If your startup is in its early stages, raising funds can be a complicated and exhausting process. Some people choose to ask friends and family to invest. Others would rather speak to angel investors.
Either way, instead of offering convertible notes, which are essentially an instrument of debt, you can suggest a Simple Agreement for Future Equity or SAFE.
At its core, this is a straightforward document that only promises the investment will turn into equity under specific circumstances.
SAFE was created in 2013 by the Y Combinator startup to find an alternative way for companies to get funded. A SAFE agreement is merely a contractual right to own equity in the company at some point in the future.
By signing a SAFE agreement as an investor, you do not own equity yet. Furthermore, given the structure of the SAFE, there is no promise of equity for the investor.
These agreements don't have a maturity date, meaning the company receiving the investment isn't obligated to repay the investors.
Even though the investors don't hold entitlements to shareholder rights, in case of liquidation, they still receive pay. However, the creditors of the company get paid first. The SEC considers SAFE notes as securities.
Depending on your state, a Simple Agreement for Future Equity (SAFE) may also be known as:
Startups who want to get their business going with minimum hassle typically use SAFE Agreements. These documents are relatively easy to implement and don't accrue any loans or interests.
Essentially, some companies prefer using SAFE notes as a flexible way to raise funds and not have to deal with debt, overwhelming paperwork, and legal cost. It also gives the owners of the company more control than with other forms of investments.
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Your Simple Agreement for Future Equity can reflect your ideas and needs precisely. This document should reflect an agreement between the owners and investors in detail. The content of the SAFE is entirely up to you, as long as a few crucial details are covered.
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Whether you're an investor or company owner, reading and reviewing the SAFE agreement is vital. Both parties should be satisfied with the terms of the contract.
Upon review, both parties will sign the agreement in the presence of a witness. Notarization is not a requirement but can be an option that can assure a stronger validity of the contract.
When everyone singes the Simple Agreement for Future Equity, the investor releases the funds to the company.
After that, the company uses the funds in the manner stipulated by the agreement. The investor doesn't get involved in the company's decision-making processes, nor do they actually own any equity yet.
Both SAFEs and Convertible Notes are similar in that they're relatively simple and flexible financial tools.
Investors and startup companies use convertible notes as short-term debt that will convert to equity.
Unlike SAFEs, Convertible Notes contain maturity dates and interest rates. Furthermore, Convertible Notes identify the minimum amount of funds that must be raised by the startup, whereas SAFE doesn't.
There are many convincing benefits of using SAFE notes. They're straightforward, and there the negotiation process is typically shorter.
Simple Agreement for Future Equity allows startups to find their place in the market without going into debt. It also relieves them from time-consuming paperwork, which can involve asking for maturity date extensions and similar.
It's no secret that SAFE notes are often risky for investors. There are no guarantees that their investment will pay off.
That's why these types of agreements are more appealing to seasoned investors who better assess a company's prospects and who can afford to make risky investments.
Furthermore, a SAFE note requires companies to be incorporated, which is often a problem as many startups are LLCs.
While it's true that many startups don't succeed, there are plenty of those that worked out really well. A great feature of SAFE notes is that they don't have minimum requirements.
If there is a company you want to invest in and they offer future equity in exchange for investment, you can create a customized agreement. If all works out well, you'll have the chance to purchase shares in the company at a lower price than others.
A triggering event in the context of Simple Agreement for Future Equity is a specific situation that prompts a chain of actions regarding the terms of the agreement.
Usually, that means that an additional round of company financing has occurred or that they sold the company. It could also happen that an exit event has taken place.
Upon the triggering event, the investor will have the chance to purchase shares or receive payment after the sale of the company. However, it's crucial to point out that a triggering event can be as specific as the terms of the agreements state.
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