AdministratorJuly 13, 2020 at 9:25 am
I get this question a lot: “Brian, what do you think of SAFEs? Are they all the same and based on the YC SAFE?”
AdministratorJuly 13, 2020 at 9:27 am
SAFEs are a contentious point among Reg CF funding portals and investors. Some funding portals (Wefunder, Republic) believe SAFEs are essential to attracting the highest-quality issuers from Silicon Valley who are used to those terms, while many other portals (StartEngine, Equifund, etc.) openly denounce SAFEs as being “not safe for investors” and thus avoid them entirely.
The SEC even proposed in its most recent rules to prohibit the use of “non-standard” terms such as SAFEs; however, many of the responses pointed out the potential downsides of this and the final stance of the SEC is still to be seen.
The Crowd SAFE (example here) from Republic is in my opinion one of the more favorable Reg CF versions of the SAFE for investors. The SAFEs on Wefunder have much more variable terms in my experience, and many have recently had a “Most Favored Investor” (similar to MFN clauses on angel term sheets) that avoid putting a valuation cap on the SAFE altogether. This isn’t necessarily bad, but it’s another variable and risk that investors need to be aware of.
History of the SAFE
YC originated the pre-money SAFE in 2013, but in the past year they have updated their boilerplate SAFE to be a “post-money” SAFE (as well as added in some provisions to some of the terms that explicitly treat the SAFE as equity for purposes of taxes under IRC Section 1202, among other updates). The latest post-money YC SAFE templates are here; however, not that as of July 2020, I don’t believe any Reg CF funding portals have adopted the post-money SAFE terms yet.
Reasons Why Some Investors and Portals Avoid SAFEs
The biggest reason (I believe) for many platforms and investors avoiding SAFEs is because of the potential that a SAFE may never convert to equity, if the startup never has a qualifying future financing round per the terms. While the SAFE and Convertible Note are very similar in many regards, investors believe (rightfully so in some cases) that the maturity date of the Convertible Note at least provides a deadline for conversion of the SAFE to equity.
In addition, some SAFEs come with “repurchase rights” or a “redemption clause”, which essentially gives the company the right to buyback all investors at a small premium at any point in the future. That is obviously a misalignment of incentives between the investors and the company, and I’ve already had one company that exercised their repurchase rights to buy investors out at a much smaller amount than the shares were likely worth (despite having a “Fair Market Value” clause in there to protect such a thing; for example, if the FMV was obtained during the height of the COVID-19 fear, they may have been severely underpriced what they knew their true value to be).
My Personal Opinion on SAFEs
All that being said, I still invest in SAFEs. I tend to avoid anything with Repurchase Rights in 99% of cases.
If you look at some of the most successful Wefunder Reg D companies from 2013-2016, 4 of the top 5 were on SAFEs, and 2 of those were even on uncapped SAFEs; so investors who avoided that would have missed out on 4 companies that all generated 12X-34X gains and would make a difference in a startup portfolio.
As with anything in startup investing, I look at SAFE investments as another form of diversification.
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