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18 Jul

Keep it Simple and Safe – Explaining the new-found popularity of the SAFE

Tuesday, July 18, 2017George TorySecurities Law, Business Law, Corporate LawIPO, Preferred Shares, Investor Agreements

If it looks like a duck, swims like a duck, and quacks like a duck, then it probably is a duck.  

Not for a SAFE.

In the case of a SAFE, or a Simple Agreement for Future Equity, an investor essentially makes a cash investment in a company and a promise of future equity later. While a SAFE seems exactly like a convertible debenture or other form of debt instrument, it is not. Unlike various debt instruments, a SAFE has no maturity date and benefits both the companies looking to raise capital and investors alike. Companies can list a SAFE like any other convertible security on their balance sheets and, since a SAFE is a simple equity security, it has the potential to be standardized, lending itself to speed, efficiency, and cost-savings for both parties.

Here’s how a SAFE works:

Essentially, a company and an investor agree on a valuation cap and sign a SAFE that anticipates a certain event in the future (e.g., a future equity raise by the company, change of control transaction, IPO or dissolution – whichever occurs first) as opposed to a hard maturity date, and then the investor presumably advances the investment to the company at the time the SAFE is signed, sealed, delivered. Then, when the company decides to sell preferred shares in a priced round, the outstanding SAFE will (and must) convert into preferred shares. The SAFE preferred shares issued to the SAFE holder will be valued based on the valuation cap determined by both parties under the SAFE. So, you ask, what happens if the valuation of the company in connection with the new equity raise is higher than the valuation cap determined under the SAFE? This is music to the ears of the investor. In such a scenario, the SAFE preferred shares would still be issued at the lower, previously agreed upon SAFE valuation cap leaving the investor with more shares. Another piece of good news for the investor is that the SAFE preferred shares will have liquidation preference to the shares issued to the new investors. If the scenario were reversed, and the valuation of the company at the time of the equity raise were to be lower than the valuation cap under the SAFE, the SAFE holder will simply get the same preferred shares with the same liquidation preference as the new investors.

Given the flexibility, simplicity, and investor protections provided by a SAFE, it’s no wonder these agreements are increasingly being used by companies to raise funds. SAFEs are at the very least worth considering for any business looking to raise funds without necessarily having a fully priced round of equity financing or using cumbersome and often costly debt instruments.

George Tory

 

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