What are SAFEs?
A SAFE is an agreement between you, the investor, and the company in which the company generally promises to give you a future equity stake in the company if certain trigger events occur. Not all SAFEs are the same and the very important terms governing when you may get the future equity may vary across the SAFEs being offered in different crowdfunding offerings. Despite its name, a SAFE may not be "simple" or "safe."
What is important to keep in mind about SAFEs?
It is important to understand the terms of any SAFE in which you are investing through a crowdfunding offering. Here are some things to keep in mind:
- The most important thing to realize about SAFEs is that you are not getting an equity stake in return. SAFEs are not common stock. Common stock represents an ownership stake in a company and entitles you to certain rights under state corporate law and federal securities law. A SAFE, on the other hand, is an agreement to provide you a future equity stake based on the amount you invested if—and only if—a triggering event occurs. SAFEs do not represent a current equity stake in the company in which you are investing. Instead, the terms of the SAFE have to be met in order for you to receive your equity stake.
- SAFEs may only convert to equity if certain triggering events occur. Because SAFEs convert to actual equity in the future based on some future event, it is important to understand what exactly triggers the conversion of the SAFE. The terms of the SAFE may have it trigger in a number of different scenarios that may—or may not—occur in the future with respect to the company. For example, a SAFE may be triggered if the company is acquired by or merged with another company. Other triggers may be an initial public offering of securities by the company or another round of financing involving equity securities.
- Depending on its terms, a SAFE may not be triggered. Despite the identified triggers for conversion of the SAFE, there may be scenarios in which the triggers are not activated and the SAFE is not converted, leaving you with nothing. For example, if a company in which you invested makes enough money that it never again needs to raise capital, and it is not acquired by another company, then the conversion of the SAFE may never be triggered.
In another example, if a SAFE specifically triggers upon an offering of preferred stock, but the company subsequently raises money by instead selling more SAFEs, common stock or convertible notes, or by getting a conventional bank loan, then the SAFE will not convert despite the company having raised more capital.
Convertible notes are another type of security that has been offered in crowdfunding opportunities. Convertible notes are essentially debt obligations in which the investor agrees to loan money to the company. In exchange, the investor receives a promise of repayment, interest on the loan for a period of time and an ability to convert the outstanding amount into equity of the company at some triggering event. Different from SAFEs, convertible notes generally represent a current legal obligation by the company to you for the outstanding amount of the note.
- Keep in mind other possible provisions of the SAFE.
In addition to the trigger mechanism, there are also other
components of SAFEs that you should understand. Some things to
better understand include the following:
- Conversion terms. These are the specific terms by which the amount you invested in the SAFE gets converted into equity. Is it just your original investment or does the SAFE provide for an amount that offers value over time similar to interest on a loan? How does the valuation of the company at the future financing play into how many shares you will get upon conversion of your SAFE?
- Repurchase rights. Is there a provision in the SAFE that allows the company to repurchase your future right to equity instead of it being converted to equity? Do you have any say into whether your right is repurchased and at what price?
- Dissolution rights. What happens to your SAFE and the money you invested if the company ends up dissolving?
- Voting rights. SAFEs do not represent current equity stakes in the company so do not have voting rights similar to common stock. But are there particular circumstances mentioned in the SAFE that allow you a voice on matters pertaining to your SAFE?
- SAFEs were designed for a specific type of startup. SAFEs were developed in Silicon Valley as a way for venture capital investors to quickly invest in a hot startup without burdening the startup with the more labored negotiations an equity offering may entail. Oftentimes, for the venture capital investor, it was more important to get the investment opportunity, and possible future opportunities, with the startup than it was to protect the relatively small investment represented by the SAFE. In addition, the various mechanisms of the SAFE, from the triggering events to the conversion terms, were designed to best operate in the context of a fast growing startup likely to need and attract additional capital from sophisticated venture capital investors. This may or may not be the case with the crowdfunding investment opportunity you are exploring.
- There is nothing standard or simple about a SAFE. Various terms from the triggering events to the conversion price are subject to different treatment by different companies offering SAFEs. It is important to read and understand the company’s disclosure regarding the SAFE it is offering as well as the terms set forth in the actual agreement.
Where can I go for help?
If you have a question, concern or complaint about an investment, or you think you have encountered fraud, please contact the SEC, FINRA or your state securities regulator to get assistance.U.S. Securities and Exchange Commission
Office of Investor Education and Advocacy
100 F Street, NE
Washington, D.C. 20549-0213
Telphone: (800) 732-0330 Financial Industry Regulatory Authority (FINRA)
FINRA Complaints and Tips
9509 Key West Avenue
Rockville, Maryland 20850
Telephone: (301) 590-6500
Fax: (866) 397-3290 North American Securities Administrators Association
750 First Street, NE
Washington, D.C. 20002
Telphone: (202) 737-0900
Fax: (202) 783-3571