Too many founders optimize their fundraising based on a single metric: valuation. Of course, I understand where this comes from, and the desire to minimize dilution. As early-stage investors, we also care about the dilutive effects of follow-on rounds, both for us and the founders. A key lesson we’ve learned across our investments is that valuation isn’t often the most important factor, and it doesn’t exist in a vacuum.
After discussing funding strategy constantly with founders in the Maven portfolio, and having dozens of conversations about valuation each month with new potential investments, I’ve been thinking a lot about the trade-offs founders make when optimizing for one element of the funding round. This is what we tell our own portfolio companies: it is almost always better to prioritize the right investor over the best valuation. In the long run, the team you assemble is more important than the price.
Here are four major levers worth considering in closing a successful funding round:
- Speed: how quickly do founders want to close the round? Are they planning to run a tight, scheduled process, or would they prefer to take their time as they start to get a feel for the market value and their potential partners? Each investor’s diligence process and pace impacts the speed of the round, so it’s worth understanding.
- Investor Fit: there’s a lot to unpack regarding the potential fit of an investor. Consider the firm’s brand and reputation, the actual partner’s experience and personality fit, as well as the firm mechanics such as process, stage, and check size. In considering the right fit, remember you’re likely going to be partners for 5–10+ years.
- Round Size: the size of the round is an important filter to identify the right potential investor targets, and can impact the speed, valuation, and investor fit. A massive round makes headlines, but isn’t always the right strategy for many companies. Determine how much capital you need for about 18 months to hit the next set of milestones.
- Valuation: the final price, which informs how much each investor owns and how much the founders retain. It’s an important part of any round but this is where I often see founders spend disproportionate time and energy.
As a gut check, here’s one tactical way to think about the valuation for your next round, especially if you most recently raised a Seed round. The lead for your Series A will likely want to own about 20% of the company. And, they’ll likely invest 60–90% of the new round. If a company is raising $7M and a lead investor is going to invest $5M, a quick back of the envelope valuation would be a $25M post-money ($18M pre-money). Between Seed to Series A, we often see companies move up 2–3x on post-money valuation from round to round. So if your last post-money was in the $8–12M range, $25M is in the right ballpark. Anything more aggressive, and you might be trying to over-optimize for valuation.
Entrepreneurs generally must choose what they want to optimize, because it’s very rare to get what you want on all four. For example, if speed is most important — you want to get the round done as quickly as possible — you might have to compromise on shopping for the best investor or partner, and might also consider a more investor-friendly valuation to speed things up. On the other hand, if founders really care about getting the right partner at the valuation they want, that might take longer. Similarly, if you want to optimize for the cachet and prestige of the firm you raise from, you may not get the highest valuation you seek, as many of the truly top tier firms have pricing power. If valuation or raising a flashy, big round is the most important thing, you’ll probably spend more time fundraising, and might not get the most ideal partner. Often this is a mistake, and may result in not closing a round at all. If you go that route, weigh the pros and cons and understand the impact it might have.
These four factors live in a balance, and best case, the right trade-offs will get the round closed efficiently and help build the business forward. Worst case, optimizing too much for any one factor, especially myopically on valuation, can have ramifications that can hinder a company down the road. (Sometimes VCs focus too much on valuation as well. But for another post…)
It’s worth noting that the most important aspect of a successful round is the fundamental business. Without a solid team and business opportunity, none of these funding considerations matter much. With an incredible, experienced team and a unique market insight that can deliver on major returns (and some proven execution), it’s possible to raise a dream round on your terms. Most fundraises will fall somewhere in the middle. Fundraising is a means to an end, and more art than science. So I would always encourage founders to weigh the trade-offs when optimizing for each of these levers. Make choices that are in the interest of helping you build a wildly successful business in the years to come.