How to Structure an Investment Round for Your Crypto Startup

Structuring an investment round for a crypto startup is a key part of the company’s growth process; it involves a series of steps and strategic evaluations to raise funds and to ensure the long-term solidity of the business. A first key element of this process is the definition of objectives , to clarify growth and development goals. Then you need to do a pre-money valuation to determine the value of the shares to be transferred to investors. Each investment round involves transferring a percentage of the company to investors, so the timing of the fundraise is crucial. Finding the right investors, such as business angels and venture capital , is also important. Finally, preparing a pitch and marketing strategies can increase the visibility of the startup and make the investment process smoother.

Key Points

• Define clear investment objectives to align with your startup’s vision and communicate them to investors.
• Do a pre-money valuation considering the team, technology, and market traction to determine a fair equity offer.
• Choose the right investment round based on your startup’s growth stage and funding needs, while being compliant with regulations.
• Find the right investors, focusing on those with experience in the crypto space and whose values align with your startup’s values and vision.

Introduction

The first step is to create a pitch that highlights the company’s unique value proposition, traction, and long-term growth potential to attract investor interest. In the case of crypto startups,, understanding the importance of an investment round, is key to getting the resources the company needs to grow and develop. The peculiarities of fundraising, in the Web3 space require a strategic approach, considering the different funding methods available, from leveraging a token offering to venture capital and the existing regulations around it. So entrepreneurs in the crypto space need to not only find the right funding sources but also to understand the legal complexity of investment. In this context, ICOs and STOs have become more and more popular ways to raise funds.

Peculiarities of fundraising in the Web3 industry

Fundraising in the Web3 space has its peculiarities. In particular, understanding tokenomics and business models and community growth is key to attracting investors. Concrete fundraising options are many; a startup can go to venture capital, use crowdfunding platforms, ask for blockchain grants (usually from foundations), but the regulation around these different forms of financing and the competition requires the startup to have a clear strategy.

Types of Investors and Rounds

In these contexts, different “types” of investors can be involved and play a key role in the investment round, including Venture Capitalists, Angel Investors, and DAO (Decentralized Autonomous Organization) Investors. Each investment round, from Pre-seed and Seed to Series A and beyond, presents unique opportunities and challenges that require a deep understanding of financing structures and the type of investor for the investment round. Moreover, differentiating between equity and token-based fundraising is key to aligning investor expectations and being compliant with regulations. To increase the chances of closing the investment round, it would be wise to find investors familiar with the space your startup operates in.

Venture Capital, Angel Investor, DAO Investor

The startup financing landscape has many “types” of investors, including Venture Capitalists (VC), Angel Investors (AI), and Decentralized Autonomous Organization (DAO) Investors, each of whom can play a key role in the capital raising process.

• Venture Capitalists (VC): Invest large sums in mature startups with high growth potential. Venture capitalists invest in these companies for equity.
• Angel Investors (AI): High net worth individuals who provide personal capital to newly established startups, often to enrich the company through experience and connections.
• DAO Investors: Participate in financing through decentralized organizations, using blockchain technology for decision-making.
• Equity Crowdfunding: Allows small investors to buy shares/equity, democratizing access to investment.
• Accelerators and Incubators: Provide funding and support, taking equity in exchange for resources provided to the company for further growth.

Understanding these differences is key for startups looking for the right financing strategy.

Pre-seed, Seed, Series A, and Beyond

In the startup financing landscape , companies should be able to understand the differences between the various stages or funding rounds , which can be referred to as pre-seed, seed, Series A , and beyond.

Pre-seed Funding typically involves personal investments from founders, friends, or family, to develop a Minimum Viable Product (MVP). This phase uses financing instruments such as SAFE agreements or convertible notes to do initial feasibility assessments.

Seed Funding marks the first formal round, attracting angel investors and venture capitalists, with investments ranging from hundreds of thousands to millions of dollars. At this point, the company should have an MVP, initial traction, and a solid understanding of the market to attract investments.

Series A Funding focuses on the fast and explosive growth of the company, typically a round led by venture capitalists, where the company should have a solid business plan.

Subsequent rounds, such as Series B, are for established startups looking to expand the market, often with larger investments and institutional investors.

Equity vs Token Based Fundraising

What are the differences between equity-based fundraising and token-based fundraising? The main differences are in the object of the investment agreement, company valuation, applicable regulation, type of investor for the round, and investment risk profile with consequent guarantees required by the investor.

• Object of the Investment Agreement: Equity represents an ownership stake in the startup, while tokens are assets within the ecosystem.
• Valuation: Equity is valued through traditional methods, while tokens have more complex valuations as the market value of tokens can be far from their intrinsic value.
• Regulation: Equity is subject to classic regulations, while tokens have specific local regulations.
• Investors: Equity investors come from traditional backgrounds, while token investors are attracted to blockchain technology.
• Risks: Equity investments are more stable, while tokens are more volatile.

Legal Instruments for Fundraising

Regarding the concrete techniques for fundraising, a startup may choose to use various legal instruments such as SAFE (Simple Agreement for Future Equity), convertible notes, and traditional equity investments. These instruments require careful legal review to ensure compliance with applicable regulations and to avoid potential pitfalls of misapplication of the law. Understanding the nuances of each option is key for founders to optimize their fundraising strategy.

SAFE, Convertible Notes, Traditional Instruments

Among the most common legal instruments for structuring an investment round are:

• SAFE: Agreement for future purchase of shares, interest-free and short-term.
• Convertible Notes: Debt instruments convertible into shares, with uncertain valuation and discount to protect investors.
• Bank Financing: Requires guarantees and is difficult for startups.
• Priced Rounds: Financing with immediate valuation, often costly to negotiate.
• Crowdfunding: Raising funds through online platforms.

The choice between these instruments can impact valuation, dilution, and relationships with investors, so a careful evaluation of the options is essential.

In the context of cryptocurrency fundraising, the discussion around SAFT (Simple Agreement for Future Tokens) and token warrants, both legal instruments that have gained popularity as alternatives to traditional financing instruments like SAFE and convertible notes. Both mechanisms allow for investments in the form of future token allocations but have different legal implications and operational frameworks that need to be considered.

SAFT (Simple Agreement for Future Tokens) and Token Warrants

Fundraising mechanisms within the cryptocurrency space often involve new financial instruments, including the Simple Agreement for Future Tokens (SAFT) and token warrants. These instruments serve different purposes and meet different design needs.

• SAFT: Facilitates financing by promising future token delivery, ideal for early-stage projects.
• Token Warrant: Grants the right to purchase tokens at a set price, offering flexibility to investors. Token warrants can be an attractive offer for both projects and investors as they allow investors to buy tokens at a potentially lower price.
• Obligations: SAFTs guarantee token delivery, while token warrants offer an option without obligation.
• Risks and Rewards: SAFTs may involve higher risks but potentially greater rewards, versus token warrants which have lower risk and lower reward.
• Regulatory Considerations: Both require careful handling of legal obligations to comply with financial regulations.

Companies must consider the regulations around financial instruments, anti-money laundering, data protection, and taxation to ensure the investment is legal.

Regulatory Compliance: What Regulations to Consider?

In the context of regulatory compliance for startups in the cryptocurrency space, there are multiple regulations that vary globally. Startups must navigate a complex regulatory landscape, taking into account many factors.

• Regulations and regulatory bodies: MiCA Regulation, SEC, CFTC, FCA.
• Cryptocurrency Classification: Securities vs Commodities.
• AML/KYC Requirements: Fundamental to prevent illicit activities.
• National Regulations: Significant differences between countries.
• Regulatory Evolution: Need to monitor constantly to ensure compliance aligns with KYC and AML rules.

These require a strategic approach, including legal advice and adaptation to local regulations to ensure long-term compliance.

Investment Offer Structure

The startup valuation is a key element in the investment offer structure, as it determines the economic value of the company before the token issuance. This valuation can impact investors' decisions as an adequate financial analysis, target market, and resources available are crucial to set a fair price. So startups must present a solid justification of their valuation, backed by data and market analysis to attract significant and sustainable investments.

Determining the Startup Valuation

Determining the valuation of a startup is a critical step in the investment process, as it affects both the perception of potential investors and the overall investment offer. There are several ways to value a startup, including:

• Income-based methods projecting future cash flows.
• Comparative methods using industry benchmarks.
• Cost-based methods evaluating asset values.
• The Berkus method, for pre-revenue startups.
• The Scorecard method, adjusting valuations based on risk factors. A common approach, Discounted Cash Flow, is based on projecting future cash flows discounted to the present.

Accurate valuations are important not only for informed investment decisions but also for negotiating with potential investors and compliance with regulations. So a deep understanding of these is key to successful fundraising in the crypto space.

Equity vs Tokenomics

The allocation of funds between equity and tokenomics is a crucial part of the investment strategy of startups in the cryptocurrency sector. This allocation is key to the sustainability of the project. Below are some key concepts and elements that a crypto startup looking for investments should consider and define before starting the round:

• Tokenomics: Study of the economic models behind a token.
• Importance of Tokenomics: Vital for informed investment decisions, as tokenomics gives insight into a token’s value proposition.
• Equity vs Tokenomics: Different allocation modes than traditional companies.
• Investment Structure: Includes stages such as pre-seed, seed, and token sale.
• Advantages of Tokenomics: Incentivizes user behavior and supports sustainability.

Understanding these allows investors to better evaluate opportunities and risks in the dynamic crypto landscape, and on the other hand, a clear definition of the above elements and the use of data and information by the startup about these elements could satisfy investor demands and close the investment round.

Vesting and Lock-Up for Founders and Investors

Vesting and lock-up are key tools in the context of investments in crypto startups, as they ensure the project’s long-term stability and sustainability. These mechanisms are important for managing the distribution of tokens, to maintain investor trust and prevent speculative behavior.

The main aspects of vesting and lock-up are:

• Clear Definition of Terms: When and how tokens will be released.
• Incentives for the Team: Motivate founders and investors to stay active. Vesting also offers a way to ensure the development team is motivated to work for the project’s long-term success.: Motivare i fondatori e gli investitori a rimanere attivi. Inoltre, il processo di vesting offre un modo per garantire che il team di sviluppo sia incentivato a lavorare per il successo a lungo termine del progetto.
• Risk Mitigation: Reduce the chance of project abandonment.
• Transparency: Publish plans in whitepapers.
• Risk Mitigation: Flexibility: Adapt plans to project needs.

In the context of an investment round for a crypto company, if the investment agreement also involves the company’s tokens, the elements of vesting and lock-up should be carefully considered by the startup as they will impact investors’ rights on the tokens.

Regulatory Aspects and Compliance

The regulation of cryptocurrencies is changing globally, with the MiCA Regulation in Europe setting strict requirements for transparency and authorization of crypto-asset operators. In the US, the SEC is still the main authority defining the regulatory framework, imposing registration and compliance requirements that can affect crypto startups.

MiCA Regulation in Europe

The MiCA regulation is a game changer for the regulatory landscape of crypto-assets in Europe, providing a structured framework to ensure security and transparency in the cryptocurrency market. This regulation introduces several obligations and requirements that startups should consider:

• Definition and Purpose: Regulate crypto-assets to promote innovation and protection of token buyers.
• Categories of Crypto-Assets: Classification into asset-referenced tokens, e-money tokens, and other crypto-assets.
• License Requirements: License for service providers wanting to offer token services in Europe.
• Transparency and Security: Obligation to publish an approved white paper or at least notify the competent authority before token issuance.

SEC and US Regulation

In the context of crypto-asset regulation, the United States Securities and Exchange Commission (SEC) is the main authority outlining the guidelines that startups and companies must follow to comply with securities regulations. The SEC applies the Howey test to determine whether a digital asset is classifiable as a security token, requiring registration or exemptions for Initial Coin Offerings (ICOs). The Commission has also taken legal actions, such as in the case of Ripple, to enforce existing regulations. Although the SEC provides guidance to help companies classify their tokens, such guidance is often unclear, creating uncertainty in the industry. ICOs must comply with federal securities laws, including registration and disclosure requirements.

Other Relevant Regulatory Frameworks

Some relevant regulatory frameworks for crypto-assets are a set of regulations and directives to establish compliance standards at European and global levels. These frameworks are key to stability and investor protection in the sector and outline the responsibilities of crypto startups. Among the main regulatory aspects to consider:

• MiFID II: Financial transparency regulation.
• GDPR: Personal data protection.
• AML: Anti-money laundering regulations for identity verification.
• DORA: regulation on cybersecurity frameworks
• FSB Recommendations: Promotion of coherent global regulation.

Investor Due Diligence

A thorough due diligence is essential to protect the interests of investors investing in a crypto startup. This involves close attention to legal and contractual aspects, compliance with regulations, and a full audit of technical and security protocols to ensure the underlying technology is sound. Crypto startups should expect investors to analyze and evaluate the tokenomics and sustainability of the project to assess its long-term viability and growth potential in the sector.

Legal and Contractual Aspects to Consider

Due diligence is a key step in the evaluation process of a startup in the cryptocurrency space, as it allows for the identification and analysis of legal and contractual aspects that can impact the investor’s decision. A startup should be aware that due diligence will cover at least:

• Cryptocurrency Regulation: Understanding the specific regulations applicable to the company’s tokens to check for potential breaches.
• Contracts and Agreements: Review of the terms and conditions and agreements with third parties of the startup to check existing obligations that can affect the company’s performance.
• Tax Implications: Considerations on the tax aspects of the investment.

These legal aspects are key to mitigate risks and have an informed view of the startup.

Technical Audit and Protocol Security

A technical and security audit of the protocol is a key part of the due diligence process for investors in the cryptocurrency space, as it provides an in-depth analysis of vulnerabilities and potential threats that could compromise the project. This process includes several phases, such as planning and scoping, which define the objectives and scope, followed by documentation preparation and the audit itself, which combines automated tests and manual code review. Tools like Slither allow for effective code analysis and provide an accurate view of the protocol's security. An audit can also identify and fix potential security issues that could impact the project.

Tokenomics and Project Sustainability Verification

An in-depth analysis of tokenomics and project sustainability is a key aspect for investors during due diligence, as it provides information on the economic structures and operational dynamics that can affect the token’s value and longevity.

In this regard, a crypto startup should evaluate and define the following tokenomics elements:

• Maximum Supply: Determine the token’s scarcity.
• Token Distribution: Analyze how they are distributed among various stakeholders.
• Economic Model: Evaluate the ability to generate sustainable revenues.
• Inflation and Deflation: Define how the token’s market value fluctuations are managed.
• Community Participation: Consider user engagement in the project. A well-structured tokenomics model not only builds investor trust but also the foundation for a growing ecosystem.

These elements give a clear view of the project’s health and long-term prospects.

Having a good pitch and providing clear and concise information on the above elements is key to getting the investment. Also, having detailed documentation, including business plans and answers to questions about the business model, allows for setting the right value for the shares to be transferred (or tokens) and ensures transparency and trust between investors and founders.

Closing the Round and Next Steps

The investment round closing is a key moment for the crypto startup, where contracts need to be drafted and agreements signed with the involved investors. It’s essential to have a post-investment strategy that includes a prudent management of the raised capitaland a detailed roadmap for the future projects. Also, effective and professional communication and public relations activities are key to maintaining transparency and trust between investors and the startup and ensuring a solid base for long-term growth.

Contracts and Agreements

Drafting contracts and signing agreements is an essential step in closing an investment round, as it sets the legal and operational framework for the collaboration between the startup and investors. During this phase, consider:

• Types of Contracts: Clarify specific clauses to protect both parties' interests.
• Letter of Intent (LOI): Formalize the investment intention, including valuation.
• Term Sheet: Define the terms of the investment, such as the participation share.
• Protection Clauses: Ensure liquidation preference is present.
• Digital Signature: Use digital signatures to make the process more effective and secure.

Post-Investment Strategy: Capital Management and Roadmap

To maximize the value of the capital raised during an investment round, it’s essential to have a well-defined post-investment strategythat not only manages the financial resources but also outlines a clear roadmap for the future. First and foremost, assess the available capital and plan resource allocation, creating a detailed financial plan to achieve specific business objectives. Also, risk management is key; identify potential threats and set performance metrics. Finally, a periodic review of the capital management strategy and definition of measurable objectives will ensure alignment with market conditions and investor expectations.

Communication and PR After Fundraising

Post-fundraising communication is key for the long-term success of a startup, especially after closing an investment round, as it allows for managing relationships with investors, supporters, and the community. The startup must define clear communication objectives that not only outline what to communicate but also how to communicate.

Conclusion

We conclude the discussion on investment rounds for crypto startups with some best practices and common mistakes to avoid.

Best Practices for Fundraising

Fundraising in the cryptocurrency space requires a strategic and well-planned approach that combines several elements to raise funds and build a long-term reputation. Startups must clearly define their mission and vision as these will attract investors and align the team and community around common goals. Also, understanding the types of crypto fundraising will help startups to choose the right strategy for their needs.

The following are key to successful fundraising:

• Define the mission and vision
• Determine funding needs
• Identify the target audience
• Create a communication plan
• Develop a sustainable business model

By following these best practices, startups will be well positioned in the cryptocurrency market.

Common Mistakes to Avoid

Common mistakes in crypto startup fundraising can compromise not only the ability to raise capital but also investor trust and corporate reputation. Startups must recognize and address these issues to increase their chances of success. Among the main mistakes, the lack of transparency in communications and underestimating the costs of fundraising stand out. Also, poor management of investor relations, inadequate strategic planning, and inadequate market evaluation can harm the process. Finally, not considering local regulations and fundraising alternatives like IEO and IDO can lead to legal and reputational issues.