Which SAFE Is Right for You? It Depends

Data from Carta on pre-seed financings in Q1 2023 shows that the Post-Money SAFE (Simple Agreement for Future Equity), which was introduced by Y-Combinator in 2018, is now used about three times as often as the Pre-Money SAFE, introduced by YC in 2013, for raising pre-seed financing.* The data also shows that valuation caps were included in more than 90% of the SAFE transactions. While it is helpful to know where the market is at, if you are a founder who plans to raise capital using a SAFE what you really want to understand is how the type of SAFE and the terms will actually impact your ownership interest in the company once the SAFEs convert into equity.

SAFEs are, as the name implies, an agreement between a company and an investor by which the investor agrees to give the company money today and the company agrees to give the investor stock in the future when the company raises a "priced" round (i.e. the company sells stock to investors at a fixed price per share). Because the SAFE investors are taking on additional risk by investing early, the SAFEs usually, but not always, convert at some discount to the price being paid by the investors in the priced round.

SAFEs without a discount or a cap convert into equity at the price of the shares being sold in the priced round, so these SAFEs have no greater impact on founder dilution than new money invested in the priced round. SAFEs with a discount but no cap convert at (you guessed it) a discount (typically 20%) to the price of the shares being sold in the priced round so they have the effect of increasing founder dilution relative to money invested in the priced round. It is important to note that in both cases, all other things being equal, it doesn't matter whether the SAFE is "pre-money" or "post-money" because the conversion price is determined solely by the price of the shares purchased in the new financing (with or without a discount, as applicable). It is also important to note that a SAFE with a discount and a cap works the same as a SAFE with a discount but no cap if the valuation (pre or post-money, as applicable) of the company does not exceed the cap.

The impact on founder dilution can be much more substantial if SAFEs with a cap convert in a financing where the valuation (pre or post-money, as applicable) of the company is greater than the cap. In both cases the amount of dilution caused by conversion of the SAFEs, relative to the dilution caused by new money invested in the priced round, increases as the valuation increases because the conversion price of the SAFEs is entirely independent of the price of the shares purchased in the new financing. The difference between a Pre-Money SAFE with a cap and a Post-Money SAFE with a cap is that the the conversion price of a Post-Money SAFE is also entirely independent of the value of the SAFEs converting. What this means for a founder negotiating the terms of a SAFE financing is that the valuation cap should be higher if you are using a Post-Money SAFE then if you are using a Pre-Money SAFE. How much higher? Ideally the difference would be equal to the amount you expect to raise prior to the priced round plus the amount you expect to raise in the priced round. So if you expect to raise $750,000 in a SAFE financing followed by $3 million in a Series Seed financing, you should set the cap of a Post-Money SAFE $3.75 million higher than the cap of a Pre-Money SAFE sold at the same time. 

For interesting data on recent trends for SAFE valuation caps, check out: https://www.linkedin.com/posts/peterjameswalker_cartadata-safes-preseed-activity-7042212787707645953-ovmN?utm_source=share&utm_medium=member_desktop.

* Carta did not provide data on the use of convertible notes, which are still a popular means of raising pre-seed financing (especially on the East Coast) but have been steadily losing ground to SAFEs over the past decade.