’ve de-risked your company quite a bit through market validation and growth. If you can avoid taking money and grow organically instead, that could be a good option but it needs to be balanced against how fast your competitors are growing. Strategic investment partners with scaling expertise can still be very worthwhile if they help you avoid pitfalls and scale faster.
Types of investors and the pros and cons of using them for your startup
Friends and family
Ready to ask your rich aunt for cash? If you have a good relationship and strong work ethic then wealthy friends and family may be willing to risk some cash on your startup. Ensure that they understand the risks involved and that they may never see their money again. The law may require that your investors be accredited; familiarize yourself with the laws in your jurisdiction. There may also be limits on the number of investors that you can take on. Make use of the online platforms that make it easier to manage these types of investors. Use this financing option with caution as it may strain personal relationships.
- Can be easy money since these are not sophisticated investors.
- Can be grouped together to total substantial amounts. I saw one startup raise $500k from friends and family in $25-50k increments!
- Unlikely to provide any helpful guidance – in fact, their advice will often be wrong!
- Another reason for your in-laws to hate you, aka destroys relationships.😊
Seed Angel Investor
An angel investor is a wealthy individual who invests in what they term “alternative investments” to diversify their investment portfolio with startup investments and other investment vehicles. They are often making many small investments. A common rule of thumb for angels can be $50k into 100 startups over a few years ($5M total investment).
They will expect most of the investments to fail but might have 1 or 2 big successes out of the 100. These investors are less likely to bring much value to your startup since you’re just one of many. They are more of a financial investor rather than a strategic partner. Seed stage just means that the angel investor is aggressive and will experiment with very early-stage startups. Some angels might write bigger checks than $50k, especially if they have experience in your industry.
- Often prepared to make riskier investments, especially at the seed stage.
- Can be quite hands-off and only check-in periodically.
- Provide little mentoring or advice.
- Smaller check sizes.
- Often hard to get the investor’s attention, especially as time goes on.
Angel Investor Networks
Same as seed angels but instead it’s an organized network of these individual investors. The network usually has dedicated staff who seek out startups, perform due diligence, and then bring these opportunities to the angel investors for group investment. The network organization typically charges a fee to the angel for making investments and takes a cut of future upside. Most angel investor networks will only consider a startup that has demonstrated solid market traction with at least $300-500k ARR and strong growth.
- Larger check sizes than an individual angel investor.
- May get more mentoring from principal investors in the angel investor network who are more hands-on with the startups in exchange for better investment terms with the network.
- Need to have demonstrated solid traction and growth already.
- Amount of advice and involvement may depend on the angel investment network and their experts.
A startup incubator typically takes applications from tens or hundreds of startups for each cohort. A cohort is just a group of startups that are accepted into the incubator, usually one cohort every 6 months—so two cohorts per year.
You will effectively pitch your startup to be included in a cohort. Being accepted into a cohort comes with some prestige and validation depending on the reputation of the startup incubator. It will also come with around $50-140k in cash for around 3-7% equity in your startup. You’ll then have 6 months in the cohort with access to their mentors, usually some communal office space, and regular feedback through “demo days” where the incubator reviews pitches from all the startups in the cohort. A cohort may typically consist of 2-10 startups.
- A great way to get started with some funding and guidance towards building your MVP and perhaps landing a few pilot customers.
- You only give up a small amount of equity.
- Can help with introductions, partnerships and referrals for expertise, further financing, or even acquisition.
- Can be highly competitive to get into a cohort.
- Mentors are often just part-time (or even consultants) so you may not get much of their undivided attention without paying them.
- Office space isn’t much of a benefit anymore with the push towards remote working.
- Little to no support after the cohort is complete.
There’s some variety here so I’ll focus on our own startup accelerator, LogicBoost Labs, so we can speak in concrete terms. We look for the startup to already have an MVP and a few pilot customers bringing in around $30-50k ARR total—this provides some market validation. We also expect the founder to be fulltime or be prepared to go fulltime if they are accepted into the program.
An accelerator is going to help you build a Go To Market plan for spending the investment dollars to get your startup to the next step. This could be break-even where revenue = burn, a certain revenue target or even the elusive $1M ARR. An accelerator program is typically longer than an incubator (something like 2 years versus 6 months), and is much more intimate with ongoing help from experienced experts.
At LogicBoost Labs, our team is comprised of very senior W2 employees who focus entirely on our portfolio companies. They are not consultants with other day jobs. This means that our startups get the attention they need from experts that they could never afford to hire themselves.
A typical deal with LogicBoost Labs involves 4 parts:
- Cash on balance sheet to fund your Go To Market plan. For example: $200k
- Advice and mentoring through monthly board meetings and strategy calls to help with everything from budgeting, pricing, positioning, and differentiation. Solid advice when you need it—this is definitely your unfair advantage over your competition.
- Services from experienced experts. Our team works in your startup. This is funded as part of the deal. For example: Get a VP of Sales to work in your startup for 3 months to set up all your sales processes and hire your first salespeople.
- A convertible note to provide for future funding. This enables you to focus on your product and customers rather than being distracted with constant fundraising. Just put in the effort to meet your milestones and further funding flows easily from the accelerator to your startup.
- Experienced experts help your startup over a longer term and even work in your startup operationally. This provides a massive jumpstart at a key time in your startup’s lifecycle.
- Bigger check sizes. LogicBoost Labs currently offers initial deal sizes up to $300k and can go over $1M in funding once significant future milestones have been reached. This can be hitting the jackpot for your funding needs.
- Longer term relationship gives your startup more runway and ongoing help to succeed.
- Fewer portfolio companies results in more attention to your startup. Also, larger check size and equity stake means the accelerator cares more about your startup’s success.
- Larger equity stake. LogicBoost Labs looks for a 20% equity stake in its portfolio companies.
- Accelerator investment is most appealing when you’re early revenue and desperately need help to drive sales and marketing.
- Can be highly competitive to get into a startup accelerator program.
Venture Capital (VC) firms
VC firms have unfortunately created a bad name for themselves, from constantly hassling startups, to taking over startups and firing the founders, to screwing over the founders on exit. That said, there are plenty of great VC firms who do amazing things for their startups!
VC firms have a lower risk tolerance, so they are looking for startups that have at least $500k ARR already—their ideal is a few million ARR. They also want to see that the space has large upside potential which means a large TAM (total addressable market). They are not going into the investment to make $5M. They want to see a massive exit with $100M or more in upside for them.
Many VC firms will not take a minority position. They will want at least 51% ownership when making an investment. This is often necessary for the shareholders in their fund so they can make appropriate management changes if things aren’t going well. That is, they fire you if you don’t perform!
- Much larger check sizes. Deals could range from $1M to $800M, or more, depending on the size of the VC firm and their funds.
- The VC firm has a significant interest in making the most of their investment so you’re likely to hold their attention.
- The right VC firm can create phenomenal results. I sold a majority stake in my first startup to a VC firm that then took the company from $10M ARR to over $120M ARR in just 6 years!
- Loss of control. Many VC firms insist on 51% control. You may still lose control at a lower percentage due to tuck-ins later that may further dilute your ownership.
- Risk being fired if you don’t perform or don’t align strategically with the VC’s vision.
- Your startup may lose the VC’s attention if they invest in a new darling startup, or your growth stagnates.
Tuck-ins: This is the industry term for small acquisitions that are made to add further enhance the product line-up of a portfolio company. For example: you make security software and they find a small startup with a complementary product offering so they buy the company and merge it with your company. Tuck-ins don’t usually mean that you’re forced into dilution, but it may be inevitable. Say you sell a 49% stake for $10M and a tuck-in happens later for $20M, then you would have to add your $10M back to the acquisition to prevent dilution.
If your startup is B2B SaaS, has an MVP and a few pilot customers bringing in $20k ARR or more, then consider applying to join the LogicBoost Labs accelerator program to take your startup to $1M ARR!