What is Series A Funding
Any new business that wants to grow needs funding. Typically, startups use five funding rounds to obtain capital to grow the business. Series A funding is the third funding round after pre-seed funding and seed funding. It is then followed by Series B and Series C funding. It is also the first stage of venture capital funding.
While the pre-venture rounds provide startups with the necessary capital to combat high startup costs, a Series A round offers financial support to startups with potential but lacking the cash to grow their operations.
Venture capitalists that invest in Series A rounds usually work at venture capital firms, which are investment firms that fund new ventures or startups. Some major players at the Series A level include NEA, Sequoia Capital, IDG Capital, Andreessen Horowitz, Kleiner Perkins, and Intel Capital.
Investors invest in a company in exchange for equity, meaning investors buy shares in the company. The equity will be in the form of common or preferred stock, deferred stock, or deferred debt, or a mix of some of them. Companies typically issue convertible preferred shares, which allow investors to convert their preferred shares into common stock at some time in the future.
Reasons for Series A Financing
Once a startup has shown proof of consistent revenue, has a consistent user base, or shows potential in some other way, it may be time to look for outside funds to take the business to the next level. The startup needs the capital to finalize product development and employ needed personnel. Going for Series A funding is part of a growth strategy to use the money to take the company to the next level so it will appeal to investors at later funding rounds.
Recently, startups have turned to equity crowdfunding to obtain part of the funding they need at this stage because many investors are reluctant to get involved in Series A funding efforts.
What Investors Look For
Investors look for a startup team that has a plan to turn its great product or service into a significant source of income. It’s this income that investors hope to share in eventually.
So, entrepreneurs considering a Series A round must provide a business model that will enable the business to earn significant income in the long run. There have been too many startups with wonderful ideas that many users vouch for, but won’t pay for. Founders must have a clear plan of how they will monetize their product or service before investors will take the bait.
How Series A Funding Works
The company valuation
The investment is based on how much the company is worth and how much it might be worth in the future. Calculating the startup’s value is one of the first steps in the lead-up to funding. For this purpose, the following factors are taken into account: the uniqueness of the product or service, whether it fills a gap in the market, proven track record, management efficiency, market size, and the risk involved.
There isn’t a universally accepted method to determine valuations at this stage. However, careful financial planning combined with meticulous financial records will go a long way toward establishing an accurate evaluation.
It’s paramount to have an accurate valuation, as the funding amounts of this and subsequent rounds are affected by it. It has happened too often that entrepreneurs go with a low valuation and, based on that, part with too big a portion of their company – 25% of a middling company may not be much, but 25% of a successful company is a significant portion indeed.
When a startup has reached the point where it has a viable product, but lacks the capital to expand, it may reach out to investors to help with funding. The startup needs to provide the venture capital investors with all the business information they need to make an informed decision. Investors will want an insight into the startup company’s business plan and estimations of future growth and earnings.
Once the investors receive the information, they will do their due diligence – they will scrutinize the startup, its business plan, and future financial projections to decide whether to invest or not. If they decide to go ahead with the investment, further deliberations usually follow, involving the specifics of the investment deal – how long and how much they will invest for what return.
Series A investors typically want significant returns on their investment, i.e., 200% to 300%. To keep a close eye on their investment, Series A investors usually insist on one or more seats on the board of the startup they invest in, monitoring its progress and taking a keen interest in management to ensure that it’s efficient.
The Value of Series A Financing
A successful funding round will put money in the pockets of the founders. It will be a large enough sum to keep the company operational for six to 18 months. In that time, the company works to grow and enter the market. If that doesn’t materialize, it may be necessary to move on to a Series B funding round.
When a startup plans a Series A funding round, one of the first things to work out is how the money will be spent. It’s important to have clear goals for the capital that’s raised, and it must be enough to reach those goals.
Series A capital is meant to facilitate and ease the development phase. If this phase progresses successfully and the company gains a reliable customer base, it sets it up for a Series B funding round. This next phase of fundraising would then be aimed at helping the company scale and meet growing customer demand. This requires considerable financial resources for continued business development, and staff that will be responsible for sales, marketing, and tech support.
Preparing for a Series A Funding
It’s easy to underestimate the time it takes to secure funding of this nature. There are many documents to prepare, and it takes time to find, investigate, and contact investors, all of which means that it takes around seven to eight months to secure Series A finance. So, it’s wise to plan ahead and start early. It’s not a process that can be rushed.
Entrepreneurs must be familiar with the different funding stages, and make sure that their venture is at the right stage for Series A funding, namely, it has a viable product or business model and needs capital to expand so it can increase its revenue. Startups must have a sound business plan, which demonstrates how the company will monetize its offering and must show proof of an efficient management team.
It’s essential to find the time to stay informed on Series A funding activities in the industry the startup is operating in. The market is constantly changing. For instance, in the US, Series A rounds have increased steadily in recent years. In 2020 the average was $15.6 million, and by 2021 it had grown to $22.2 million. So far, the mean Series A for 2022 has been $21.5 million.
Needless to say, the pitch and pitch delivery are pivotal. There are loads of resources online, including videos of winning pitches that can be consulted. It’s a good idea to deliver the pitch to secondary investors, who may not be expected to invest, but who might ask insightful questions that can help hone that all-important pitch.