This is the article I wish I could have read when setting out to start my company, Parabol. Raising capital is a ruthlessly difficult process and one a venture-class founder must master to survive: Entrepreneurs are alone in a canoe barreling down a river with nothing but potting soil, a pine cone, and a blade for whittling, and somehow they’ve got to grow a tree large enough to fashion an oar and paddle upstream before their boat is tossed over a waterfall. A founder must be good at learning while in continual existential crisis.
To make matters more challenging, fewer series seed rounds are being done each year. Look at the 2018 angel and seed deal activity data from Pitchbook:
The number of seed deals have been steadily decreasing since their peak in 2015. On top of that, the average size of seed deals continues to increase. Below is a chart showing the average amount of capital raised prior to closing a Series A:
Bottom line: These data show companies over the past few years have had to get further along under their own steam while competing for fewer and larger seed investments. An increasing amount of the earliest stage risk needs to be borne by entrepreneurs as the market has become more competitive.
I want to share exactly what it took to get Parabol’s round done. My hope is that sharing these data will help other entrepreneurs plan, and set more reasonable expectations of themselves and their businesses.
How much did you raise?
Since its founding in 2015, Parabol raised just over $4.0M after our Series Seed equity round closed in October, 2019.
$932k was raised in the form of convertible debt from friends and family, angels, and institutions between 2016–2019. $3.1M in equity financing was raised in Q4 2019. The completion of this equity financing was Parabol’s Series Seed round.
Who did you speak with?
I communicated with 122 institutional investors out of a pipeline we assembled of 143. 89% of the communications I had with investors did not end up in an investment. In retrospect, meeting with 10 investors to get 1 “yes” feels like a good rule of thumb, planning wise.
Of the 122 VCs we communicated with, 76 (62%) took a meeting with me and 34 (45%) of those eventually took a second—it should be noted that sometimes follow-up meetings were years apart (“please check back in when you’ve made more progress”).
While we were always opportunistically raising angel funds, there were 3 concerted efforts to try and raise institutional funding. They can be seen clearly, below:
In the Spring of 2017 we successfully raised a pre-seed round on convertible notes. In the fall of 2017 we completed Alchemist Accelerator and tried to raise an equity seed round and failed. In 2018, we pivoted and raised only from angels. In 2019, we’re admitted to Techstars Anywhere—we badly needed the cash—tried raising again and succeeded.
How many meetings to make a decision?
Getting subsequent meetings with VCs feels like progress, but many more VCs rejected us at the 4th, 5th, and 6th meeting than chose to invest. The shape of the distributions differed between those who invested and those who did not: rejections followed a log-normal distribution, while those who invested resembled a normal distribution. When a term sheet is on the table investors tend to make quicker decisions, changing the shape of the distribution: These figures are fear of missing out, visualized.
For either of the investors who offered to lead our round, it took at least 5 to present a term sheet. There is no shortcut to a term sheet, it seems.
It’s not always clear how to respond to the question, “Is your round open?” and begin telling investors you’re actively fundraising. For us, after the first investor told us “we’ll write you a check for $3M on a $4M round subsequent to diligence” we started telling other investors our plans to raise had been preempted, and were now actively raising. Ultimately we worked to delay the diligence process of this first prospective investor to bring more folks into the round. From the moment we chose to say, “We’re actively fundraising,” until closing, this is how long the active portion of fundraising took:
- Officially raising funds until signed term sheet: 2 months, 16 days
- Signed term sheet until all wires received: 1 month, 19 days
- End to end: 4 months, 5 days
Our round certainly did not set any land speed records.
In the end, the adage that fundraising is a full time job held true. Estimating it took an average of 1 minute to read and 5 minutes to write each email, I spent 228 hours in my inbox. Add on the time spent in meetings and 458 hours are directly accounted for. This doesn’t tally the time spent on deck revisions, research, travel, mentor conversations, assembling data to answer questions for VCs, or pulling out my hair. It’s not at all a stretch to imagine more than 540 hours in total were spent raising institutional capital: which is more than 6 months of full-time work. Again, these data only reflect raising from institutional funds, not for time spent raising funds from friends and family or angels.
Why did one raise fail, and one succeed?
The first time we tried to raise our seed we didn’t have a hockey stick. The second time, we did. On top of this, many VCs had a complete change of heart on our market. In 2017 we kept hearing, “We’re skeptical the remote work market will ever be big enough.” By early 2019, our inbox was flooded by requests for meetings specifically citing how lucrative they believed the remote work market to be.
Serially successful and founders of extreme privilege aside, as far as I can surmise a VC-fundable company must serve both a hot market and do the near-impossible job of creating a hockey stick on very little capital. The hockey-stick metric that helps investors reach conviction differs by the business. However, one thing is certain: investor feedback on why they choose not to invest should not always be trusted.
I kept records each time an investor told us why they chose not to invest so I could share this feedback with our team and use it to inform our strategy. When we failed to raise our seed in 2017, overwhelmingly the top reason was “your monthly recurring revenue isn’t high enough.” When we asked where it should be in order to secure an investment from their firm they would tell us to come pitch them again when our MRRs was somewhere between $10k and $25k.
In 2018, we had a choice to make: focus on revenue or focus on growth and retention. We hotly debated which route to take but ended up deciding to ignore VC feedback and focus on growth and retention instead. Ultimately this led to pivoting from a “better status meeting” product to a free online retrospective product that did not force free users to convert. This strategy, along with good execution by our team led to creating a product that spread virally and led to creating a user-growth hockey stick.
At the time our Seed Round closed, our MRR still wasn’t great. However, the top-of-funnel and mid-funnel metrics told a story that a revenue hockey stick would soon follow suit. This narrative, support by data, led to us closing our round.
Lessons for other founders
Synthesizing the notes I’ve taken from speaking with other founders who’ve successfully raised a seed in the past few years (2017–2019), here are a couple patterns I see:
- For B2B Enterprise Businesses with a higher annual contract value: your user or account growth rate can be small, but you must show a revenue hockey stick
- For B2B Enterprise Businesses with a lower annual contract value or for most consumer businesses: your revenue may be small, but you must show high user growth, retention, and perhaps rates of referral
Super hot markets (i.e. bubbles), such as Blockchain in 2016–2017 seem to be the exceptions: sometimes it seems investors seem to just throw money around.
While there wasn’t much I could have done to time when VC’s think our market would become hot, if we had to do this over again to raise more quickly I’d laser focus our company’s efforts only on making a hockey stick at the point in the funnel that made sense to investors. Instead, we overbuilt some areas of the product and company. That said, by taking the slower path—and surviving the financial hell taking that path put us through—we now have a company that is better positioned to scale using the dollars we just took in. We’ll never know which path would have been better for the future of the company. For me personally however, it would have been nice to spend fewer nights worrying if I just made the worst financial and personal decision of my life.