If you`re involved in start-ups, you`ve probably heard the term “safe.” Y Combinator launched a simple agreement for future equity, better known as SAFE, in 2013 as an inexpensive, simple and fast way for start-ups to raise capital. While FASAs have not become as popular in Canada as they are south of the border, they are developing as an alternative to more traditional forms of early financing, such as convertible bonds or preferred shares. 1. Fixed conversion at a future date: the investor invests a certain amount of money and the company imposes a certain percentage of equity on the investor. Unlike debt, an iSAFE note is an alternative convertible bond and eliminates valuation complications. For example, equity is distributed to iSAFE bondholders during the equity price series after the startup has achieved stability. The exact conditions of a SAFE vary. However, the basic mechanics are that the investor makes available to the company a certain amount of financing at the time of signing. In return, the investor will later receive shares in the company in connection with specific contractual liquidity events. The main trigger is usually the sale of preferred shares by the company, usually as part of a future fundraising cycle. Unlike direct equity acquisition, shares are not valued at the time of SAFE signing. Instead, investors and the company negotiate the mechanism with which future shares will be issued and defer actual valuation. These conditions generally include an entity valuation cap and/or a discount on the valuation of the shares at the time of triggering.
In this way, the SAFE investor participates above the company between the signing of safe (and the financing provided) and the triggering event. The faster conclusion of transactions: SAFE notes are simpler and shorter than convertible bond underwriting agreements with no predetermined maturity date. Unlike other investment methods, SAFE notes do not have much room for negotiation. As a general rule, only valuation caps are negotiated. 2. Valuation ceiling, no discounts: for these safe notes, there is a cap on the valuation of the company in the next round, but there is no land cap and no discounts are offered to investors. The higher the valuation ceiling, the better it is for the founders, as it will result in less dilution of the founder`s equity, but provided the founders are confident in the end of the next round above the valuation ceiling. However, there are also some negatives for investors. First, we do not know what an investor actually has when he buys a safe. There are no expiry or maturity dates, so it can take years for a capital conversion to occur or it can never happen.
Second, an investor only has shareholder rights when safe is converted into equity. A SAFE holder is therefore not allowed to participate in a board election or to participate in dividends. Third, in the event of liquidation of the company, FASCs fall short of outstanding claims and creditors` claims (which are usually the first for common share payments). 3. Discount, no valuation ceiling: In these SAFE notes, the investor negotiates that discount for the next round and leaves the valuation debate for the future, as is discussed during the price round.