Simple Agreement for Future Equity (SAFE)

Weighing up your fundraising options as an early-stage founder can be overwhelming, but there’s one solution that stands out for its simplicity: the SAFE agreement. 

What is a SAFE agreement?

A SAFE (Simple Agreement for Future Equity) is a legal contract between a startup and an investor that allows the investor to purchase equity in the company at a future date, typically during the company’s next priced round or during a liquidity event.

SAFEs were first developed by Y Combinator, a leading startup accelerator, in 2013 as an alternative to convertible loan notes (CLNs) or convertible notes. A SAFE agreement is a type of convertible instrument; however, unlike debt instruments, SAFEs do not accrue interest or have a maturity date, making them an attractive fundraising option for early-stage startups.

How does a SAFE investment work?

Investors have the right to convert their SAFE investment into company shares when a pre-agreed trigger event occurs, such as a priced round. Key terms like a valuation cap or discount rate ensure that investors get shares at a favourable price when this conversion happens.

SAFEs are flexible, since they don’t accrue interest or have a maturity date, which makes them more appealing than CLNs for startups that want to avoid debt or immediate shareholder obligations. Until the SAFE converts, investors have no voting rights or ownership in the company. Once a trigger event occurs, the SAFE converts into equity based on the agreed terms, allowing SAFE investors to receive shares at a lower price per share than future investors.

Pre-money vs. post-money SAFEs

Companies can issue pre-money or post-money SAFEs. The key difference between these options is whether or not the agreement is based on a fixed ownership percentage for investors.

Pre-money SAFEs do not set a fixed ownership percentage for the investor and are therefore more “founder-friendly”. These instruments convert into equity before considering new investments, which makes it difficult to determine an investor’s final ownership percentage until after a priced round.

Post-money SAFEs, on the other hand, lock in an investor's ownership percentage upfront, providing more clarity for both the company and its investors. However, post-money SAFEs tend to cause more dilution for founders in future rounds, making them more “investor-friendly”.

What’s the difference between a SAFE and a priced round?

Compared to priced equity, SAFEs can be a fast and effective way to raise pre-seed or seed funding. A company’s valuation and the type of equity exchanged for investment set SAFEs apart from priced rounds.

Company valuations

During a priced round, such as a Series A round, an investor provides funding based on a negotiated valuation of the company. By contrast, fundraising through SAFEs does not rely on a valuation. This is useful for very early-stage companies that don’t yet have a market value. A priced round is therefore more structured, while SAFEs are typically more flexible.

Equity type

In a priced funding round, investors receive equity in exchange for the money they invest in a startup. When fundraising with SAFEs, however, investors don’t receive equity immediately; instead, they have the right to subscribe to company shares (typically preferred shares) in the future.

What’s the difference between a SAFE and a convertible note?

There are two key differences between SAFEs and CLNs: debt and conversion circumstances.

Debt

A CLN is a type of convertible security that converts into equity at a future date. Unlike a SAFE, a CLN is a debt instrument, which means it comes with an interest rate and a maturity date (also known as an expiration date). A SAFE does not have an interest rate or a maturity date, but it typically includes a valuation cap, a conversion discount or both. These features help to protect investors when financing an unproven business.

Conversion

Another difference between SAFEs and CLNs is the conditions surrounding their conversion into equity. While SAFEs convert into shares during the next priced round, no matter how much money the company raises, CLNs typically require a certain amount of capital to be raised in a priced round (e.g. £1 million) before they can convert. 

When do startups prefer SAFEs?

Fundraising with SAFEs may be the right choice if your company:

1. Does not have a set market valuation

2. Does not want to issue preferred shares

3. Wants a fast, flexible way to close a funding round

When an early-stage company does not have a set valuation, or when a founder does not want to give early investors preferred shares in exchange for capital, raising an unpriced round can be a sensible choice. SAFEs and other convertible securities – such as CLNs and Advance Subscription Agreements (ASAs) – offer more flexibility and control if you’re still figuring out where your company is headed.

The key SAFE terms you need to know

Having an understanding of the below concepts is critical to successfully fundraising with SAFEs: 

Valuation cap

A valuation cap is the maximum company valuation (for the purpose of determining the price per share) at which an investment will convert into equity during the next priced round. SAFEs can be issued with valuation caps to reward early investors for taking a risk on your company in its infancy. 

If the company’s valuation in its first priced round is higher than the valuation cap of a SAFE, the SAFE will convert into equity at a lower price per share than the price paid by non-SAFE investors in the priced round. 

Discount price (conversion discount)

The discount price, often called a conversion discount, entitles investors to a reduced price per share when their SAFE converts into equity. If, for example, Series A investors pay £1 per share during a priced funding round, a SAFE holder with a conversion discount could purchase their equity for £0.80 per share. 

If a SAFE has a valuation cap and a conversion discount, the investor can typically take advantage of whichever option results in the lowest conversion price per share. 

Most Favoured Nation clause

The Most Favoured Nation (MFN) clause, which sometimes appears in legal documents detailing the terms of a SAFE, is designed to protect investors.

The inclusion of an MFN clause typically ensures that, if you issue additional convertible securities to future investors with more favourable investor rights (such as a lower valuation cap), those terms will retrospectively apply to earlier investors’ SAFEs as well. However, once a SAFE converts into shares, the MFN clause no longer applies. 

Qualifying funding round

Otherwise known as a qualifying event or qualifying transaction, a qualifying funding round is the priced round during which a SAFE converts into equity. For early-stage companies fundraising with SAFEs, the first priced round will typically be a qualifying event. 

Exit event

An exit event refers to the sale or change in control of a company. This could be an IPO, merger, acquisition or liquidity event. If an exit event occurs before any SAFEs have converted into equity, investors holding SAFEs will receive cash proceeds in amounts proportional to their individual investment terms.

Four factors to consider before issuing a SAFE

Before you begin fundraising with SAFEs, take some time to reflect on your company’s goals and equity distribution plan. Answering the following questions will give you a better idea of whether or not SAFEs are a good funding option for your company.

1. How much of your company’s equity do you plan to give up?

The more investors you add to your cap table and the more money you raise using SAFEs, the more your stake as a founder will be diluted. It can be difficult to know how much equity you’re giving away when you issue a SAFE, as you’re not actually issuing a specific number of shares upfront. 

However, it’s important to understand the potential impact on your cap table when the SAFE converts into equity. Here at Carta, we’ve created a free convertible securities calculator to help you with these estimates.

2. How much money do you want to raise in your next priced round?

You may not be able to predict exactly how much money you’ll raise during a future financing round, but you should have a clear idea of your fundraising goals. 

If you raise too much money through SAFEs, you could end up over-diluting priced round investors when the SAFEs convert into equity. Saving a certain amount of equity for your next priced round can help you incentivise future investors. 

3. What milestones do you want to reach?

During your seed round, you’ll want to raise enough money to reach the specific milestones that will increase your company valuation, setting you up for a successful Series A round and beyond. For instance, you might be aiming to hit a revenue goal, launch a product within a certain timeframe or attract a top-tier investor. 

Defining your milestones helps you set more realistic fundraising goals, so you can raise enough money to grow your company while avoiding unnecessary dilution.

4. How will you track your SAFE investments?

A common mistake many founders make is neglecting to properly document outstanding securities. Each SAFE you issue might have a different valuation cap or conversion discount, and if you don’t keep track of these details you could end up diluting your ownership stake more than you intended to. 

Staying on top of your company’s unpriced and priced investments doesn’t have to be complicated. Carta’s cap table management software allows you to track company ownership easily and accurately by maintaining a single source of truth.

Advantages and disadvantages of fundraising with SAFEs

As with any fundraising method, there are both benefits and drawbacks to using SAFEs to raise venture capital.