🧵 How do Seed stage funds think about Series A follow ons??
Many of my founders don’t understand the process and many emerging managers I have spoken with don’t have good follow on models
So let’s clear the air
For the excel model, follow me & leave a comment if interested
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Before going forward, it can be helpful to understand the initial check process which I explained previously.
I will be skipping some of these concepts in the summary, but all are included in the model.
🧵How does Seed stage fund math work?
Now that I invest in funds, I’ve seen dozens of emerging manager decks and the fund model is one of the biggest decisions and misses that I see. VC is as much math as gut/luck.
Let’s get into it
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There are a variety of follow on strategies but I’ve seen 3 largely for Seed funds (not megafunds doing Seed)
1) Limited follow ons (0-30%): Smaller funds sub $25M
2) Moderate follow ons (30-50%): Mid size funds of $25-200M
3) Majority follow ons (50%+): Larger funds above $200M
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The smaller funds are largely forced to have limited follow ons given capital constraints
The larger funds have majority follow ons given Seed round sizes
So I am going to focus on mid size funds as they have more flexible follow on models and are where I see more Seed funds
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The basic follow on calculations are
Investable Capital - Initial Capital* = Follow on Capital
Series A conversion % x Initial Deals = Follow on Deals
Follow on Capital / Follow on Deals = Follow on Check
*discussed in previous thread
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Let’s take a $100M fund as the example, assuming $8.5M of fees & expenses
$91.5M Investable Capital - $60M Initial Capital = $31.5M Follow on Capital (34%)
60% Series A conversion x 30 initial deals = 18 Series A Deals
$31.5M / 18 Deals = $1.75M Follow on Checks
Reference 👇🏽
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Lets assume the Seed fund gets 10% ownership on average in the Seed round. The implications are
$1.75M Series A pro rata check / 10% ownership = $17.5M Series A round
$17.5M round / 22% dilution = $79.5M post money valuation
These are avgs but in line with what we are seeing
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There are 3 major assumptions that impact the calculations
1) Initial ownership %
2) Series A round size $
3) Series A conversion %
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Assumption 1: Initial Ownership %
The ownership a Seed fund gets from the initial check determines their pro rata rights. The fund can always do less, but can only do more if the founder gives super pro rata, which is rare in this market with the Series A funds taking rounds
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Assumption 2: Series A round size $
The average Series A round today ranges from $10-20M, but there are a variety of ranges
The simple math is multiply the Seed funds ownership by the round size to get your pro rata check.
i.e. 10% x $17.5M = $1.75M pro rata check
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Assumption 3: Series A conversion %
The Seed market historically has seen a 20% conversion to Series A. The best Seed funds see a 70-90% conversion, but this is rare. We have seen 60% for good funds.
i.e. 60% conversion x 30 initial deals = 18 Series A checks
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Seed funds should use these assumptions as a check
- Do not have expect to get more than your pro rata
- There is market data on Series A round sizes so you know your average pro rata check ranges
- Adjust your A conversion % over time, but start with a market range of 40-60%
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Founders should ask VCs directly their follow on strategy.
This is particularly important for your Seed lead investor given they will be the biggest pro rata check. It will impact how much more or less capital needs to be raised along with your Series A lead.
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Much of the focus for founders and VCs is on the initial investment, but many funds will deploy as much or more capital in follow ons
The follow on process is often more vague internally at funds and externally to founders
Hope this helps some. If so, follow me
@hpierrejacques
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There were too many responses so I am sharing the model for reference here. Adjust any of the numbers that are blue to play with the model.
Have fun 👇🏽
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