The early days of a company are virtually utopian: a founder and a co-founder batting ideas back and forth in an environment of perfect creative bliss.
Even the term we use for this creative space—the incubator—calls to mind the warmth and coziness and protection of a womb. There comes a point, though, when a company needs to move from ideas toward an actual product, and in order to do this, they need to think about generating money. But how to get money before there is a product to sell?
Well, when startups raise money, they do it with rounds of investments called the Seed Round, Series A-B-C, all the way until they either incorporate or sell. In each round, the company receives money from venture funds that focus on specific growth points at specific sizes.
Basically, you can break a startup’s funding rounds into following stages:
This is typically the very first investment of money used to for market research and developing product. It can come from the founder’s personal savings or from acquaintances (aka a “Friends & Family” or “F&F” Round).
This is usually a small amount of money given to a company to give it the momentum it needs to produce its initial product. Normally, the company will have a concept and will know that it has potential viability on the market, but they won’t have a working prototype yet.
Seed money gives the company just enough runway to move from this early conceptual phase toward a product.
Angel Investor Funding
Since seed capital is sometimes limited, it is often necessary for an entrepreneur to tap into wealthy individuals outside their friends & family — this is often called an “Angel” investor.
Assuming the startup has built a basic product that people seem to like, the next step is usually to raise an “angel” round of financing
Venture Capital Financing
Venture capital (VC) funding is typically used by companies that are already distributing/selling their product or service, even though they may not be profitable yet.
If the company is not profitable, the venture capital financing is often used to offset the negative cash flow. There can be multiple rounds of VC funding and each is typically given a letter of the alphabet (A followed by B followed by C, etc.)
The different VC rounds reflect different valuations (e.g. if the company is prospering, the Series B round will value company stock higher than Series A, and then Series C will have a higher stock price than Series B).
- Series A: The Series A raise is the hardest to achieve because it requires a venture capital firm to put at least a couple million dollars into the startup. Startups typically use series A funding to figure out the best business model for their company and to work out the nuts and bolts of moving your product into the actual marketplace.
- Series B: By the time they’ve reached series B, a startup has a product and a business model and need enough capital to bring the product to a broader market. This represents a significant increase in the funding.
- Series C: This is all about fast growth. In series C funding, companies might move the work they’ve been doing in series B toward international markets or focus on diversifying their product for multiple different platforms.
Mezzanine Financing & Bridge Loans
At this point, companies may be eyeing the following types of opportunities that require additional funds:
- An IPO (initial public offering
- An Acquisition of a Competitor
- A Management Buyout
To do so, they can tap into mezzanine financing or “bridge” financing. Mezzanine financing is often used 6 to 12 months before an IPO and then the IPO’s proceeds are used by the company to pay back the mezzanine financing investor.
IPO (Initial Public Offering)
Finally, companies can raise money through selling stock to the public in what’s called an Initial Public Offering or IPO.
The IPO’s opening stock price is typically set with the help of investment bankers who commit to selling X number of the company’s shares at Y price, raising money for the company.
Once the stock is out, it is traded through a stock exchange. Companies can offer more of their stock through additional offerings.