What is SAFE?
The SAFE (simple agreement for future equity) is intended to replace convertible notes in most cases, and they think it addresses many of the problems with convertible notes while preserving their flexibility. This definition is given by Y combinator. They also say making it more clear, they intend the SAFE to remain fair to both investors and founders.During its development the safe was positively reviewed by many of the top startup investors. Believing it’s a positive evolution of the convertible note and hope the startup community finds it an easier way to accomplish the same goals.
Some Features of SAFE:
- Not a debt instrument. Hence, maturity dates, are typically subject to certain regulations, create the threat of insolvency.
- The money invested in a startup through a safe and is not a loan, it will not accrue interest.
- Startups and investors will usually only have to negotiate one item: the valuation cap.
- Startups can close with investors as soon as both parties are ready, instead of trying to coordinate a single close with all investors simultaneously.
The basic principle of SAFE is that funds are invested in the company in exchange for a future right to receive equity in the company as part of the next equity round in which the company issues preferred stock, and at a discounted price to the price per share of such financing round.
SAFEs typically provide for a 15-20% discount off the round price and may or may not include a valuation cap for conversion.
An investor investing through SAFEs will not be a shareholder of the company until conversion and, accordingly, such an investor generally does not have voting rights, and other investor rights and protections listed above which are typically negotiated as part of the equity round.
Moreover, the deferral of the discussion on valuation enables the company to progress its business and seek a higher valuation in the equity round, thereby reducing founder dilution.
Particularly the core terms of the discount percentage and whether a cap on valuation applies, SAFEs are similar to CLAs (convertible loan agreements), which are still widely used in early stages to raise financing swiftly without the need to negotiate detailed investment terms and in later stages to provide bridge financing to a company where more time is needed to complete a round.
It is a simple 4-5 page document. Generally, the only right the investor will have is to receive preferred stock in the next financing round of the company. In the unlikely scenario that an exit transaction occurs prior to such a round, the SAFE can be converted into ordinary shares or repaid in cash, as elected by the SAFE holder.
If the company has not been successful and ceases its operation, dissolves or enters into bankruptcy prior to conversion of the SAFE to equity, the SAFE holders are entitled to receive their investment back prior to any distribution to the company’s stockholders.
No interest results in amounts introduced by SAFE holders. Unlike CLAs, avoids being rushed into financing transactions on difficult terms or with difficult partners who could have a long term adverse impact on the company, including its initial investors.
A growing base of incubators, serial angel investors, “super angels,” crowdfunding managers and other private investors willing to enable founders to focus on developing the business rather than negotiating and monitoring compliance with complex legal terms.
With these helpful supporters, there is a lot of space for early stage companies to utilize SAFE and seek financing in the simplest form possible very soon in time or resources that would otherwise be needed.