What is a Simple Agreement for Future Equity (SAFE)?
This week’s question: What is a Simple Agreement for Future Equity (SAFE)?
Our answer: Originally created by Y Combinator in 2013, a Simple Agreement for Future Equity (SAFE) is a lightweight financing instrument that enables startups to raise money quickly by postponing the valuation and issuance of shares. SAFEs are essentially like fancy IOUs in that an investor wires your startup money and instead of getting stock today, they get the right to receive stock later at a predetermined discount when your company raises a priced round or experiences a liquidity event (e.g. an acquisition). A SAFE is also a very “simple” agreement in that it is only a few pages of largely boilerplate terms as compared to a priced round financing which entails multiple agreements and 100s of pages. As a result, SAFEs have become the dominant early stage financing instrument for pre-seed and even seed rounds among venture-backed startups because they’re inexpensive, fast, and founder-friendly when properly used and structured.
Key Considerations:
No Debt and No Interest. Because SAFEs aren’t loans, there’s no repayment obligation, accruing interest or maturity date. That means founders can focus on growth, not debt determined deadlines.
Tracking the Overhang Dilution Risk. Although SAFEs are very efficient, they can create major dilution surprises later if you don’t track the aggregate the accumulation of SAFEs, leading to what’s known as an overhang. As a result, it’s very important to maintain an accurate cap table to keep track of potential dilution if/when SAFEs convert.
Variations. The standard form of SAFE is what’s known as the Post-Money Valuation Cap SAFE, but there are multiple variations on the forms of SAFE using different valuation caps, discount rates, special rights (e.g. most favored nations clauses) and combinations thereof.
Stay Consistent. Rather than customizing SAFEs for each investor, it’s worthwhile to keep your form of SAFE consistent with aligned terms, valuation caps, discounts, etc to avoid ending up with investors holding drastically different economics and requiring you to track SAFEs with increasing complexity.
Why It Matters
For founders, SAFEs are a powerful tool to close early funding quickly without the friction and expense of a priced round. However, their simplicity can lead founders to get carried away and unfortunately miss the practical complexities that arise when issuing multiple variations of SAFEs, incurring overhang and/or giving overly investor-friendly terms which may erode your ownership and cause major cap table issues if you’re not tracking them. When SAFEs are used intentionally and strategically by following consistent terms and modeling dilution regularly, SAFEs are the cleanest path to bringing in early capital, buying time to prove traction and bridging to your next milestone without giving away more than you intend. You should always treat the SAFE as a tool, not an easy means of securing fundraising.
