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HOW TO STRIKE A DEAL WITH PRE-SEED INVESTORS
8
JUN, 2020
Business plans tend to get holes shot through them by partners, banks, parents, friends, and investors by one simple word “Why?” They are simply asking you why you are doing it this specific way, whatever this is, but this question has you stumbling over your words like a kid that was caught doing something wrong.

The first questions to ask yourself is why you are writing one in the first place. If it is only for yourself keep it short. If it is for partners or investors, dive deeper, but depending on your business, you do not need a 20–40 page document that spells out every detail of what you are going to do before you really have any exposure to the market. No one wants to read that anyways. Plans of that length usually tend to ramble on and show no real thought. Because you don’t know what you are doing, they are probably copy and pasted from ones that you think may sound good.

The key to a great business plan is knowledge, analysis, and true understand of everything you have written and everything that is between the lines. You have to have the research, analysis, and critical thinking behind that plan to provide real depth to anyone that actually needs to see a business plan and is going to be asking you a lot of questions about it.

I have spent a lot of time analyzing and putting together a process I have used as a Special Forces (SF) soldier to understand the battlespace or environment in which my my team was going to be operating. This includes all the threats (risk) to my team both by other entities in the area, but also the environment itself. Their lives may depend on what I know or what I don’t. Business is the same. Your business depends on this knowledge. Want to hedge your risk? Know what the hell you are doing.

Believe it or not, there was a time when “seed investors” were barely a thing. Series A funding was the goal. If you didn’t yet have enough traction yet, you’d have to bootstrap your way forward.

Luckily for entrepreneurs, as startup investing has become more competitive, new investment level categories have spawned. Today, pre-seed investors are becoming more common, allowing startups to raise the funds they need to bring their minimal viable products (MVPs) to life.

The idea of attracting investors before even launching the first-version product is relatively new. In this post, we will explain exactly what pre-seed funding is and give you the information you need to attract pre-seed investors.

What is Pre-Seed Funding?

A pre-seed funding round takes place early on in the product development stage. Startups raise pre-seed funding to develop their first-version products and to bring them to a level where seed money can be raised.

Historically, pre-seed funding has been referred to as the “Family and Friends” stage. Typically, entrepreneurs would seek small investments from their peers, and these funds would be used to create the initial product.

Now though, even experienced angel investors and venture capitalists are putting their money into super early-stage startups. This means that if positioned correctly, startups can raise much more money and much sooner than they ever could have before.

Pre-Seed vs Seed Money

Entrepreneurs often confuse pre-seed money and seed money rounds. While both of these rounds take place prior to a Series A round, there are many differences between the two.

Pre-Seed Seed
Size of Round Under $150,000 $10,000 to $2 million
Product Life No MVP Developed MVP launched and serving early customers
Team Size One of several founders Founders and one or more employees
Traction Proven interest, some validation Real users, validated assumptions and revenue
Revenue $0 Earning a consistent level of revenue each month
Month Secured Within the first 12 months after establishment After 24 months of establishment, testing and validation

Pre-seed and seed funding rounds are raised at different points in the startup lifecycle and for different reasons. In general, pre-seed investors fund startups that are pre-product and have yet to establish a market fit. These companies are usually still in the proof of concept stage and haven’t totally proven their viability or scalability.

Investor Benefits of Pre-Seed Funding

There are many misconceptions about pre-seed investors and pre-seed startup ventures. Some people believe that startups only go after pre-seed money because they aren’t good enough to raise seed money. However, this is not the case. Instead, these startups realize that funds are also needed to develop the product and bring it to a level where seed money can be raised.

The rise of pre-seed investment is directly related to the increasing competition in the startup investment space. There was a time when the average Series A funding round was less than the average seed round in today’s landscape. With so many startups launching along the way, investors could wait until startups were proven and earning significant revenue before investing. Today though, investors who wait until the Series A round may be extremely late to the game.

Since then, another shift has taken place and the average amount invested at the seed stage has grown immensely as well. For a competitive advantage, some investors have transitioned into pre-seed funding or investing in ventures before they reach the milestones needed for a seed investment round.

3 Reasons Investors Invest In Pre-Seed Startups

There are many reasons an investor would decide to invest in a startup at this stage. Three of the most common reasons include:

  1. Lower Investment/Higher Equity – Investing at this stage is riskier than doing so in later rounds. With no product and only very little testing, assumptions are still unvalidated and market fit has not been established. Since risk is higher, investors are usually able to invest capital at lower amounts and earn a greater share of the company. Higher risk means greater reward, and by taking this risk, investors hope to earn a substantial profit in the future.
  2. First-Mover Advantage – Higher equity is only one of the advantages that come along with being a first-mover. There are many other benefits, including having an earlier say in the direction of the company. Startup founders often lean on early investors for advice, input, and even mentorship. Investing early allows investors to give their feedback and to see that feedback implemented from the beginning.
  3. A Changing Investor Landscape – Just like the startup scene is constantly changing, the landscape for investors evolves rapidly as well. Since seed financing has advanced so heavily over the last few years and pre-seed funding is now experiencing the same growth, investors who invest at later rounds often have to buy in at much higher valuations. By putting their capital in early, they are able to reap benefits that are not available to those who invest after the startup concept has been proven and validated.

3 Reasons Investors Invest In Pre-Seed Startups

There are many reasons an investor would decide to invest in a startup at this stage. Three of the most common reasons include:

  1. Lower Investment/Higher Equity – Investing at this stage is riskier than doing so in later rounds. With no product and only very little testing, assumptions are still unvalidated and market fit has not been established. Since risk is higher, investors are usually able to invest capital at lower amounts and earn a greater share of the company. Higher risk means greater reward, and by taking this risk, investors hope to earn a substantial profit in the future.
  2. First-Mover Advantage – Higher equity is only one of the advantages that come along with being a first-mover. There are many other benefits, including having an earlier say in the direction of the company. Startup founders often lean on early investors for advice, input, and even mentorship. Investing early allows investors to give their feedback and to see that feedback implemented from the beginning.
  3. A Changing Investor Landscape – Just like the startup scene is constantly changing, the landscape for investors evolves rapidly as well. Since seed financing has advanced so heavily over the last few years and pre-seed funding is now experiencing the same growth, investors who invest at later rounds often have to buy in at much higher valuations. By putting their capital in early, they are able to reap benefits that are not available to those who invest after the startup concept has been proven and validated.

Attracting Pre-Seed Investors to Your Startup

Although pre-seed investors partner with startups at the earliest stages, simply having a great idea isn’t enough. Ideas are a dime a dozen and execution is everything. Even without a first version product, there are still several milestones that investors expect you to achieve before seeking early-stage investment. Let’s take a look at three things your startup needs to impress investors.

Pre-MVP Traction

Believe it or not, you don’t need an MVP to begin proving a concept and gaining traction. Effective progress can be made even before landing an investment. The more traction you can showcase in this stage, the better your chances will be of successfully raising money.

Pre-MVP traction metrics

There are many different metrics that a startup can use to showcase traction even before its first version product has launched. Potential metrics that can strengthen your case when seeking pre-seed funding include:

  • Landing Page Metrics: Entrepreneurs can launch landing pages to showcase the upcoming product to consumers. On these pages, startups can collect user emails and track how many individuals visit the page. Shadow buttons, or non-functional ‘purchase’ buttons, can be used to collect information on how many people intended to make a purchase – if the product existed. 
  • Pre-Registrations: If you don’t have a product to sell, sell the idea of a product instead. By generating a significant number of pre-registrations (or even better, pre-sells), startups are able to prove demand and validate their initial assumptions. 
  • Survey Results: Consumer feedback regarding their needs and wants can be captured through surveys and studies. With a large enough sample size, the results of these surveys can be used to better understand consumer challenges and to discover their dislikes with current solutions.
  • Consumer Engagement: It doesn’t take a physical product to begin engaging with customers. In today’s world, you can connect with customers through a variety of methods including content marketing and social media. Use content to draw consumers to your brand. Building early brand awareness proves your ability to effectively reach consumers within your market.

Qualified Founders

The strength of the founding and managing team is always important to investors, but it is especially important in the early stages. As mentioned, an unvalidated idea is a much more risky undertaking than a well-tested startup with a product already on the market.

Investors give a higher weight on founder qualification for pre-seed startups. They want to be sure that the founders possess the skills necessary to develop the product, validate it, and scale it to success.

Although a full management team or staff isn’t necessary at this stage, potential funders will expect that the founders are qualified to launch and grow a successful venture.

Plan Of Action

Pre-seed startups often lack traction and investors expect to see a strong and effective plan of action in place. Having a strong business plan is essential during this period.

Make sure you can detail exactly how much money you need and how that money will be allocated. Be thorough in your detail – since traction hasn’t been achieved yet, investors may not have faith that you can properly manage their capital and spend it progressively.

How will you build your product? What methods will you use to test it? How will you market your initial product to attract early adopters? All of these questions should be answered in your pitch deck as you send it around to pre-seed investors.

Where to Find Pre-Seed Investors

After you’ve progressed your business enough to seek funding, you need to find investors. For many entrepreneurs, even getting in front of investors can be difficult. Since investors don’t often accept unsolicited pitches, they usually require an introduction from someone within their network before inviting you to pitch them in person.

If you can’t find someone in your network to introduce you to an angel investor or VC, there are still several other ways to get your business in front of those who can fund it.

Family & Friends

Entrepreneurs often frown at the thought of asking their family and friends to invest. They don’t want to be seen as beggars or as someone who needs help. This negative perception is often the factor that holds startups back from securing the initial funds they need to start a business.

Do you think that Mark Zuckerberg’s friends would be upset that he gave them the chance to invest in Facebook after they received their first multi-million dollar checks? Probably not. While it might not feel as such, you aren’t asking your friends and family for a favor. Instead, you’re offering them an opportunity to be a part of something that can potentially be great.

Here’s the disclaimer. Bad business relationships can definitely cause tension in personal relationships. Before taking a check from your mom, brother or best friend, explain to them that profit is not guaranteed. In fact, there’s a huge chance that they can lose their entire investment if the business doesn’t work out. Experienced investors know this, but those who have never invested in a startup may not understand the potential ramifications.

For pre-seed startups, it is much easier to raise funds from family and friends than angel investors. Angels and VCs require an introduction, but friends and family know exactly who you are. Investors need to do due diligence to make sure you are honest and ethical, but those who already know you are aware of whether you possess integrity or not. Furthermore, investors want to earn a profit while family and friends often want to help – they’ll often invest simply because you asked, no matter how faulty your pitch is.

Pitch Competitions

Pitch competitions are another great way to get in front of investors, practice your pitch, generate investor feedback and potentially, strike a pre-seed funding deal. Startup competitions have become more and more common. Organizations like incubators, accelerators, universities, and startup programs offer pitch competitions in major cities around the country.

These competitions often allow startups to pitch directly to an audience of interested investors. Rewards and other opportunities are usually available to the top contenders. The best startups may even catch the attention of someone who can fund their businesses.

Investor Platforms

The web has become an effective medium to search for investors. There are many startup databases out there like Gust and AngelList. With these profiles, entrepreneurs can add information about their startup and share it with potential investors.

Sites like Fundable and WeFunder allow entrepreneurs to set up crowdfunding campaigns. Investors on these platforms can purchase small amounts of equity in these brands. However, these sites don’t mimic a real investor pitch scenario where startups can pitch live directly to investors.

PitchLions, on the other hand, allows startups to set up a detailed portfolio including their business plans, pitch decks, and business media; browse a database of investors; schedule a live pitch; invite investors to the presentation, and pitch them virtually on the scheduled date. Whether you seek to find pre-seed investors or investors for later rounds, PitchLions gives you the tools you need to raise the capital you need, on your own terms.

Have you been able to raise pre-seed funding? Tell us some of your top tips in the comments below!

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