Welcome to the 12th post from Texts with Founders — tested tactics for early-stage startups.
I’ve worked with thousands of other founders over the years. This weekly newsletter is designed to share some of what I help them with.
Founders often fall into a common catch-22 related to getting early commits for their fundraise:
The founder is waiting to determine round terms with a lead investor.
Angel investors they meet cannot commit without knowing the terms of the round.
Not having angel investors committing means founders miss out on many potential introductions to funds that could lead their round.
To avoid this issue, use a tranche strategy:
The primary purpose of using tranches is to get early support and introductions while building momentum.
Angel investors can help you meet your lead investor
Allow those angels to commit at the start of your fundraise when their introductions could be the most helpful
Reward their early commitment with favorable terms
A tranche involves offering a "buy it now" valuation that is "fair" for you and the angel investor. This is typically done on a SAFE with a post-money valuation cap slightly lower than the valuation you might expect from a lead investor. This makes angels feel like they are being rewarded for making a decision before you've already locked in a lead.
The first tranche should be a small part of your total fundraise goal; if you aim for a full raise of $1 million, set aside around $150k-$200k as an initial target amount at this lower valuation.
While the goal is to have a slightly higher valuation cap for the remainder of your raise, it's useful to be comfortable with dilution resulting from raising all funds at the tranche's valuation in a worst-case scenario.
Here's an example of a tranche raise vs. the valuation staying constant:
$1M total raise with a tranche
Tranche: $200k on $5M post
Rest of round: $800k on $8M post
Total dilution with tranche = 14%
If you were raise the entire $1M on $8M post you’d save 1.5% in dilution but it’s worth considering the tranche as a way to build momentum for the full raise.
How to communicate a tranche to angel investors
Framing is essential when presenting the option to invest to angels. Don't refer to it as a “buy it now” price—I only do that in this post to make the concept easy to understand. Instead, saying something like this can help an angel understand your process:
We're raising between $1M and $1.2M and plan to do that for between 15 and 20% dilution.
We are talking with leads now.
In parallel, we're bringing on some great angels who want to support our mission.
We're doing a small first angel tranche (about $200k) of this round at $5M post — it's a lower valuation than what I expect the rest of the round to be. Let me know if that's interesting or if you have any questions.
They might not be interested—many won’t be—but at least now they have actual terms to consider.
Sometimes, founders try to play games. Usually, this goes badly. Some might try to play up scarcity ("We'll fill this tranche in the next 24 hours") in a way that is both off-putting and often untrue (usually, the founders who bluster like this are the least likely to fill their tranche in 24 hours). Remember that the tranche strategy isn't focused on creating artificial scarcity but on giving angels something they can say "yes" to if they're interested.
Another way things can go poorly is if a founder sets a valuation cap that is too high for the market but convinces a couple of price-insensitive angels to commit. Sometimes, founders do this to try to create a valuation precedent, and other times, it's by accident and they didn't realize it was too high. In either case, it results in funds thinking that they will not be able to align you on a valuation they feel is fair for your stage. To avoid this, make sure to get a sense of what’s “normal” valuation-wise for your stage.
Over the years I’ve seen founders take numerous approaches to fundraising. While there are many who’ve successfully rallied angels there are just as many who focused on talking to leads first and then rounding out their raise with smaller checks only after they signed a term sheet.
The tranche strategy seems especially relevant today at a time when lead investors are often looking for greater signs of momentum before committing. You can build momentum by bringing on angels first.
Good luck, and let me know how it goes.
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- Julian
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