When the SAFE (Simple Agreement for Future Equity) was created, it was intended to simplify the process of early-stage startup fundraising. Basically, it’s an agreement in which an investor gives you money for your company now, with the expectation that you’ll convert that amount of money into shares of stock later on. That means that SAFEs usually require much less paperwork and negotiation than issuing shares of stock right away. However, for many founders, it can still be overwhelming to understand how SAFEs work—especially when it comes to the differences between pre-money and post-money SAFEs.
In this article, we’ll discuss the differences between pre-money and post-money SAFEs at a foundational level so that you can enter your fundraise with the confidence to ask informed, productive questions to your advisory team.
The most common mistake founders make with SAFEs
Here at Carta, one of the biggest mistakes we hear early-stage founders say they make is assuming that pre-money and post-money SAFEs are interchangeable. When negotiating with investors, they focus on details like valuation caps and conversion discounts first, and then let their investors decide whether the SAFE is going to be pre-money or post-money.
Unfortunately, making decisions in this order can have a real impact on your equity ownership percentage and dilution over time. That’s why we think it’s smart to reverse the order of this discussion—talk with your investors about pre-money and post-money first, and then discuss other details like valuation caps and conversion discounts.
In order to understand why this is important, you’ll need to know the high-level ways that pre-money SAFEs and post-money SAFEs differ. Before diving in, it may be helpful to build some foundational knowledge by reading the below articles:
- Fundraising with SAFEs: Everything you need to know
- What is stock dilution?
- Convertible notes and SAFEs vs. priced rounds
How pre-money SAFEs work
You’re raising a seed round. You accept money from several investors via SAFE agreements. This means you’re not giving those investors any shares of your company yet, because your company doesn’t have an official valuation yet.
What you are giving your investors is a promise that they’ll receive shares at a later date. Typically, this happens when you raise your first priced round (like a Series A), and convert their SAFE investment into shares.
Pre-money SAFEs: The investor’s perspective
Let’s pretend for a moment that you’re one of those investors.
Right now, there’s a good deal of uncertainty in your life. You know you’ll receive shares of this company at some point in the future, but how can you assess what percentage of the company you own compared to the founding team, and all the other SAFE investors in this round?
Unfortunately, with a pre-money SAFE, there’s no way to know (yet).
The only way to learn how your ownership percentage compares to the founders and other SAFE investors is to wait and see how the math plays out in the future, when the company raises its first priced round.
When that happens, and the Series A funds hit the company’s bank account, it will cause your SAFE agreement to convert into shares, right along with all the other SAFE agreements. In this moment, each of the various SAFEs will mathematically affect each other–and when the dust settles, everyone will finally know exactly what percentage of the company they own.
In other words: With a pre-money SAFE, founders and investors have to “wait and see” in order to understand how their ownership percentage compares with the other investors in this round.
At a foundational level, this is the key difference between pre-money SAFEs and post-money SAFEs.
How post-money SAFEs work
With a post-money SAFE, an investor gives you money and effectively “locks in” the percentage of your company that they’ll own at the moment you convert their SAFE into shares.
Let’s say an investor gives you 1 million dollars on a post-money SAFE. The valuation cap on this SAFE is $10 million.
$1 million investment / $10 million valuation cap = 10%
Because it’s a post-money SAFE, the investor has effectively “locked in” a 10 percent ownership in your company. When their SAFE converts into shares at the beginning of the Series A, that’s the exact percentage of the company they’re going to start with.
This scenario is nice for investors, because it gives them a lot of clarity. With a post-money SAFE, everyone is perfectly clear from the very beginning about what their ownership percentage will be when the Series A begins.
However, as a founder, there’s an extra ingredient you may want to keep in mind: dilution.
The catch with post-money SAFEs
As a founder, post-money SAFEs put you at greater risk of having your ownership percentage diluted in the future, when you raise your first priced round.
This is precisely because by using a post-money SAFE, you’re effectively “locking in” your investors’ percentages–which means that when you raise your Series A, and convert all of the SAFE agreements into shares, none of them will mathematically affect each other. Their percentages will stay locked and fixed, no matter how many other SAFE investors are involved in the round.
This means that when the Series A begins, none of the SAFE investors will dilute each other’s ownership percentages. Instead, they’ll only dilute you, the founder.
At that point, the Series A investors will enter the picture, and the entire group (you and the SAFE investors) will be diluted by this new batch of participants.
Investors typically favor the post-money SAFE
Naturally, investors tend to favor the post-money version, because while it doesn’t give them total certainty, it does give them more certainty than the pre-money SAFE does. It also simplifies things for them–if the valuation cap on their SAFE amounts to 5 percent, then they know they will own 5 percent of the company at the moment their shares convert.
This is why investors have helped to popularize the post-money SAFE over the years. Truth be told, at the end of the day, post-money SAFEs do usually work out to be more favorable for investors than founders.
However, there are definitely benefits for founders as well. Depending on your circumstances, it can be helpful to know exactly what percentage of your company you’re giving away today. It also make negotiating with investors faster, simpler, and more transparent.
On the other hand, depending on how you’re planning to grow your company, a pre-money SAFE might actually be more friendly for you, as it could result in less dilution down the line.
Decide pre-money vs. post-money first
Here at Carta, we have a free, easy-to-use SAFE calculator that allows you to model out your SAFEs and convertible notes, so that you know exactly what you’re getting into before you sign on the dotted line.
When negotiating with investors, we recommend talking to your investors about pre-money or post-money first, and then negotiating the other elements of the agreement. That way, you can enter your next chapter with all the necessary information to make the right decision for your business.
At Carta, we help startups with fundraising, compensation, valuations, equity management and much more. Talk to us to find out how we can help you grow.