Seed is referred to the first stage in the development of a startup after the idea. It is important to realize this in order to identify the level of associate risk for an investor, this will allow to choose the best way to proceed.

In most of the cases at this point there will be no sales, just a prototype or idea of the product or service. There may be followers or even users of the product in a testing stage.

In practical terms, a startup in a Seed Stage will not count with audited financial reports, or enough assets that can be evaluated and offered as collateral, not even payment history with third parties or government (Taxes) to relay on. This generates an asymmetry on the information between the startup and the potential investor.

For this reasons the risk for the investor in this stage is very high. According to a study from J.C. Ruhnka and J.E. Young the risk can go up to 66% considering projects effectively financed. Because this is a early stage the investors will put every effort to figure out about 2 main aspects:

• That the problem the startup is working to fix is sufficiently relevant so the solution to the problem will be of value to a wide audience, ideally a global audience. This is even more relevant than the solution proposed.
• The Founder Team, their capabilities, their history (including the “financial health”), his curriculum and how the team members compliment themselves inside the team.

The money received at this stage, generally called Seed Money, Funding or Capital, in general will be used to generate a deep market research and for the development of the product. In the software industry it could be used for the development of a “beta version” or prototype.

Where is commonly found the Seed Money?

• Bank Loans in the name of the Founders or savings that they will contribute to the startup.
• Family, Friends and Fools (FFF) who will trust the Founders without having much knowledge on the business.
• Angel Investors and in some cases Venture Capitals.
• Government Subsidies generally known as Seed Capital.

Empirical data shows that, startups financed by and Angel Investor are less likely to fail than the ones funded by other means.

Santiago Henriquez C., Lawyer.

Picture: Stephen Radford (CC0)