Securing funding is a critical milestone for most startups. While rapid growth defines a startup, the ability to Raise Money often becomes a necessary catalyst to fuel that expansion. Many founders find themselves navigating the complex world of fundraising, often more than once, as they progress through different growth phases. Typically, this journey might begin with initial seed funding from sources like incubators or angel investors, followed by larger rounds to build the company’s foundation, and eventually, growth capital to scale operations upon demonstrating clear success. However, the reality of fundraising can be less linear, with companies sometimes requiring multiple rounds within a phase or even skipping initial stages altogether. In today’s landscape, it’s increasingly common to see startups entering accelerator programs already having raised substantial seed funding. Regardless of the precise path, understanding the intricacies of fundraising, particularly in the crucial phase 2, is paramount for startup success. This guide delves into the essential strategies and principles to effectively navigate phase 2 fundraising, drawing from proven advice given to startups at leading accelerators.
Understanding the Fundraising Landscape: Forces at Play
Fundraising presents a dual challenge; it’s both a strenuous endeavor and an intricate puzzle. The inherent difficulty lies in persuading individuals or firms to part with significant capital – a hurdle that rightly exists. However, much of the perceived complexity can be demystified. For many first-time founders, the world of investors can seem opaque, clouded by unclear motivations and occasionally, strategic ambiguity. This opacity, combined with the natural optimism of inexperienced founders, can create a volatile mix. It’s crucial to recognize that as a founder, especially an inexperienced one, relying solely on intuition can be perilous. Establishing a framework of external guidelines becomes essential to navigate this unfamiliar terrain successfully. These guidelines are not arbitrary; they are responses to powerful forces that can easily derail even promising ventures.
The underlying forces shaping the fundraising landscape stem from the anxieties of investors. They operate under the constant tension between the fear of investing in startups that ultimately fail and the equally potent fear of missing out on startups that become highly successful. This fear is intrinsically linked to the very nature of startups – the potential for explosive growth. This rapid growth characteristic, while attractive, compresses the decision-making window for investors. Waiting for definitive proof of success means missing the opportunity for substantial returns. To capture those high returns, investors must engage with startups when their future trajectory is still uncertain, inherently increasing the risk of backing a venture that might falter.
Ideally, investors would prefer to observe and wait. In the early months of a startup’s existence, each week brings significant new data points, clarifying the venture’s potential. However, prolonged hesitation risks losing the deal to competing investors, all operating under similar pressures. This creates a dynamic where investors tend to delay commitment as long as possible, but once one investor acts, others are compelled to follow suit to remain competitive.
Determining Your Fundraising Readiness: Need and Mutual Interest
The prevalence of fundraising among successful startups can mistakenly lead to the belief that it’s a defining characteristic of a startup itself. However, the true hallmark of a startup is rapid growth. For companies poised for such growth, external funding can often serve as an accelerant, and their growth potential simultaneously makes them attractive to investors. This confluence of factors explains why most successful startups eventually raise money. Yet, it’s critical to assess whether fundraising aligns with your startup’s strategy. If accelerated growth isn’t a priority or if external capital wouldn’t meaningfully contribute to your growth trajectory, then fundraising might not be the right path.
Conversely, attempting to raise money when you lack the ability to convince investors is equally detrimental. Premature fundraising efforts not only consume valuable time but can also damage your reputation within the investor community. It’s essential to gauge your startup’s investor readiness before actively seeking funding.
Fundraising Mode: Full Commitment or Not at All
One of the most underestimated aspects of fundraising is its profoundly disruptive nature. Initiating a fundraising round often brings other critical aspects of startup operations to a standstill. The issue isn’t merely the hours spent in meetings or preparing materials; fundraising tends to dominate the founder’s mental bandwidth. Early-stage startups are primarily propelled by the founders’ direct actions and focus. If that focus shifts away from core operations, growth typically decelerates sharply.
Because of this intense distraction, a startup’s approach to fundraising should be binary: either be fully engaged in “fundraising mode” or completely disengaged. When the decision to raise money is made, it demands undivided attention to ensure a swift process, allowing a return to core business activities as quickly as possible.
It’s possible to accept investment even when not actively fundraising, but this requires a passive approach. This means accepting capital only from investors who require no convincing and are willing to invest on terms that are readily acceptable without negotiation. For instance, a reputable investor offering a convertible note on standard terms, either uncapped or with a favorable valuation cap, could be considered without extensive deliberation. The eventual terms would then be determined by the subsequent equity round. Crucially, “no convincing” implies zero time spent on investor meetings or preparing pitch materials. If an investor expresses interest but requests even a brief meeting to meet partners, it constitutes fundraising activity and should be declined if you are not in fundraising mode. Politely explain that your current focus is on the company and that you will reconnect when actively fundraising, firmly resisting any attempts to be drawn into preliminary fundraising conversations.
Investors may attempt to initiate fundraising discussions even when you are not actively seeking funds. This early engagement is advantageous for them, providing a potential opportunity to invest before broader competition emerges. You might receive emails from VC associates expressing interest in learning more. However, even if you are actively fundraising, cold emails from associates are generally unproductive. Deals rarely originate this way. Even when contacted by a partner, it’s advisable to postpone meetings until you are in full fundraising mode. While they might suggest a casual introductory chat, investors rarely engage in purely casual meetings. If they are impressed, the conversation will inevitably shift towards potential investment. Unless you possess significant fundraising experience and can maintain a truly casual conversation with investors, it’s safer to defer meetings until you are actively fundraising, reiterating your current focus on company operations.
Startups that successfully raise money in phase 2 might occasionally onboard a few additional investors after formally concluding their fundraising round. This is acceptable if the fundraising process was efficient, allowing for these additions without further time investment in convincing or negotiating terms.
Leveraging Introductions: Accessing the Investor Network
Gaining access to investors typically requires introductions. Demo Days offer a platform for simultaneous introductions to numerous investors. However, even with Demo Day exposure, supplementing these with individually cultivated introductions is highly beneficial.
Are introductions always necessary? For phase 2 fundraising, generally yes. While some investors may accept unsolicited business plans via email, their website structures and stated preferences often indicate a preference against direct, unintroduced approaches.
Introductions vary significantly in their effectiveness. The most impactful introductions come from a recently committed, well-regarded investor. Once an investor commits, request introductions to other investors they respect. The next most valuable introductions are often from founders of companies they have previously funded. Other valuable sources for introductions include individuals within the startup ecosystem, such as lawyers or reporters.
Platforms like AngelList, FundersClub, and WeFunder can also facilitate investor introductions. However, these should generally be viewed as supplementary funding sources. Prioritize securing funding through direct introductions first, as these tend to lead to engagements with more aligned and potentially more valuable investors. Furthermore, having already secured commitments from reputable investors enhances your attractiveness and success rate on these platforms.
Interpreting Investor Signals: “No” Until a Definite “Yes”
Adopt a default interpretation of investor interactions: consider their stance as “no” until they unequivocally say “yes,” formalized by a firm offer without contingencies.
As previously noted, investors prefer to defer commitment if possible. The challenge for founders is deciphering the signals during this waiting period. Investors often exhibit behavior that appears encouraging, maintaining engagement right up to the point of declining, or even worse, simply ceasing communication without a clear rejection. This ambiguity allows them to maintain a free option to invest later, particularly if your startup’s prospects improve, enabling them to re-engage as if their interest was continuous.
Investor behavior can extend beyond mere ambiguity. Some may use language that implies commitment without actually binding themselves. Founders, driven by optimism, may misinterpret these signals as firm commitments. To counter this, and to ensure clarity, adopt a protocol for confirming commitments. If you believe an investor has committed, seek written confirmation. Any discrepancy between your perception and the investor’s reality, whether due to miscommunication or intentional ambiguity, will surface during this confirmation process. Until a formal, written confirmation is received, operate under the assumption that the investor’s answer is still “no.”
Optimizing Investor Outreach: Breadth-First Search with Prioritization
Employ a breadth-first search strategy, weighted by expected value, when engaging with investors. Engage with multiple investors concurrently rather than sequentially. Sequential engagement is time-inefficient, and it removes the element of competitive pressure that can motivate investors to act decisively. However, not all investor prospects are equally promising. The optimal approach involves parallel engagement across all potential investors, but with prioritized attention to those deemed more promising.
Expected value is calculated by multiplying the probability of an investor committing by the potential value of their investment. For example, a prominent investor capable of a substantial investment but difficult to convince might have a similar expected value to a less prestigious angel investor who offers a smaller investment but is easily persuaded. Conversely, an angel investor offering only a small amount and requiring numerous meetings before making a decision represents low expected value. Prioritize outreach to high-expected-value investors and engage with lower-expected-value investors later, if at all.
This prioritized breadth-first search strategy mitigates the risk of protracted engagement with investors who never explicitly decline but gradually disengage. By mirroring their drift, you avoid expending excessive energy on unproductive leads. It acts as a safeguard against investor unreliability, similar to how distributed algorithms handle processor failures. If an investor becomes unresponsive or schedules numerous meetings without demonstrable progress towards an offer, your focus naturally shifts to more promising opportunities. However, disciplined probability assessment is crucial. Avoid letting your desire for a particular investor’s involvement skew your judgment of their actual interest level.
Gauging Progress: Knowing Where You Stand with Investors
Given the tendency of investors to project more positivity than their actual intent, how do you accurately assess your progress? Focus on their actions rather than their verbal assurances. Every investor follows a progression from initial contact to fund disbursement. Understand this process for each investor, identify your current stage within it, and monitor the pace of progress.
Never conclude a meeting without clarifying the next steps. Inquire about what information or actions they require to reach a decision. Do they need a follow-up meeting? If so, what specific topics will be discussed, and when is it scheduled? Do they have internal processes to complete, such as partner discussions or due diligence? What is their estimated timeline for these steps? While being assertive, aim to understand your position. If investors are evasive or reluctant to answer these questions directly, assume a less favorable position. Investors with genuine interest are typically transparent about the steps leading to investment, as they are already envisioning this progression.
Experienced negotiators are adept at extracting this information. For those less experienced, acknowledge your inexperience in fundraising and directly ask about their process and your current standing within it. Investors are accustomed to working with first-time founders and are generally accepting of fundraising inexperience, especially if the underlying business and team are compelling.
Securing the Initial Commitment: The Domino Effect
Investor sentiment is heavily influenced by the opinions and actions of other investors. Once you begin securing commitments, attracting subsequent investors becomes significantly easier. Conversely, obtaining that initial commitment can often be the most challenging hurdle in the entire fundraising process.
Landing the first substantial offer can represent half the total effort of fundraising. What constitutes a “substantial offer” is contextual, depending on the investor’s reputation and the investment amount. Funding from friends and family, regardless of size, typically doesn’t carry the same weight. However, a $50,000 commitment from a recognized VC firm or angel investor can often be sufficient to initiate momentum and attract further investment.
Closing the Deal: Committed Funds in the Bank
A deal is not finalized until the funds are actually deposited into your bank account. It’s common for inexperienced founders to prematurely declare “We’ve raised $X,” only to find that none of the promised capital is yet secured. Recall the investor’s dual anxieties: the fear of missing out, prompting early engagement, and the fear of investing in a failing venture, leading to potential buyer’s remorse. The startup investment market is particularly susceptible to shifts in sentiment, influenced by broader economic conditions or unforeseen company-specific events. A sudden market downturn or the emergence of a significant competitor can trigger investors to reconsider commitments.
Even a brief delay can introduce news or developments that cause an investor to change their decision. Therefore, once an investor commits, prioritize securing the funds promptly. Establish a clear timeline for fund transfer and diligently follow up to ensure timely execution. While institutional investors have established procedures for wiring funds, securing checks from angel investors might require more direct, personal follow-up.
Inexperienced investors are more prone to buyer’s remorse. Established investors, having navigated numerous deals, tend to treat a verbal commitment more seriously and are also more conscious of their reputation. However, even top-tier VC firms have been known to retract commitments in rare instances.
Avoiding Non-Lead Investors: Seeking Decisive Partners
Since securing the initial offer is the most significant challenge in fundraising, this factor should be incorporated into your expected value calculation when prioritizing investors. Estimate not only the probability of an investor saying yes, but also the probability of them being the first to commit, as these are distinct probabilities. Some investors are known for rapid decision-making, making them particularly valuable early in the fundraising process.
Conversely, investors who only commit after others have invested are initially valueless. While most investors are influenced by the interest of their peers, some explicitly state a policy of only investing after other investors have committed. These investors, often referred to as “non-leads,” can be identified by their frequent use of the term “lead.” They might state they “don’t lead” or will invest once a lead investor is secured. Sometimes, they might even express willingness to “lead,” but define it as committing only after you’ve raised a certain amount from other sources. True “lead” investors are valuable if they invest unilaterally and also assist in attracting further investment. However, when “lead” is used to mean they will only invest conditionally on securing investment elsewhere, it signals a lack of independent conviction.
The term “lead investor” originated from earlier fundraising practices where phase 2 rounds were often structured as equity rounds with multiple investors investing simultaneously, using the same legal documents. A “lead” investor would negotiate terms, and others would follow. While Series A rounds still often follow this structure, pre-Series A fundraising has evolved. Rounds are less formally structured, with startups raising capital from investors sequentially until they reach their target.
Given the shift away from formal “rounds,” the continued use of “lead” by some investors is often a euphemism. It’s a more palatable way of expressing that their interest is contingent on the validation of other investors – a hallmark of less decisive investors. When an investor states, “I want to invest, but I don’t lead,” interpret it as “No, unless you become a highly sought-after deal.” Since this is the default stance of most investors towards any startup, it essentially conveys no meaningful information. When initiating fundraising, the expected value of a non-lead investor is essentially zero, so prioritize them last, if at all.
Multiple Fundraising Plans: Adapting to Investor Interest
Investors frequently inquire about your target fundraising amount. This question can mistakenly lead founders to believe they should have a fixed fundraising target. However, in the inherently unpredictable process of fundraising, rigid plans are often counterproductive.
Why do investors ask about your target amount? Similar to a salesperson gauging a customer’s budget, investors seek to understand if your funding needs align with their investment size preferences, assess your ambition and realism, and gauge your fundraising progress.
For seasoned fundraisers, stating a precise Series A target and timeline might be feasible. However, for most founders, especially those less experienced, a more adaptable approach is recommended. The optimal strategy is to develop multiple fundraising plans, contingent on the amount of capital secured. Ideally, you should be able to communicate scenarios such as: “We can achieve profitability organically, but with seed funding, we can accelerate growth by hiring key personnel. With a larger Series A round, we can expand our engineering team significantly.”
Different plans appeal to different investor types. For VC firms focused solely on Series A rounds, only your most ambitious plan is relevant. Conversely, when engaging with angel investors who invest smaller amounts at earlier stages, emphasizing your leanest operating plan might be more effective.
When considering the upper limit of fundraising, a useful rule of thumb is to estimate the number of hires needed, multiply by $15,000 per month (fully burdened cost per employee), and then by 18 months of runway. For most startups, personnel costs are the primary expense driver. While $15,000 per month is a conservative estimate, it provides a buffer for fundraising calculations. For example, if you anticipate hiring 20 people, a reasonable upper fundraising target would be approximately $5.4 million (20 x $15k x 18). Adjust this calculation if you have significant non-personnel expenses, such as manufacturing costs.
Underestimating Funding Needs: Strategic Positioning
While tailoring plans to different investor types is beneficial, generally err on the side of understating your initial fundraising target.
For example, if you aim to raise money totaling $500,000, initially stating a target of $250,000 can be advantageous. Reaching $150,000 then positions you as over halfway to your stated goal, signaling positive momentum and creating a sense of urgency for investors to commit before the opportunity closes. Conversely, starting with a $500,000 target and reaching $150,000 might be perceived as slower progress. Should fundraising stall at this point, it could be interpreted negatively.
Stating a lower initial target doesn’t limit your ability to raise more. Upon reaching your initial goal and still experiencing investor interest, you can simply decide to increase the round size. This is a common practice among startups. In fact, many startups that are highly successful at fundraising ultimately raise more than initially planned.
The key is to manage expectations strategically. Starting with a lower target has minimal downside and can often increase the total amount raised. It’s analogous to adjusting the angle of attack in aviation. Attempting too steep an angle initially can lead to stalling. Similarly, launching with an overly ambitious Series A target, unless you are in an exceptionally strong position, may result in failure to raise money at all. It’s more effective to start with a modest target, build momentum, and then gradually increase the target if warranted by investor interest.
Path to Profitability: Fundraising from a Position of Strength
Your fundraising position is significantly strengthened if your strategic plans include a scenario for achieving profitability without raising additional capital. Ideally, you want to convey to investors, “We are positioned for success regardless, but funding will enable us to accelerate our growth.”
The parallels between fundraising and dating are numerous, and this is a particularly strong one: desperation is unattractive. The most effective way to avoid appearing desperate is to genuinely not be desperate. This is a key reason why minimizing expenses and striving for “ramen profitability” before significant fundraising efforts (like Demo Day) is highly recommended. Paradoxically, to effectively raise money, the optimal position is to reach a point where you don’t absolutely need it.
There are essentially two distinct modes of fundraising: Type A, where founders don’t need the money but seek it to accelerate growth, and Type B, where founders require funding to avoid company failure or significant operational cuts. Inexperienced founders often observe high-profile startups engaging in Type A fundraising and mistakenly believe they should follow suit, even when their own situation aligns more closely with Type B. They are then often surprised by the difficulty and unpleasantness of Type B fundraising.
While not all startups can achieve ramen profitability within a short timeframe, some can still command a strong fundraising position through exceptional growth metrics or uniquely strong founding teams, even without immediate profitability. However, over time, fundraising from a position of strength becomes increasingly challenging without a clear path to profitability.
Valuation: Not the Primary Focus
When you raise money, valuation inevitably becomes a topic of discussion. However, it’s crucial to understand that valuation is not the most important factor in early-stage fundraising.
Founders often take undue pride in securing high valuations. The competitive nature of entrepreneurship, combined with valuation being a readily quantifiable metric, can lead to an unhealthy focus on maximizing valuation. This is misguided. Fundraising is merely a means to an end, not the ultimate measure of success. The true test is revenue generation and sustainable business growth. Being overly fixated on fundraising success, particularly valuation, is akin to being overly proud of academic grades – they are stepping stones, not the destination.
Not only is fundraising not the primary test, but valuation is also not the primary variable to optimize within fundraising itself. The top priorities in phase 2 fundraising are securing the necessary capital to fuel growth and attracting high-quality investors. Valuation is, at best, a secondary consideration.
Empirical evidence underscores this point. Highly successful companies like Dropbox and Airbnb raised seed funding at relatively modest pre-money valuations. Current market conditions often allow for higher valuations even for less proven ventures. So, achieving a higher valuation than these iconic companies in their early stages should be more a point of perspective than pride – it’s success in a metric that ultimately matters less.
Your initial valuation or valuation cap is often set by the first investor who commits. While you might increase the valuation for subsequent investors if demand is high, the initial valuation typically becomes the benchmark. Therefore, if you are raising from multiple investors, avoid prematurely accepting an inflated valuation from an overly eager investor, as this price point might be unsustainable for the remainder of the round. While price adjustments are possible (and should include retroactive adjustments for earlier investors), they can disrupt momentum and potentially lose investor interest.
One strategy to mitigate this risk with eager early investors is to raise money from them using an uncapped convertible note with a Most Favored Nation (MFN) clause. This effectively defers valuation determination to subsequent investors, ensuring the initial investors receive terms no less favorable than later investors.
Lower valuations generally facilitate fundraising. While it ideally shouldn’t be the case, as phase 2 valuations vary within a relatively narrow band compared to the potential for 100x+ returns from successful startups, investor behavior doesn’t always reflect pure rationality. A startup that struggles to secure investment at a valuation cap of $X might find it significantly easier at $X/2.
Valuation Discussion Timing: “Yes/No” Before Price
Some investors prematurely inquire about valuation even before substantive discussions about investment interest. If a prior funding round established a valuation, that figure can be disclosed. However, if valuation is yet to be determined because you haven’t closed any investors, resist pressure to name a price prematurely. This initial investor commitment could be pivotal, so prioritize establishing their investment interest before being diverted into valuation negotiations.
Fortunately, a negotiation tactic aligns with sound fundraising strategy: defer valuation discussions. Communicate that valuation is not your primary concern at this stage. Emphasize that you are seeking aligned partners and that the priority is to determine mutual interest in collaboration. Suggest focusing the initial conversation on whether they see investment potential before delving into valuation specifics. Once mutual interest is established, valuation can be addressed.
Given the secondary importance of valuation and the priority of initiating fundraising momentum, a common recommendation is to offer the first committed investor a valuation that is slightly lower than potentially achievable, just enough to secure that crucial first commitment. This strategy is safe when coupled with caution regarding “valuation sensitive” investors.
Caution with “Valuation Sensitive” Investors: Time Management
Be wary of investors who self-identify as “valuation sensitive.” In practice, this often translates to being overly aggressive negotiators who will consume significant time attempting to drive down your valuation. Avoid approaching such investors as your first prospects. While maximizing valuation shouldn’t be the primary goal, neither should you allow your valuation to be artificially depressed by engaging with a value-focused negotiator as your lead investor. Some valuation-sensitive investors can still bring value, but engage with them later in the fundraising process, when you have greater leverage. By then, you can present a firm price point (“This is the valuation others have accepted; take it or leave it”) and be indifferent to their decision to walk away. This approach ensures you achieve a fair market valuation and minimizes protracted negotiation time.
Ideally, research investor reputations to identify those known for being valuation-sensitive and postpone engaging with them until later. However, if you encounter such an investor early in the process, the breadth-first search strategy, weighted by expected value, provides guidance: deprioritize interactions with them.
Some investors might attempt to negotiate a lower valuation even after a price has been established. Lowering your price should be a strategic fallback, employed only if you realize your initial valuation is hindering your ability to close the round. Therefore, engaging with value-focused investors should be a late-stage tactic, considered only if a price reduction becomes necessary. Since scheduling investor meetings requires advance planning, and the need for a price reduction isn’t always predictable, practically, this reinforces the advice to engage with valuation-sensitive investors last, if at all.
If you receive a lowball offer unexpectedly, treat it as a backup option and delay responding. While ethical conduct dictates timely responses to good-faith offers, a lowball offer is often considered a breach of good faith and can be met with a similarly delayed response.
Accepting Offers “Greedily”: Prioritizing Closure
The term “greedily” in fundraising context refers to a strategic approach, not ethical compromise. It aligns with a “greedy algorithm” in computer science – making the best immediate choice without attempting to predict future outcomes. This is the recommended approach for phase 2 and later fundraising rounds. Avoid speculative future planning because future outcomes are inherently unpredictable, and you might encounter intentional misdirection. Furthermore, your primary fundraising goal should be efficient closure to return focus to core operations.
If you receive an acceptable offer, accept it. If you have multiple compatible offers, choose the best one. Don’t decline an acceptable offer in anticipation of a potentially better offer materializing later.
These simple guidelines address a wide range of scenarios. If you are raising from multiple investors, solidify commitments as they are made. As you approach your funding target, your threshold for an “acceptable” offer may naturally rise.
In practice, offers are often valid for periods, not fixed points in time. When you receive an acceptable offer that might preclude others (e.g., a significant portion of your target raise), inform other investors in your pipeline that you have a compelling offer and provide a limited timeframe for them to submit their own. This might cause you to miss out on some potential offers that might have emerged with more time, but by definition, the initial offer was already deemed acceptable.
Some investors might employ “exploding” offers, with very short deadlines, to pressure immediate decisions. Offers from top-tier investors are less likely to be exploding and tend to have more reasonable deadlines because they are confident in their attractiveness. Lower-tier investors sometimes use aggressive deadlines (e.g., 2-3 business days) believing that startups with better options wouldn’t choose them. A deadline of three business days is generally acceptable, providing sufficient time if you’ve been engaging with investors in parallel. Shorter deadlines are often a red flag and might necessitate calling their bluff.
While securing the “best” investors as partners is a desirable long-term goal, in phase 2 fundraising, “best investors” and “accepting offers greedily” rarely conflict. Top-tier investors typically don’t require significantly longer decision times than others. The conflict arises only when you might need to forgo an acceptable offer to pursue a potential offer from a “better” investor. Parallel investor engagement and resisting excessively short deadlines minimize this scenario. However, in the rare instance of conflict, prioritizing “accepting offers greedily” is generally sound advice. Top-tier investors are also highly selective, rejecting most startups they consider, making it statistically unfavorable to trade a definite acceptable offer for a potential offer from a “better” but less certain source.
(Phase 1 fundraising, such as incubator applications, presents a different dynamic, as parallel applications are often restricted. In Phase 1, “accepting offers greedily” and “getting the best investors” can conflict, requiring strategic application timing to ensure your top choices decide first.)
When raising from multiple investors, a Series A round might emerge organically from those conversations. These fundraising principles still apply. Continue accepting smaller investments until a formal Series A term sheet is secured. Smaller investments, often structured as convertible notes, can simply convert into the Series A equity round. While the Series A lead investor might prefer a cleaner cap table, their primary focus should be securing the deal. Until a term sheet is in hand, assume the Series A is not guaranteed and continue accepting commitments based on the “greedy” algorithm.
Equity Dilution Limit: 25% in Phase 2
If your startup performs well, a Series A round is a likely next step. While the Series A landscape is evolving, and some startups might bypass it, it remains a common path for high-growth ventures.
Therefore, avoid actions in earlier rounds that could hinder future Series A fundraising. Excessive equity dilution is a primary concern. Selling more than approximately 40% of your total company equity before a Series A can make subsequent fundraising challenging, as VCs worry about insufficient founder motivation if their equity stake becomes too small.
A general guideline is to limit equity sold in phase 2 to no more than 25%, in addition to any equity sold in phase 1 (ideally less than 15%). When raising on uncapped convertible notes, conservatively estimate the potential equity round valuation to gauge potential dilution.
(This equity dilution guideline is primarily to facilitate Series A fundraising. If you secure a Series A during phase 2, as some startups do, this guideline becomes less relevant.)
Dedicated Fundraising Lead: Focus and Efficiency
If your startup has multiple founders, designate one founder to lead the fundraising efforts. This allows the remaining founder(s) to maintain focus on core company operations. Given that the primary disruption of fundraising is its mental distraction, not just time commitment, the designated fundraising founder should consciously shield the other founders from the detailed fundraising process.
(Potential friction might arise if founders lack mutual trust. However, if founder trust is a significant issue, fundraising is likely a secondary concern compared to deeper foundational problems.)
The fundraising lead should ideally be the CEO, typically the most strategically influential founder. This remains true even if the CEO is primarily technical and another founder is sales-oriented. For fundraising purposes, such a team effectively operates as a single point of contact.
Bringing all founders to investor meetings might be appropriate for later-stage investors considering substantial investments, as a final step in their decision-making process. However, reserve this for later stages. Introducing co-founders to investors should be approached with similar discretion as introducing a significant other to family – reserved for when the relationship reaches a certain level of seriousness.
Even with dedicated fundraising leadership, growth will likely slow during the fundraising period. However, strive to maintain momentum, as fundraising is a process, not a single event. Company performance during this period directly impacts fundraising outcomes. Significant growth between investor meetings strengthens your position and accelerates deal closure, while flat or declining metrics can dampen investor enthusiasm.
Essential Fundraising Materials: Executive Summary and Deck (Optional)
Traditionally, phase 2 fundraising involves in-person presentations using a slide deck. Resources like Sequoia Capital provide guidance on deck content. However, the necessity of decks is evolving. Many highly successful startups now raise money in phase 2 without ever creating formal decks. Their rapid fundraising success allows them to prioritize investor conversations and operational execution over deck creation.
An executive summary, however, remains essential. It should be concise (one page maximum), factual, and outline your business plan, value proposition, and progress to date. Its purpose is to refresh investor memory after meetings, especially given that investors often meet with numerous startups daily.
Assume that any materials you share, including decks and summaries, will be disseminated beyond the intended recipient. While founders rightly worry about competitive leaks, treat this as a cost of doing business. In practice, the impact of such leaks is often overstated. While plan leaks can be concerning, there are few instances of startups demonstrably failing due to leaked information.
Avoid sending decks or summaries to investors before an initial meeting request. This is often a sign of low investor interest.
Knowing When to Stop: Diminishing Returns
When do you conclude fundraising efforts? Ideally, when you’ve reached your funding target. But what if you fall short? When do you concede defeat?
General advice is challenging, as there are examples of startups that persevered despite seeming hopelessness and ultimately succeeded in raising capital. However, a useful analogy is “air in the straw.” When drinking through a straw, you recognize when you’ve reached the bottom when you start drawing air. Fundraising often ends similarly – opportunities dwindle, and continued effort yields diminishing returns. Don’t persist when you’re primarily getting “air.” The situation is unlikely to improve.
Avoiding Fundraising Addiction: Focus on Core Business
For most founders, fundraising is a necessary chore. However, some find it more engaging than the daily operations of their startup. Early-stage startup work often involves unglamorous tasks. Fundraising, in contrast, especially when successful, can be exhilarating. Instead of debugging software and addressing user complaints, you might be dining with prominent investors who are offering millions.
The risk of fundraising addiction is particularly pronounced for those who are skilled at it. It’s natural to gravitate towards activities where you experience success. If you are adept at fundraising, be cautious. Fundraising is not the driver of startup success. Direct engagement with users and product development are. The danger of fundraising addiction is not just wasted time or excessive capital raised; it’s the shift in mindset. You might begin to perceive fundraising success as a proxy for actual business success, losing focus on the core operational challenges that are critical for long-term viability. Startups can be undermined by this misplaced focus.
Observing a young startup with exceptional fundraising success can sometimes raise a cautionary flag. While media might portray them as the next big thing, a more realistic assessment might be that they are heading for trouble.
Avoiding Overfunding: Subtle Downsides
While rare, it is possible to raise money in excess of actual needs. The dangers of overfunding are subtle but impactful. One is setting unrealistically high expectations. Excessive funding often comes with a high valuation, creating pressure to justify that valuation in subsequent rounds.
Startup valuations are expected to increase with each funding round. Failure to achieve valuation growth signals potential trouble and reduces investor appeal. If you raise money in phase 2 at a $30 million post-money valuation, your pre-money valuation for the next round ideally needs to be at least $50 million. Reaching a $50 million valuation requires substantial progress.
It’s risky to let the competitive dynamics of your current round dictate the performance bar for future rounds, as these are loosely coupled. Furthermore, the capital itself can be more dangerous than the valuation pressure. Increased funding often leads to increased spending, which can be detrimental in the early stages. Excessive spending makes achieving profitability more challenging and can create organizational rigidity. The primary avenue for spending is hiring, and larger teams make pivoting and adapting to market changes more difficult. If you do raise money in a substantial round, resist the urge to spend it all. This advice, while challenging to follow given the allure of readily available capital, is crucial for long-term sustainability.
Professionalism and Respect: Maintaining Investor Relationships
Startups occasionally alienate investors through perceived arrogance. This can stem from genuine arrogance or from inexperienced founders clumsily attempting to emulate a perceived “toughness” observed in seasoned entrepreneurs.
Arrogant behavior towards investors is generally counterproductive. While certain investors in specific situations might respond to a degree of assertiveness, investor preferences vary widely. Behavior that might impress one investor could easily offend another. The safest strategy is to consistently project professionalism and respect.
Following the advice in this guide, which advocates for assertive tactics like declining meetings when not fundraising, deprioritizing slow-moving investors, and “greedily” accepting offers, might inadvertently be perceived negatively by some investors. Therefore, temper these assertive actions with diplomatic communication. At accelerators like Y Combinator, startups are often advised to attribute these guidelines to the program itself. Similarly, referencing this guide can provide a rationale for assertive fundraising behavior. Coupled with an acknowledgment of inexperience (“We’re new to fundraising, so we’re trying to follow best practices”), this approach can mitigate potential negative perceptions.
The risk of arrogance escalates with fundraising success. When investor interest is high, it’s easy to become overconfident, especially after periods of being overlooked. However, maintain humility. The startup world is interconnected and cyclical. Pride often precedes setbacks.
Extend professional courtesy even to investors who decline to invest. Top-tier investors often reconsider their initial assessments. If they decline in phase 2, but your startup demonstrates strong progress, they might invest in phase 3. Investors who invest significant time in due diligence but ultimately decline are often strong future leads. Their initial engagement indicates near-commitment. Often, an internal champion within the firm might simply need more evidence to overcome internal skepticism. Therefore, treat rejections not as definitive endings, but as the beginning of a long-term relationship, unless the investor’s behavior was unprofessional.
Increasing Bar for Subsequent Rounds: Phase 3 Challenges
Assume that the capital raised in phase 2 will be the last funding you ever secure. Strive to achieve profitability on this capital if possible.
The investor landscape has shifted from selectively backing a few early winners to a more diversified approach of broadly funding early-stage ventures and then aggressively filtering at later stages. This strategy is arguably optimal for investors, as early-stage winner prediction is inherently difficult. Letting market dynamics filter companies is more efficient. However, startups are often surprised by the increased difficulty of phase 3 fundraising.
In the early stages, a promising experiment might be sufficient to raise money. By phase 3, the “experiment” needs to have demonstrably worked. You need to be on a clear trajectory toward a public offering or significant acquisition. While proof of concept might be technical metrics in some cases, profitability is often the primary validation. Phase 3 fundraising typically needs to be Type A – fundraising from a position of strength, not necessity.
Two common pitfalls undermine startups between phases 2 and 3. First, slow progress toward profitability. Having secured sufficient phase 2 funding for a couple of years, a sense of urgency to generate revenue might be lacking. Profitability efforts are deferred, and after a year, the lack of revenue becomes ingrained. When profitability becomes a priority, it proves to be an insurmountable challenge.
Second, uncontrolled expense growth, primarily through excessive hiring. Resist the temptation to immediately hire aggressively after a phase 2 round. Wait for demonstrable growth and revenue to justify team expansion. VCs often encourage aggressive hiring, partly due to a tendency to address problems by throwing money at them, and partly because they benefit from subsequent rounds of funding at potentially lower valuations if growth is slower than expected. Resist this pressure to overspend.
Simplicity as a Strategy: Avoiding Overcomplication
While this guide is comprehensive, the core fundraising strategy is fundamentally simple: engage with investors only when actively fundraising, then engage in parallel, prioritizing by expected value, and accept offers “greedily.” Fundraising, in essence, is a straightforward recipe with nuances and edge cases. Avoid overcomplicating the process, and resist investors’ attempts to introduce unnecessary complexities.
Fundraising is not the measure of success; it’s a tool. Your primary objective is efficient fundraising closure to refocus on the activities that drive success – product development and user engagement. Adhering to these principles will provide the most direct path to that objective for most startups.
Stay focused, prioritize core business activities, and don’t deviate from the path.
Notes
[1] The most problematic scenarios arise when seemingly unpromising startups encounter mediocre investors. Reputable investors avoid misleading startups due to reputational risk. Startups with strong potential typically attract sufficient funding from quality investors, avoiding the need to engage with less reputable sources. It’s startups perceived as less promising that often resort to seeking funding from mediocre investors, making them particularly vulnerable to flaky investor behavior due to their greater funding desperation. (It’s important to note that some startups that initially appear unpromising might be “ugly ducklings” – unconventional ventures that defy current trends but hold significant potential.)
[2] A YC founder recounted: “We’ve generally done well fundraising, but I twice messed up by trying to build the company and fundraise simultaneously.”
[3] Be mindful of the subtle risk of accepting an inflated valuation from an eager investor, as it can create an unsustainable benchmark for future rounds.
[4] If a meeting is truly required, it signals that the investor is still in the evaluation phase, regardless of their stated interest. They are still deciding, and you are being asked to convince them – which constitutes fundraising activity.
[5] VC associates routinely send cold emails to startups. Naive founders might be flattered by this apparent interest. However, associates lack decision-making authority. While they might introduce promising startups to partners, deals originating from cold emails are often viewed less favorably. There are virtually no documented VC investments that began with an associate’s cold email. If you want to approach a specific firm, secure an introduction to a partner through a respected connection. It’s acceptable to engage with an associate if you have an introduction to the firm or if they approach you at an event like Demo Day as part of an initial vetting process. While these leads might be less promising and should be prioritized lower, they are not entirely without value compared to cold emails. The title “associate” has gained a negative connotation, leading some VC firms to re-title associates as “partners,” which can be confusing. If you are a YC startup, consult with YC partners for clarity; otherwise, research online. Look for distinctions like special partner titles, public speaking engagements on behalf of the firm, or board of director roles, which typically indicate actual partners. Titles between “associate” and “partner” exist, such as “principal” and “venture partner,” but their meanings are inconsistent across firms.
[6] Similarly, avoid casual conversations with potential acquirers, as they can be even more distracting than fundraising. Only engage with potential acquirers if you are actively considering selling your company immediately.
[7] Joshua Reeves suggests specifically requesting each investor to introduce you to two additional investors. Avoid asking investors who decline to invest for introductions, as this can often be perceived as an anti-recommendation.
[8] This behavior isn’t always intentionally deceptive. Many delays and communication gaps between founders and investors are ingrained in venture capital customs, which have evolved to favor investor interests.
[9] A YC founder reviewing this essay commented: “This section is crucial and should be emphasized even more. Investors deliberately exaggerate interest to maintain optionality. If an investor seems very interested, they still probably won’t invest. Assume they are feigning interest until a firm commitment is received.”
[10] While scheduling investor meetings densely is generally efficient, Jeff Byun notes a potential drawback: tightly packed schedules might limit time for pitch refinement. Some founders intentionally schedule meetings with less desirable investors first to practice and refine their pitch before engaging with top-tier prospects.
[11] The investor market is not perfectly efficient. Some of the least helpful investors are also the most demanding in terms of time and attention.
[12] This paragraph reflects fundamental sales principles. To observe this in action, interact with a car salesperson.
[13] A highly skilled founder would reportedly conclude investor meetings with a casual, confident closing question like, “So, can I count you in?” delivered with the same nonchalance as asking for salt. Unless you possess exceptional salesmanship (and if you are unsure, you likely don’t), avoid imitating this approach. Investors are not impressed by nerdy founders attempting poor imitations of smooth salespeople. Investors are comfortable funding nerds. If you are a technical founder, focus on being a strong technical founder rather than a weak imitation of a salesperson.
[14] Ian Hogarth suggests assessing investor seriousness based on their post-meeting resource investment in you. A genuinely interested investor will actively seek to assist you even before formal commitment.
[15] In principle, consider “signaling risk.” If a prestigious VC makes a small seed investment but declines to participate in subsequent rounds, other investors might interpret this as a negative signal, assuming the initial VC has privileged insight and their non-participation indicates underlying issues. However, in practice, signaling risk has been minimal. It rarely materializes, and when it does, the startup in question is often facing other challenges and likely destined for failure regardless. If you have the luxury of choosing seed investors, mitigating signaling risk by avoiding VC firms is a cautious approach, but not strictly essential.
[16] Competitors might intentionally threaten lawsuits as you initiate fundraising, knowing that disclosure to investors will be required and hoping to impede your fundraising efforts. If this occurs, it will likely be more alarming to you than to experienced investors. Seasoned investors are aware of this tactic and understand that actual lawsuits are rare. Be transparent with investors about such threats. Evasiveness will raise more concerns than full disclosure.
[17] A related tactic is claiming conditional investment based on securing other investors to avoid “undercapitalization.” This is often disingenuous. Precise minimum capital needs are rarely calculable with such accuracy.
[18] You won’t hire all 20 people immediately, and revenue generation will likely begin within 18 months. These factors provide additional buffer to the fundraising calculation.
[19] Type A fundraising is significantly preferable. A YC founder suggested that first-time founders might consider avoiding capital-intensive ventures and focus on ideas suited for founders with established reputations to facilitate Type A fundraising sooner.
[20] It’s unclear whether this price sensitivity stems from innumeracy or a belief in zero predictive ability for startup success (making price the only controllable variable). Regardless, the practical implications are similar.
[21] YC startups can consult with YC partners for market valuation estimates if an investor insists on you setting the price.
[22] Reciprocate ethical investor behavior. Respond promptly to clean offers without deadlines, reflecting the same good faith.
[23] Keep potential Series A investors informed about smaller investments as you secure them. This provides necessary cap table updates and can create pressure for them to act. They might dislike the increasing number of investors and pressure you to halt further fundraising, but they cannot legitimately demand exclusivity until they commit with a term sheet and no-shop clause. You can offer some flexibility if the Series A investor is highly reputable and demonstrably working quickly towards a term sheet, especially with YC or another trusted third party involved to ensure clear communication and prevent misunderstandings. But proceed cautiously.
[24] Weebly is an example of a company that achieved profitability on a $650,000 seed investment, bypassing a Series A round. They attempted a Series A raise in late 2008, but market conditions (the 2008 financial crisis) led to unfavorable terms, prompting the decision to remain independent and skip the Series A.
[25] Having one founder handle fundraising meetings eliminates real-time negotiation, which is beneficial for inexperienced founders. A YC founder noted: “Investors are professional negotiators and negotiate easily on the spot. With only one founder present, you can always say, ‘I need to check with my co-founder’ before committing.” This provides crucial time for internal deliberation before making commitments.
[26] Fundraising becoming pleasant enough to be addictive is rare. More often, founders struggle with discouragement from rejections. A successful YC founder shared: “Dealing with the sheer scale of rejection in fundraising is mentally challenging, and failure to manage this mindset leads to failure. Users might love you, but investors might not understand you at all. Rejection still stings, but I’ve accepted that investors are not always deeply thoughtful, and you need to play the game by somewhat depressing rules (many of which you are outlining) to succeed.”
[27] The actual biblical quote is, “Pride goeth before destruction, and an haughty spirit before a fall.”
Thanks to Slava Akhmechet, Sam Altman, Nate Blecharczyk, Adora Cheung, Bill Clerico, John Collison, Patrick Collison, Parker Conrad, Ron Conway, Travis Deyle, Jason Freedman, Joe Gebbia, Mattan Griffel, Kevin Hale, Jacob Heller, Ian Hogarth, Justin Kan, Professor Moriarty, Nikhil Nirmel, David Petersen, Geoff Ralston, Joshua Reeves, Yuri Sagalov, Emmett Shear, Rajat Suri, Garry Tan, and Nick Tomarello for reviewing drafts of this essay.
