The surprisingly simple purpose of a seed round of funding

startup funding

What's the purpose of a seed round of startup funding? Is it product market fit? Validation? Or something else?

The phases of startup funding

For any startup needing capital to scale, there is a standard path of funding rounds that sees the startup move from ideation to, hopefully, an exit.

I call this the Capital Continuum.

Generally speaking it looks like the following.

Pre-seed → Seed → Series A → Series B → you get the gist.

To be a little playful, this is how I think of funding rounds…using emojis.

Pre-seed = 💡

Seed = 🌱

Series A = 📈

Series B = 💸

Series C = 🚀

Why a 🚀 for Series C? Because a startups chances of a successful exit go from about 80% after a B round to nearing 100% after a C round. In fact, according to Techcrunch, the difference between C and later round existing is negligible.

The purpose of a pre-seed and seed rounds

At the pre-seed phase, startups are looking for capital to help them bring their idea to life. Virtually all of any funding they raise goes towards developing their product.

Once you reach the seed round things get more serious. To raise a seed round you need to have a product in the market and you should be focused on validation, building out a team, and reaching key milestones.

You might think that the goal of a seed funded startup is revenue, but it isn’t.

When I coach startups on developing a pitch deck, I tell them that the purpose of a pitch is not to get an investors commitment. It’s to get to the next step in the due diligence process. That’s because few investors will close a deal on the spot. Trust me, I was a startup analyst for a large angel investing syndicate and was the guy who performed the analysis on potential investments after they completed a pitch session.

In the same way a pitch is about getting to the next step in the process, a seed round is about getting to the next phase of funding.

With the average seed round running between $1M-$2M, most startups will burn through that money in 12-18 months. So, a follow-on round, is almost assured.

But, there is more to it than that, if you dig deeper.

The real purpose of a seed round

The real purpose isn’t to reach exit velocity. According to Crunchbase, only a small percentage of seed funded startups accomplish that. And, to be honest, I suspect those that do pull of an exit that early are “acquiri-hires”, where larger companies buy out the startup just to get talented founders working at their company.

If the real purpose isn’t an exit, then what is it?

I said earlier that the purpose is getting to the next round of funding. Which is true. About a third of seed funded startups raise post-seed funding.

That number nearly doubles if the startups seed round was over $1M.

But, there is a hidden purpose laying underneath everything.

The average number of months for a seed funded startup to raise an A round is 30 months.

Think about that compared to the average time a seed round lasts, which is 12-18 months, and occasionally 24 months in my experience.

So, it takes 30 months to raise an A round and a seed round only lasts up to 24 months. That leaves a startup with a 6 month gap.

The real purpose of a seed round is survival.

Raising enough capital to survive long enough to accomplish some big milestones, such as product market fit, and making it to the next round of funding.

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