SAFEs: Streamlining Early-Stage Startup Investments

In today’s fast-moving startup ecosystem, the Simple Agreement for Future Equity (SAFE) has reshaped how early-stage companies raise capital. Introduced by Y Combinator in 2013, SAFEs were created to simplify fundraising while balancing the needs of both founders and investors.

What Is a SAFE?

A SAFE is a financing instrument that gives investors the right to receive equity in a company at a future date when a specific triggering event occurs, typically a priced equity round. Unlike convertible notes, SAFEs are not debt instruments—they create no interest obligations or maturity dates.

Key Characteristics:

• Not debt (no interest accrual or maturity date)
• Converts to equity upon triggering events
• Standardized documentation with minimal negotiation points
• Typically includes valuation caps and/or discounts
• Designed for simplicity and speed

The SAFE represents a streamlined alternative to convertible notes, removing time-based elements while preserving the ability to defer valuation discussions until a later financing round.

How SAFEs Work

When an investor provides capital using a SAFE, the agreement outlines how that investment will convert to equity when certain events occur:

Conversion Triggers

SAFEs typically convert to equity upon:

• Equity Financing: When the company raises a qualified priced round (typically Series A)
• Liquidity Event: If the company is acquired or merges with another entity
• Dissolution Event: If the company shuts down (though investors rarely recover much in this scenario)

Unlike convertible notes, SAFEs have no fixed timeline—they can remain outstanding indefinitely until a triggering event occurs.

Key SAFE Provisions

Modern SAFEs typically include these important elements:

Valuation Cap

• Sets maximum company valuation for conversion purposes
• Rewards early investors if company value increases substantially
• Often the primary economic term negotiated in a SAFE

Discount Rate

• Provides percentage reduction off future round's share price
• Typically ranges from 10-25%
• May be used instead of or alongside a valuation cap

Pro-Rata Rights

• Gives investors the option to participate in future rounds
• Helps investors maintain their ownership percentage
• May be included in the SAFE or offered separately

MFN (Most Favored Nation) Provision

• Protects early SAFE holders if later SAFEs have better terms
• Automatically grants the most favorable terms to existing SAFE holders
• Encourages consistent term usage across SAFE rounds

Evolution of SAFEs

SAFEs have evolved significantly since their introduction:

Original (Pre-Money) SAFEs

• Conversion calculations based on pre-money valuation
• Created some dilution inconsistencies
• Widely used from 2013-2018

Post-Money SAFEs (Current Standard)

• Introduced by Y Combinator in 2018
• Conversion based on post-money valuation
• Provides clearer ownership outcomes for all parties
• Creates more predictable dilution calculations

The shift to post-money SAFEs represented a significant improvement in transparency, as investors and founders can now more easily calculate exact ownership percentages resulting from SAFE conversions.

Advantages of SAFEs

SAFEs offer compelling benefits that have driven their widespread adoption:

Simplified Process

• Standardized documents reduce legal complexity
• Fewer negotiation points than convertible notes
• Faster closing timeline, often days instead of weeks

Investor-Friendly Features

• Conversion rights protect investors in positive outcomes
• Caps and discounts reward early risk
• No complex interest calculations or maturity concerns

Founder Benefits

• No repayment obligation or accruing interest
• No maturity date creating financing pressure
• Cleaner cap table than convertible notes

Flexibility

• Works well for rolling closes (investors can sign at different times)
• Easy to adjust amounts as investment commitments change
• Compatible with crowdfunding and traditional investment

Potential Drawbacks

Despite their advantages, SAFEs present some considerations:

Perpetual Outstanding Status

• No maturity date means SAFEs could remain unconverted indefinitely
• Investors have no mechanism to force liquidity
• May create uncertain cap table projections

Accounting Complexity

• Classification on financial statements can be challenging
• Requires careful tracking as potential dilution
• May confuse unsophisticated investors

Potential Dilution Surprises

• Multiple SAFEs at different caps can create significant dilution
• Complex conversion math may yield unexpected outcomes
• Early employees may face more dilution than anticipated

When to Use SAFEs

SAFEs are particularly well-suited for:

Pre-Seed and Seed Rounds

• When company valuation is difficult to determine
• For raising smaller amounts efficiently ($50,000-$3 million range)
• When speed of closing is essential

Angel Investors

• Individual investors familiar with startup investment terms
• Investors who don't require board seats or extensive rights
• Those comfortable with indefinite holding periods

Rolling Fundraising

• When raising money continuously rather than in a defined close
• Accommodating investors who come in at different times
• Maintaining consistent terms across multiple investments

Key Terms to Negotiate

While SAFEs are designed to minimize negotiation, these elements merit attention:

Valuation Cap

• Most important economic term
• Should reflect reasonable growth expectations
• Typically 2-3x the implied valuation at time of investment

Discount Rate

• Standard range is 10-25%
• Consider investor relationship and timing
• May be less important when a cap is present

Pro-Rata Rights

• Determine whether investors can maintain ownership percentage
• Consider impact on future rounds
• May be more important for strategic investors

MFN Clauses

• Decide whether to include protection for early investors
• Consider implications for future SAFE issuances
• Balance investor protection with fundraising flexibility

Best Practices for Implementation

To maximize the effectiveness of SAFE financing:

1. Use Standard Documentation

• Start with Y Combinator's templates when possible
• Make minimal modifications to maintain simplicity
• Clearly document any necessary customizations

2. Maintain Clear Cap Table Models

• Track all outstanding SAFEs and their terms
• Model conversion scenarios at different valuation points
• Understand dilution implications before each new issuance

3. Communicate Clearly with Investors

• Ensure investors understand the post-money structure
• Explain the absence of maturity dates and interest
• Set appropriate expectations about timing of conversion

4. Plan for Conversion Mechanics

• Develop processes for notifying SAFE holders of triggering events
• Prepare documentation for conversion calculations
• Consider engaging experienced counsel for complex conversions

Looking Ahead

As your company grows, preparing for SAFE conversions becomes increasingly important:

• Consider how converted SAFEs will affect your cap table
• Plan for potential discussions with priced round investors
• Maintain transparent communication with all stakeholders

SAFEs have fundamentally changed early-stage fundraising by offering a streamlined, founder-friendly instrument that still provides appropriate investor protections. When used thoughtfully, they can help startups raise necessary capital efficiently while creating alignment between founders and investors.

Need guidance on implementing SAFEs for your startup? Our team can help you structure terms that protect your interests while attracting investment and positioning your company for future growth. Contact us today to discuss your specific situation.