The Makings of a Seed Round
With YC W23 demo day came the ever-continuing dialogue on how early-stage financings should be priced lives on. You’re bound to hear self-serving arguments from all sides of the table. Smaller seed funds will tell you that prices are outrageously high and not setting up companies for future success. Larger multi-stage funds will be more price-agnostic as they look to continue to deploy capital by any means necessary so they can raise their next fund and boost their management fees. Management at YC will tell you that seed prices are meaningless if you believe you are backing the next Stripe or Airbnb or Doordash. There’s some truth in all of these arguments though, but one thing that’s been completely missing in the dialogue though is how a founder should actually construct a seed round. And with that, the best piece of advice I can give to all current and future YC founders is this: steer clear of party rounds
In the last 10 years of low-interest rates and easy money, it has become popular to raise party rounds composed of prolific angels, fellow founders, and wealthy individuals. While this hasn’t been a problem in recent history, and has actually been a good way to create FOMO for Series A investors, we are starting to see the tide shift for a bunch of reasons.
Angels and individuals don't have set fund structures and may not provide bridge rounds or additional capital if needed. Established funds are more likely to give you that bridge or seed-2 round if they believe in your product and vision in the long-term.
As the tide washes out, individual investors and founders may disappear, leaving you with a less-engaged group of investors. Large, established institutional VCs have made it a full-time job to be investors and will work with you day-in-and-day-out no matter the macroeconomic environment.
Brand name matters. When you have a lead check from an established VC firm, everything gets just a little bit easier. Recruiting becomes easier, customers view you as a more trustworthy business partner, and Series A investors look at you differently.
Cap table management is difficult. It's best not to overcomplicate things when getting started. Bucket all small individuals into a single special purpose vehicle (SPV) so that they all carry the exact same rights going forward and can be thought of as a single entity.
Of course there are some angels out there that are truly value-add, but they are few and far between. When raising money from an any individual person, be hyper-alert on how they plan to help you as a startup, and don’t be afraid to ask for key historical examples.
Starting a company is an incredibly challenging and long journey. As a founder you will face every hardship ranging from funding slowdowns to customer budget constraints to apparently your trusted bank being shut down. It is your job to navigate these challenges, and mitigate the unnecessary risks along the way. Raising a party round for your seed sets yourself up for a bunch of difficult situations down the road, and hopefully is a forgotten remnant of a bygone zero-interest rate world.