There are 3 main strategies for filling out the round:
- Tap previous investors
- Circle back with soft-commit investors you spoke with earlier
- Reach out to new investors
The key is to maintain momentum and get things done ASAP.
More often than not, the lead investor will leave some space for others to come into the round. That means that founders have to decide how to go about filling the round and building the investor syndicate. In my experience, there are three primary strategies for doing that:
Option 1 - Tapping Previous Investors
If this is not your first round of financing, then your previous investors will most likely be interested in doubling down, especially if they are VCs, who typically want to maintain their ownership percentage in breakout portfolio companies. As a matter of fact, larger investors often have pro rata rights, which gives them the legal right to do so. Every now and then, they may even want to invest more than their pro rata rights, especially if the company seems to be on a particularly exciting trajectory.
There is a common temptation for founders to assume that existing investors will always invest again. I caution against such an assumption, even for pro rata rights holders.
For example, as the rounds and corresponding capital requirements get larger and larger, smaller investors such as angels and seed VCs may get tapped out and be unable to participate. And even if they do participate, their checks might end up too small to be a meaningful contributor to filling out your current round.
Another dynamic, discussed in Who to Network With, is that investor circumstances change often, sometimes rather significantly. For example, partners might change focus areas, move to another firm, or retire.
Instead of assuming that your investors are in, check in with them. I recommend having a conversation with existing investors early in the process and getting a sense of where they stand, as discussed in Phase II - Fundraising.
Option 2 - Circling Back to Soft-Commit Investors
Another source that founders can tap to build out the syndicate are “soft-commit” investors. These are investors that you spoke with during Phase II - Fundraising and who said some variant of “the company is interesting, call me up when you get a lead.”
In my experience, there are 3 types of investors, who say that:
Group 1: instead of leading rounds themselves, the investor’s model relies on following a strong lead. There are many such firms, which can be a great way to fill out a round as they tend to move very quickly once a strong lead comes on board.
Group 2: for whatever reason, the investor doesn’t have the necessary conviction to lead, but would actually consider investing, usually a smaller amount than perhaps is typical compared to when leading a deal. This group can also be a good way to fill out a round.
Note: If the investor is a larger fund, you can think of them as buying an option on your startup. This helps with the current round, but carries signaling risk as explained in Essential Investor Qualifications. Make sure to carefully weigh the pros and cons of taking their money!
Group 3: the investor wants to politely say no. Obviously, this bucket is not relevant for filling out a round.
Unfortunately, it can be rather hard for entrepreneurs to identify which group an investor belongs to. The only way to figure out where people stand is to actually go out there and ask them if they are in or out. Fortunately, with a signed term sheet, the probability that the round happens is very high, which reduces stress and anxiety, and makes fundraising almost enjoyable.
Option 3 - Reaching Out to New Investors
Another common strategy is to reach out to completely new investors. Those could be investors you hadn’t had a chance to pitch earlier or suggestions from your lead and other backers about who else might be interested. That’s a perfectly fine approach to filling out the round as long as new prospects can move quickly to make a decision.
In an ideal world, you can build out the syndicate with investors, who bring capital and other value-add - and are quick to make a decision. Sometimes reality is close to that ideal, and sometimes not so much. The key is to be laser focused on filling out your round as quickly as possible, so you can get back to building the business.