Seed Funding - Introduction
Creating a successful startup business can be a daunting task. This is because a startup business needs a viable idea as well as significant funding in order to be able to grow into a successful business.
Now, viable business ideas often come to people who are deeply engaged with the work in their day-to-day life.
For instance, a software engineer might be able to note the pain points during the software development and testing process and they may have an idea to create a product that can solve the same.
Similarly, a teacher may have ideas about how the process of educating students can be improved.
Viable business ideas are the result of deep experience in any field. However, it is not necessary that the person who has an idea would also have the funding to execute that idea. Hence, there is a need for a marketplace where people with viable ideas try to collaborate with other people who have the financial resources. This process is called fundraising.
Fundraising can be done at various stages. The earliest of these stages is called seed funding.
In this article, we will have a closer look at what seed funding is and how entrepreneurs should approach it.
What is Seed Funding?
Seed funding is external funding that a proposed company seeks before they have any product or prototype ready. At the seed funding stage, the entrepreneur may only have an idea. They may or may not have a team to execute that idea. The immediate objective of seed funding is not to create a strong and successful company. Investors, as well as entrepreneurs, are aware of the fact that seed funding is only to take the company to the next level.
Ideally, seed funding is required to provide the entrepreneur with enough capital to conduct an experiment that results in a proof of concept. Once this concept is in place further rounds of funding may be required to create a viable business.
Sources of Seed Funding
Entrepreneurs may not be required to raise seed funding if they themselves have the funds required to create a proof of concept. However, a lot of the time, this will not be the case. Hence, it is important for them to be aware of the various possible sources of seed funding.
- Crowdfunding: If the founder is not able to raise enough seed funds from their friends and family, they can approach a wider audience. There are many crowdfunding platforms available where retail investors are trying to obtain a stake in early-stage businesses. There are several companies that have utilized these platforms in order to raise the money that they require to develop their prototype or proof of concept.
- Cryptocurrency: Over the years, cryptocurrency tokens have also emerged as a mechanism for startup founders to raise funds. It is common for startup founders to issue tokens using an initial coin exchange. These funds are issued to consumers or investors who can then exchange them with actual consumers once the prototype is tested. This mechanism is adopted by companies in the tech space and those who plan on accepting cryptocurrency as a means of payment.
- Corporate Seed Funding: There are many corporations such as Apple and Google which have special funds set up to provide funding to budding startups. These funds may generally provide funds to startups in the same ecosystem as their original business. These funds are also generally interested in investing in green technology since they want to use these investments to fulfill their corporate social responsibility.
- Institutional Seed Funding: It is not just corporations but also many educational institutions which provide seed funding to startup companies. Institutions like Harvard, Wharton, and Stanford want to be at the forefront of technological advancements. Hence, these institutions have special funds in place which provide funding to startups. Along with funding, they also provide other help in the form of physical space as well as human resources.
- Professional Seed Funding: Last but not the least, there are professional investors such as individual accredited investors, angel funds, and even venture capitalists which do provide some funding to startups looking for seed capital.
How Much Money to Raise During Seed Funding?
Sometimes entrepreneurs may be able to obtain a lot of capital in the form of seed funding. It can be tempting to raise more capital than what is required. However, investors must be aware of the fact that if they are raising more capital at the seed funding stage, they are selling their idea cheaply. This is because, at the seed funding stage, the idea has not been validated. Hence, the valuation offered to the startup can be very low.
Once the startup has a working prototype or a proof of concept, it will be able to obtain much more funding in return for the same equity stake. Hence, if an entrepreneur really believes in his/her business, they would raise as little money as possible during this stage. The objective of this fundraising is to create more investor confidence by proving that your theoretical idea can be put into practice. A little bit of buffer money may be required for contingency purposes as well.
The bottom line is that seed funding is a powerful financial tool for entrepreneurs. However, it must be used sparingly in order to maximize the valuation of the firm.
Authorship/Referencing - About the Author(s)
The article is Written By “Prachi Juneja” and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.
- Seed Funding - Introduction
- Why is it Difficult to Raise Seed Funding?
- Documents Required for Startup Financing
- How Co-Founders Split Their Equity?
- Proof of Concept
- Minimum Viable Product
- What is Prototyping?
- Asset Light Business Model
- Advantages of Asset Light Business Model
- Disadvantages of Asset Light Business Models
- Cash Burn Rate: The Basics
- Managing the Cash Burn Rate
- Startup Financing and Term Sheets
- Key Terms and Conditions in a Term Sheet of Startup Funding
- Red Flags that Investors Need to Look out for in Term Sheet
- The True Cost of Owning a Property
- Valuation of Early-Stage Startups: The Mindset of Investors
- Pre Money and Post Money Valuation
- Start-Up Valuation: Advanced Concepts
- How Pre-Revenue Companies are Valued?
- Valuation Divergence - Meaning and its Importance
- How Do Option Pools Work?
- What are Capitalization Tables?
- Asset Sale vs. Stock Sale
- Financial Models for Startups
- Key Performance Indicators for Startups
- Restricted Stock Options (RSU’s)
- Veto Rights - Meaning and its Importance
- Financial Benefits of Incubators
- What are Unicorns?
- Why Startup Companies are Staying Private?
- Why Unicorn Companies Fail?
- Building a Startup Team
- Bootstrapping: Meaning and its Advantages
- Disadvantages of Bootstrapping
- Revenue Based Financing
- Convertible Notes and Startup Funding
- Pros and Cons of Convertible Notes
- Simple Agreement for Future Equity (SAFE)
- Keep It Simple Securities (KISS)
- Series A Funding
- Series B Funding
- Series C Financing
- Venture Debt in Startup Funding
- Pros and Cons of Venture Debt
- What is Venture Leasing?
- The Freemium Model - Different Types of Freemium Models
- Pros and Cons of Freemium Model
- Scalability and Startups
- Pros and Cons of Scalable Business Models
- Why Do Start-ups Fail After Receiving Funding?
- Start-ups and Arbitration
- What is a Revenue Model?
- Understanding Investor Focus on Burn Rate
- How Investors Evaluate Start-up Ideas?
- Government Regulations Which Impact Start-Ups
- What is a Start-up Accelerator?
- Managing the Operational Metrics of a Startup
- Different Types of Investors
- The Founder’s Dilemma
- Role of Social Media In Start-Up Funding
- Start-Ups and Public Relations
- Red Flags for Start-Up Investors
- IPO: An Exit Route for Start-Ups
- What is Acqui-Hire?
- How to Build a Start-Up that gets Acquired?
- Legal Issues Faced by Start-up Companies
- Corporate Venturing
- How Reverse Pitching Works?
- Aggregator Business Model
- Marketplace Business Model
- Difference between Aggregator and Marketplace Business Models
- Product as a Service (PaaS)
- Benefits of Product as a Service (PaaS) Model
- Disadvantages of Product as a Service (PaaS) Model
- The Co-Working Business Model
- How Co-Working Spaces Make Money?
- Peer to Peer (P2P) Business Model
- The Instacart Business Model
- The Goodleap Business Model
- The Twitter Story
- How Tesla Reinvented the Automobile Industry?
- How Epic Games Changed the Gaming Industry?
- The SpaceX Success Story
- The Stripe Business Model
- The TikTok Business Model
- Zillow Story - The Real Estate Marketplace
- How Business Cycles Affect Start-Up Companies
- Managing Start-ups During an Economic Downturn