A simple agreement for future equity (SAFE) isn’t always so simple...
A simple agreement for future equity (SAFE) isn’t always so simple. Before startups and investors consider this increasingly popular security, it is important to understand how SAFEs work.
To start, a SAFE is an agreement between an investor and a business in which the business promises to give the investor a future equity stake in the company if certain triggering events take place, usually a contemplated subsequent round of financing or, less often, the sale of the company. A SAFE is usually offered in a very early round of equity funding by a startup business. They were first used in Silicon Valley as a way for venture capital investors to quickly pursue an investment opportunity in a hot startup while avoiding the lengthy and often complex negotiations required for an equity offering.
SAFEs Can Be A Great Tool for Startups
SAFEs are a relatively recently popularized investment tool. The new security is attractive to startups because it allows them (along with other untested businesses) to avoid the difficult issue of valuation when there are no revenues or a new market approach by an operating business with revenues. It resolves that valuation issue by allowing for the subsequent realistic measure of valuation by future investors in a subsequent round. SAFEs are also appealing because they reduce the risks of insolvency associated with common stock, and usually act with the rights similar to preferred stock. They are also less costly in terms of legal expenses and easier to negotiate.
Unique Risks of SAFEs
While a SAFE can be attractive to both investors and startups, it is important to recognize that the security comes with unique risks. It is very different from both traditional common stock and convertible notes.
With common stock, investors receive an ownership stake in the business, which also comes with certain rights under state and federal law. Meanwhile, convertible notes are debt obligations in which the investor agrees to loan money to the business. In return, the investor receives a promise of repayment, interest on the loan for a designated time period, and an ability to convert the outstanding amount into equity of the company at some triggering event. Unlike SAFEs, convertible notes typically represent a current legal obligation by the company to the investor with a specific maturity date for repayment of the outstanding amount of the note.
SAFEs, on the other hand, may never be triggered and may never convert to equity, leaving investors with nothing in return, except the same rights as attendant to preferred stock issuances, if any, until a liquidation event. Although many SAFEs are converted into equity upon an offering of preferred stock, startups may also raise capital via additional SAFEs, convertible notes or conventional bank loans; these fundraising tools might not trigger conversion.
Key Provisions of a SAFE
The provisions of a SAFE can vary significantly. Below are several key provisions that investors and startups should carefully consider:
Conversion: The terms governing conversion will determine whether the amount invested via the SAFE is converted into equity. Triggering events may include any equity offering, the business being acquired by or merged with another company, or the company conducting an initial public offering of securities.
Repurchase rights: Such provisions allow the company to repurchase an investor’s future right to equity instead of it being converted to equity.
Dissolution rights: The provisions govern what happens to an investor’s SAFE and the money invested if the company ends up dissolving.
Voting rights: While SAFEs don’t come with voting rights like common stock, the agreement may authorize investors to vote on certain matters related to their SAFE.
Given that there is no “standard” SAFE, it is essential that investors understand how the terms of a particular agreement will impact your legal rights. For startups, working with experienced legal counsel can help ensure that agreements are negotiated to address your unique business interests.
If you have questions, please contact us
If you have any questions or if you would like to discuss these issues further, please contact Dan Brecher or the Scarinci Hollenbeck attorney with whom you work, at 201-896-4100.
Does Your Homeowners Insurance Provide Adequate Coverage?
Your home is likely your greatest asset, which is why it is so important to adequately protect it. Homeowners insurance protects you from the financial costs of unforeseen losses, such as theft, fire, and natural disasters, by helping you rebuild and replace possessions that were lost While the definition of “adequate” coverage depends upon a […]
Understanding the Importance of a Non-Contingent Offer
Making a non-contingent offer can dramatically increase your chances of securing a real estate transaction, particularly in competitive markets like New York City. However, buyers should understand that waiving contingencies, including those related to financing, or appraisals, also comes with significant risks. Determining your best strategy requires careful analysis of the property, the market, and […]
Fred D. Zemel Appointed Chair of Strategic Planning at Scarinci & Hollenbeck, LLC
Business Transactional Attorney Zemel to Spearhead Strategic Initiatives for Continued Growth and Innovation Little Falls, NJ – February 21, 2025 – Scarinci & Hollenbeck, LLC is pleased to announce that Partner Fred D. Zemel has been named Chair of the firm’s Strategic Planning Committee. In this role, Mr. Zemel will lead the committee in identifying, […]
Novation Agreement Process: Step-by-Step Guide for Businesses
Big changes sometimes occur during the life cycle of a contract. Cancelling a contract outright can be bad for your reputation and your bottom line. Businesses need to know how to best address a change in circumstances, while also protecting their legal rights. One option is to transfer the “benefits and the burdens” of a […]
What Is a Trade Secret? Key Elements and Legal Protections Explained
What is a trade secret and why you you protect them? Technology has made trade secret theft even easier and more prevalent. In fact, businesses lose billions of dollars every year due to trade secret theft committed by employees, competitors, and even foreign governments. But what is a trade secret? And how do you protect […]
What Is Title Insurance? Safeguarding Against Title Defects
If you are considering the purchase of a property, you may wonder — what is title insurance, do I need it, and why do I need it? Even seasoned property owners may question if the added expense and extra paperwork is really necessary, especially considering that people and entities insured by title insurance make fewer […]
No Aspect of the advertisement has been approved by the Supreme Court. Results may vary depending on your particular facts and legal circumstances.
Sign up to get the latest from our attorneys!
Explore What Matters Most to You.
Consider subscribing to our Firm Insights mailing list by clicking the button below so you can keep up to date with the firm`s latest articles covering various legal topics.
Stay informed and inspired with the latest updates, insights, and events from Scarinci Hollenbeck. Our resource library provides valuable content across a range of categories to keep you connected and ahead of the curve.
A Simple Guide to SAFEs for Investors and Startups
Author: Dan Brecher
A simple agreement for future equity (SAFE) isn’t always so simple...
A simple agreement for future equity (SAFE) isn’t always so simple. Before startups and investors consider this increasingly popular security, it is important to understand how SAFEs work.
To start, a SAFE is an agreement between an investor and a business in which the business promises to give the investor a future equity stake in the company if certain triggering events take place, usually a contemplated subsequent round of financing or, less often, the sale of the company. A SAFE is usually offered in a very early round of equity funding by a startup business. They were first used in Silicon Valley as a way for venture capital investors to quickly pursue an investment opportunity in a hot startup while avoiding the lengthy and often complex negotiations required for an equity offering.
SAFEs Can Be A Great Tool for Startups
SAFEs are a relatively recently popularized investment tool. The new security is attractive to startups because it allows them (along with other untested businesses) to avoid the difficult issue of valuation when there are no revenues or a new market approach by an operating business with revenues. It resolves that valuation issue by allowing for the subsequent realistic measure of valuation by future investors in a subsequent round. SAFEs are also appealing because they reduce the risks of insolvency associated with common stock, and usually act with the rights similar to preferred stock. They are also less costly in terms of legal expenses and easier to negotiate.
Unique Risks of SAFEs
While a SAFE can be attractive to both investors and startups, it is important to recognize that the security comes with unique risks. It is very different from both traditional common stock and convertible notes.
With common stock, investors receive an ownership stake in the business, which also comes with certain rights under state and federal law. Meanwhile, convertible notes are debt obligations in which the investor agrees to loan money to the business. In return, the investor receives a promise of repayment, interest on the loan for a designated time period, and an ability to convert the outstanding amount into equity of the company at some triggering event. Unlike SAFEs, convertible notes typically represent a current legal obligation by the company to the investor with a specific maturity date for repayment of the outstanding amount of the note.
SAFEs, on the other hand, may never be triggered and may never convert to equity, leaving investors with nothing in return, except the same rights as attendant to preferred stock issuances, if any, until a liquidation event. Although many SAFEs are converted into equity upon an offering of preferred stock, startups may also raise capital via additional SAFEs, convertible notes or conventional bank loans; these fundraising tools might not trigger conversion.
Key Provisions of a SAFE
The provisions of a SAFE can vary significantly. Below are several key provisions that investors and startups should carefully consider:
Conversion: The terms governing conversion will determine whether the amount invested via the SAFE is converted into equity. Triggering events may include any equity offering, the business being acquired by or merged with another company, or the company conducting an initial public offering of securities.
Repurchase rights: Such provisions allow the company to repurchase an investor’s future right to equity instead of it being converted to equity.
Dissolution rights: The provisions govern what happens to an investor’s SAFE and the money invested if the company ends up dissolving.
Voting rights: While SAFEs don’t come with voting rights like common stock, the agreement may authorize investors to vote on certain matters related to their SAFE.
Given that there is no “standard” SAFE, it is essential that investors understand how the terms of a particular agreement will impact your legal rights. For startups, working with experienced legal counsel can help ensure that agreements are negotiated to address your unique business interests.
If you have questions, please contact us
If you have any questions or if you would like to discuss these issues further, please contact Dan Brecher or the Scarinci Hollenbeck attorney with whom you work, at 201-896-4100.
Let`s get in touch!
Sign up to get the latest from the Scarinci Hollenbeck, LLC attorneys!
