Every startup begins with an idea. But sooner or later, having a great idea is not enough, and founders need additional financial sources. This is when pre-seed funding comes into play.
Acquiring pre-seed funding is a critical step to success. It provides the necessary capital to founders to take their businesses to the next level. However, attracting investors at this early stage can take time and effort.
But what is pre-seed funding, and how can you raise pre-seed money successfully?
What is pre-seed funding?
Pre-seed round occurs in the very early stage of the startup journey. It is typically acquired before the validation of the business concept. At this stage, startups often only have a prototype or a concept without any tangible products or significant market presence.
Until this point, founders mainly rely on personal savings, funds from friends and family, or initial angel investments. Considering the size of pre-seed funding, it may not be significant compared to official funding rounds. However, it is an essential capital inflow for early-stage startups to survive and lay the groundwork for further funding rounds.
When to raise pre-seed funding?
Founders typically acquire pre-seed money to validate their business concept and build a minimum viable product (MVP). There are no rules on when the founders should raise pre-seed funding. The timing of the pre-seed funding depends on several factors.
In some cases, founders acquire pre-seed money even before developing a prototype. In comparison, other startup founders may wait until they have a tangible MVP or some early market validation.
As a rule of thumb, the more milestone you reach, the easier to raise pre-seed capital. Most startups seeking to raise pre-seed capital are in the stage of pre-revenue and pre-profit.
Possible investors in the pre-seed funding round
Every founder starts with bootstrapping. Eventually, they reach that point when the personal or family and friends’ funds are insufficient.
This is when they must choose whether to continue bootstrapping, acquire venture capital, or explore alternative funding sources. When it comes to getting financial support for your business, there are generally two types of methods: debt financing and equity financing. The traditional sources of pre-seed funding fall under the category of equity financing.
Understanding the startup’s current and future financial needs is essential before choosing one or another. Although founders have various funding options, each has advantages and considerations.
The proper management of business finance processes plays a crucial role in determining which financing options are feasible for a startup in the long term. You should consider the impact of funding on the cash flow, financial performance, and overall health of your startup.
If you decide to pursue pre-seed funding, you have a variety of options to raise the necessary capital.
Angel investors are individuals who provide financial support and guidance to startups in their early stages. In exchange for the funding, angel investors receive equity in the startup.
Generally, angel investors are typically high-net-worth individuals or successful entrepreneurs. They can give you a check anywhere between a few thousand dollars to half a million dollars.
Accelerator and incubator
Startup accelerators and incubators can be an excellent source of pre-seed money. Startups with unvalidated business ideas are a better fit for incubators. Incubators help founders to move forward from the idea stage and create an MVP. They help startup founders to formulate their business models and provide mentorship. They often do not give you capital, but incubators can be a great way to prepare your startup for the pre-seed funding round.
On the other hand, accelerators provide capital to startups in exchange for equity stakes. Accelerators are mainly for startups with a solid business model and MVP. So, an accelerator can help take you to the next stage if you have a startup ready to scale.
Pre-seed venture capital firm
There are specific venture capital firms focusing on early-stage startups. Pre-seed venture capital firms typically invest smaller amounts compared to later-stage investments. However, they play a crucial role in helping startups at the pre-seed stage.
Here are a few examples of well-known pre-seed venture capital firms:
- Forum Ventures: It is based in New Your and funds mainly early-stage B2B SaaS companies.
- 2048 Ventures: Focusing on Biotechnology, Digital Health, AI/ML, Robotics, AR/VR, IoT, Hardware, Blockchain, Climate, Energy, Space, Mobility, Logistics, Security, and Developer Tools.
- Hustle Fund: Has a focus on FinTech, Healthcare, AI/ML industries.
- The Fund: They invest locally, fueling startups in the cities, mainly in the US.
- NFX: Their investment focus is industries like Gaming, Bio, Generative AI, FinTech, Marketplaces, and many others.
Crowdfunding is also an option at the earliest stage. Founders can collect contributions from many individuals, typically via an online platform. There are many crowdfunding platforms where you can try your luck.
Before starting a campaign, consider the platform fees, terms, and who is your target audience.
Pre-seed versus seed funding?
The first official funding round is seed funding. The main difference between pre-seed and seed funding is the investment size.
The average size during pre-seed rounds in the US is approximately $500,000, but it has a wide range between $100,000 and $5 million. Meanwhile, the average seed funding round is around $5,6 million in the US.
Since the seed round is the first official investment round, it involves more formality and due diligence.
Before the seed round, investors typically want the startup to have traction and a well-defined product already. In contrast, the main aim of the pre-seed funding round is product development in most cases.
4 tips to secure funding at the pre-seed round
The question is how you can increase your chances when raising pre-seed funding. Here are the 4 most important tips to successfully raise pre-seed money.
Solid business model
Every startup begins with an idea. But having only a startup idea is not sufficient. To attract investors, you need to have a solid business model.
In most cases, startups before the pre-seed funding stage did not manage to create a substantial user base and revenue. Therefore, pre-seed angel investors or venture capital firms take a significant risk when investing in a pre-revenue startup.
To minimize the risk in the investors’ eyes, your business model must demonstrate that you clearly understand your target market. It should accurately identify the customer needs and outline how your startup will generate revenue.
When crafting your plan, remember that the startup trends changed in 2023. Investor demands are shifting from growth to profitability during the current economic slowdown.
Fast revenue growth is still the most relevant factor at early-stage companies. However, it is also essential to have a clear strategy for how your startup will make a profit in the longer term.
Achieve milestones at early stages are essential, as it helps build investor confidence and shows that you are progressing. Most of the startups at the earliest stages are not generating revenue. So, you need to find milestones that are not revenue related. This help to attract investors and show you are serious.
Depending on your startup’s industry and stage, many milestones can be essential for a pre-seed investor. This can be a received IP, a finished MVP, a letter of intent to buy from a customer or an existing user base on your platform.
The aim is to achieve the critical milestones before seeking pre-seed investment. Achieving revenue or non-revenue-based milestones can significantly increase your chances of securing pre-seed funding.
Create a standout pre-seed pitch deck
Creating a pitch that clearly communicates your value proposition, market opportunity, and competitive advantage can improve your chances.
Provide an overview of your financials, including revenue projections, cost structure, and key financial milestones. It is even better if your startup already generated revenue, as it helps to support your projections.
Investors are mainly interested in the potential return. Therefore, having the right data to support your projections is vital. Investors want to see that your decision-making and strategy are based on a data-driven approach. Presenting well-researched market data, customer insights, and financial analyses can help you to secure pre-seed funding.
Have a competent team
During pre-seed funding, the team is the number one reason why investors give money to startups. There are many great startup ideas. However, few teams can execute them. Investors understand that a startup’s success significantly depends on the team’s capabilities and expertise.
Having the right co-founder or co-founders that supplement your skillset is vital to securing pre-seed funds. A team with deep industry knowledge and a strong network can provide a competitive advantage in the early stages. The potential investors are looking for teams that understand the market landscape, customer needs, and industry dynamics.
From an investor perspective, investing in a startup is a long-term commitment. A team open to feedback and mentorship is more likely to secure pre-seed funding.