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What is a SAFE (Simple Agreement for Future Equity)?

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The Daily Ledger · Markets

The round closed on a simple agreement for future equity, so no share price was set and the investors will convert when the company raises a priced round.

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Overview

A simple agreement for future equity, or SAFE, is a contract in which an investor pays a startup now and receives shares later, once the company sets a real share price by raising a priced round or being sold. It is not a loan: no interest, no repayment date. The contract's key number is the valuation cap, the highest company value the money will be converted at, and the cap decides how much of the company the investor ends up with. Divide the money by the cap: $500,000 on a $5 million cap is 10%.
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Overview

A SAFE is cash in the door today for stock nobody has put a price on yet. Founders like it because nothing must be repaid and no clock starts ticking, which beats a bank loan on both counts. Your backer is not a shareholder yet either, so there is no vote to hand over on day one. You are still parting with a slice of the business though, just without looking at the bill. Decide you want $1m and will give up 15% for it. That settles the single figure in the paperwork, the valuation cap, which is the ceiling your backer's stock is charged against. Split the cash by the percentage and you land at roughly $6.7m. The bill turns up at your first proper raise. 😎

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Detail

A simple agreement for future equity is a contract between a startup and an investor. The investor pays now and gets shares when the company next sets a share price, either by raising a priced round or by being sold. Until that happens the investor holds no shares and no vote, only the contract. A SAFE has no maturity date, so nothing forces that day to come. Startups use a SAFE because a brand-new company cannot be priced honestly: there is no revenue and no market price to check against, and arguing over a value costs months and legal fees. So the contract fixes one number instead, the valuation cap. The cap is the highest company value the money will be converted at, and the cap sets the investor's share: divide the money by the cap. $500,000 on a $5 million cap is 10%; $2.5 million is 50%; $5 million is the whole company. If the priced round values the company above the cap, the money still converts at the cap, so a $5 million cap against a $20 million round buys four times the shares that round investors get for the same money. That 10% belongs to this SAFE alone. Every later SAFE, every priced round and every option granted to staff creates more shares, and each one shrinks what the investor and the founders actually end up holding.
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Detail

A SAFE is an investor writing you a cheque today for shares you both agree to price down the road. No interest, no due date, one page. What you are really agreeing on is the valuation cap: the most the company will be valued at when that cheque turns into shares. The cheque divided by the cap is the slice you gave away. $1 million on a $10 million cap is 10%. If the following round prices you at $40 million, that backer comes in at $10 million regardless, quadruple the shares anyone else picks up with $1 million that day. Two things people miss. First, the cap is not what the company is worth. It is the price your earliest backer locked in, and the company can be worth far more or far less on the day. Second, that 10% is only this cheque. Take three more SAFEs, raise a priced round and set up an option pool, and each one carves off the same company, so what you keep lands well below 90%. No line on the paper forces a round or a sale to happen, because nothing in a SAFE expires. It sits in the drawer till a real round or a sale wakes it up. 😎

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Analogy

A car wash is reopening under new owners who have not set a price yet. You hand over $120 today, but instead of a price the slip carries a promise: you will pay whatever a wash costs once they decide, and never more than $10. They open at $8, and your $120 buys 15 washes. They open at $20, and the slip holds you to $10, so you get 12 washes while everyone else's $120 buys 6. A SAFE works in a similar way. The money goes in before the company has a share price, and the price is set later by the company's next funding round. The $10 on the slip works like the valuation cap: a ceiling on what the early money is charged. The comparison stops at the wash. The car wash owes you washes the moment you turn up. A SAFE owes shares only if a priced round or a sale actually happens. If neither ever does, the contract is all you hold.
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Analogy

Your mate's dry cleaner is opening back up and he has not decided what to charge for a shirt. You give him $80 and he writes on a card: no matter where he lands, you are never billed above $4 a shirt. He opens at $12. Everybody else hands over $80 and walks out with 6 shirts; you walk out with 20, because your card beats his board. That $4 plays the part of the valuation cap, an upper limit on what your cash is charged, full stop. Where the picture ends: your mate has to give you back a clean shirt the second you walk in. A business that took your cash on a SAFE hands over nothing until it prices a proper raise or gets bought. Until then, your card is a card. 😎
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AI explanations may contain errors · Not professional advice

Formal definition — The same term, explained the usual way

A simple agreement for future equity, commonly abbreviated to SAFE, is a contractual instrument under which an investor pays a company a fixed sum in exchange for the right to receive shares at a later date, contingent on a triggering event such as a priced equity financing, a change of control, or the dissolution of the company. It bears no interest, carries no maturity date and creates no obligation of repayment, and the number of shares issued on conversion is determined at that point by reference to a negotiated valuation cap or discount rather than to any price agreed at signing.

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