First Round Funding: Lessons from Founders in a Bull Market

A Smooth Seed Round for a Serial Entrepreneur

Manu Bansal, the founder of Lightup.ai, found securing a seed round from a16z to be a relatively straightforward process.

His prior venture, Uhana, established in 2016, had received backing from NEA and was successfully acquired by VMWare within three years.

Demonstrated Success

Bansal had already proven his capabilities, not only in product development but also in all facets of company building.

This included attracting skilled personnel, generating income, and achieving a favorable exit strategy.

The Changing Venture Capital Landscape

However, a new hurdle emerged in 2021 during the seed round fundraising process: the venture funding market experienced unprecedented growth.

In 2016, total venture capital investments in the U.S. totaled approximately $80 billion, as reported by PitchBook NVCA.

By 2020, this figure had more than doubled, reaching $164 billion, and projections indicated that 2021 would surpass even this level.

An Unusually Favorable Market

Startups were operating in an exceptionally advantageous environment.

The sheer scale of this bullish market defied easy description, drawing comparisons to the frenzy of a Black Friday sale at Walmart.

Rapid Fundraising Opportunities

Founders were able to secure funding with remarkable speed.

Bansal himself experienced this firsthand, receiving a significant influx of investor interest and considering a preemptive up round a mere three months after finalizing his initial seed funding.

A Potential Pitfall

Despite the ease of raising capital, Bansal cautions that this situation can present unexpected challenges.

The Peril of Premature Funding

With increasing capital availability, competitive pressures intensify, particularly for entrepreneurs like Bansal. The volume of unsolicited investment proposals rises, and the strategies employed to secure a founder's focus become increasingly inventive.

A common tactic investors utilize to gain attention is inflating company valuations. This often leads to discussions of "up rounds" – subsequent funding rounds at higher valuations.

However, this market dynamic can create a detrimental cycle, a vicious preemptive trap. This manifests as an early Series A funding round, swiftly followed by a Series B within a matter of months, and a Series C not long after.

The Problem with Rapid Funding

“A company’s key performance indicators simply cannot demonstrate substantial improvement within such compressed timeframes,” Bansal explained. One of his investors aptly pointed out that establishing an effective go-to-market strategy (GTM) requires a certain amount of time to mature.

Increasing financial resources does not accelerate the GTM process. Bansal emphasizes that when valuations experience dramatic increases, it serves as a reminder of the need to deliver demonstrable results.

“Failure to exhibit significant traction will inevitably lead to repercussions. I prefer to steer clear of those who prioritize rapid valuation growth over sustainable progress,” he stated.

The Difference Between Trends and True Partnership

Determining the motivations and principles of individuals becomes particularly challenging during periods of market growth. The isolating effects of the recent pandemic have further complicated efforts to foster genuine engagement, cultural understanding, and meaningful human connections.

Oren Arar, the founder of Cyrus – a platform focused on personal privacy and security preparing for a Series A funding round – articulated a crucial perspective. He stated, “While my responsibility as CEO includes delivering financial results to investors, it’s vital to remember we are all people. Initial investments should be viewed as long-term commitments, akin to a marriage, requiring investors who will provide support through both successes and difficulties.”

According to Bansal, discerning investors avoid chasing fleeting trends. They assess a company’s progress based on its unique characteristics, rather than applying standardized benchmarks.

“Every business operates as a unique case,” Bansal emphasized. “A truly insightful investor recognizes this and doesn’t rely on generalized comparisons.”

Fellowship with investors, built on mutual understanding and shared values, is therefore more valuable than simply attracting those captivated by current market hype.

The Importance of Long-Term Vision

Seeking investors who align with a company’s core values and demonstrate a commitment to its long-term vision is paramount.

This approach fosters a supportive relationship that can weather market fluctuations and contribute to sustained success.

• Genuine investors prioritize understanding a business’s specific context.
• They resist the temptation to follow short-lived market fads.
• They offer steadfast support during both prosperous and challenging times.

Ultimately, cultivating strong investor relationships based on trust and shared goals is essential for navigating the complexities of the business landscape.

Navigating Funding in a Thriving Market: A Founder's Guide

Establishing Strong Founder-Investor Alignment

According to Bansal, a crucial element for success is achieving a strong “founder-investor fit,” characterized by a shared commitment to the venture. While capital itself is undifferentiated, investors demonstrating experience across various economic cycles, a thorough understanding of the target customer base, and a willingness to actively contribute are exceptionally valuable.

Founders operate with limited time and require substantial support to achieve key performance indicators for subsequent funding rounds. Ideal investors not only acknowledge the challenges faced by CEOs but also collaborate directly to overcome them. This partnership is built on mutual due diligence, enabling resilience in the face of inevitable obstacles.

Seeking Investors Who Proactively Deliver Value

The traditional approach of investors focusing solely on term sheets and capital deployment is becoming outdated. Founders now expect investors to proactively contribute value, demonstrating their capabilities well before formal investment. Simply offering assistance post-investment is no longer sufficient.

Recent research from Forward Partners reveals that 47% of founders perceive a lack of sector-specific knowledge among their investors. This disparity between the promised value-add of VCs and their actual delivery is becoming increasingly apparent.

The report highlights instances where VCs attempted to provide value but were unsuccessful. A similar performance from an employee would likely result in termination, yet founders often lack the ability to remove underperforming investors.

Prioritizing Core Values Over Valuation Metrics

A significant challenge in a buoyant market is resisting the temptation to chase inflated valuations and avoid comparing oneself to other startups securing large funding rounds.

While frequent funding announcements are common, raising capital does not automatically equate to sound business judgment, nor do high valuations guarantee strong performance.

Justin Beals, CEO of StrikeGraph, emphasizes the importance of focusing on foundational elements: “We recently completed our Series A after acquiring 70 customers. I am confident in our team, our culture, and our unwavering dedication to our customers – these are the principles that guide us.”

Founders should always consider how an investor will behave when market conditions deteriorate. Determining an investor’s steadfastness during challenging times is difficult, but evaluating their past actions and seeking references from other CEOs – particularly those who haven’t achieved unicorn status – can provide valuable insights.

Bansal explains their decision to partner with a16z, stating, “Individuals like Marc Andreessen consistently champion founders and have established a services organization centered around a ‘founder-first’ philosophy. Furthermore, Marc and Ben have navigated numerous economic downturns, providing me with experienced partners.”

Therefore, when engaging with hedge funds transitioning into venture capital, it’s prudent to examine their broader investment approach. In a bull market, it’s easy to overestimate one’s abilities, attributing success to personal skill rather than favorable market conditions – a potentially detrimental miscalculation.

Disclaimer: The author holds investments in Cyrus and StrikeGraph.